If you want to find bargains among this year’s stock market gyrations, consider medium-size companies. That’s because analysts say the valuations of many large companies, such as Amazon and Netflix, have become bloated and their stock prices are more vulnerable to sharp pullbacks. And investors have been wary about investing in small companies, which are prone to extreme volatility amid economic uncertainty.
Although the S&P MidCap 400 Index, whose stocks have market values ranging from about $2 billion to $8 billion, rallied strongly following the pandemic-induced market plunge in March, midcap stocks still are considered relatively cheap. The index’s price-to-earnings ratio (P/E), a common measure of how fairly priced stocks are, was 21 as of early October, compared with 23 for the S&P 500 Index of large-cap stocks.
Many midcaps are benefiting now because they are less dependent than large-caps on revenue from foreign economies, some of which are in worse shape than the US.
Bottom Line Personal spoke with two midcap specialists for recommendations on midcap investments—stock-picking fund manager Matthew Kamm, CFA, of the Artisan Mid Cap Fund and mutual fund tracker David Snowball, PhD. They say the greatest opportunities in midcaps are among those with strong growth potential even if the US recovery remains slow and uncertain and the economic effects of the pandemic linger.
Their favorites for the rest of 2020 and beyond…
My team at the Artisan Mid Cap Fund looks for companies with strong balance sheets and reasonable share prices, especially those that benefit from catalysts that will improve profitability. The businesses typically have the capacity to generate strong cash flow to fund future growth…solid competitive advantages…and experienced, savvy management teams. Four stocks the fund owns that meet these criteria…
Ascendis Pharma (ASND) is a Danish biotech company focused on treating rare diseases with established therapies that are enhanced by the company’s drug-delivery technology platform called TransCon. The company’s approach is meant to extend the duration of a drug in the body and improve the benefits while minimizing risk and expense. In mid-2021, it is expected to launch a drug called TransCon hGH, a once-a-week injection to treat pediatric growth hormone deficiency and an attractive alternative to existing treatments, which require children to take daily injections. It is under review for approval by the FDA. Longer term, we believe the company’s drug to treat hyperparathyroidism, a disorder of the parathyroid glands, and potential application of TransCon to other diseases including cancer and diabetes provide a meaningful runway for growth. Recent share price: $160.73.*
Chegg (CHGG) offers an array of services that improve the learning experience and reduce the cost of educating college and high school students. These services range from one-on-one online tutoring to electronic textbook rentals. The pandemic has accelerated the signup of new customers. Profits rose 63% year-over-year in the second quarter of 2020. Longer term, Chegg is well-positioned to become the go-to digital platform for students as it adds new services and expands its customer base in the US and internationally. Recent share price: $81.38.
Ollie’s Bargain Outlet (OLLI) offers constantly changing, deeply discounted merchandise at 370 stores across the US, with products ranging from cleaning supplies to packaged foods to patio furniture. It’s one of the few retail franchises that can survive the pandemic and thrive on the other side. The company was able to keep stores open throughout the lockdown this year, and its second-quarter results were the best since the company was founded in 1982, with a 43% increase in sales and a 67% rise in profits year-over-year. The company’s unique concept creates the potential for many years of expanding stores nationally. Recent share price: $94.78.
Zynga (ZNGA) is a leading developer and operator of social games, primarily on mobile devices as well as social-networking websites, with 70 million active users a month. The games, including CSR Racing, Merge Dragons!, Words With Friends and Zynga Poker, typically are free to play, but the company makes money from advertising and selling in-game purchases to enhance the game experience. The pandemic has created a spike in users seeking stay-at-home entertainment. In the second quarter, Zynga posted revenue of $452 million, up 47% versus the same period last year. We believe the company can keep growing by acquiring smaller online-gaming competitors and by rolling out new gaming content from its solid pipeline of new games under development. Recent share price: $9.31.
Matthew Kamm, CFA, is lead portfolio manager of the Artisan Mid Cap Fund (ARTMX), which had a 10-year annualized return of 16.2% through October 9 vs. 11.6% for the S&P 500. ArtisanPartners.com
If you don’t want to pick individual stocks, there are veteran fund managers who specialize in finding midcap stocks that are able to grow their earnings even in sluggish and difficult economic times. In addition to the Artisan Mid Cap Fund, here are my favorite midcap funds now…
For aggressive investors…
Baron Asset (BARAX). The fund invests in about 60 fast-growing companies with leading market shares, mostly in the technology and health-care sectors. Manager Andrew Peck is willing to endure heavy volatility if he thinks a stock can double in value within five years. Top holdings: Pet health-care firm IDEXX Laboratories…data-analytics company Verisk Analytics. 10-year annualized performance: 15.5%, which ranks in the top 18% of its category.
BlackRock Mid-Cap Growth Equity (BMRRX). This tech-heavy fund makes bold bets on 50 to 60 stocks. It invests in companies that it calls “category killers,” businesses with high profit margins that are gobbling up market share in their industries. The fund tempers risk by trying to allocate no more than 3% of the portfolio to any one stock. Top holdings: Commercial real-estate data provider CoStar Group…Cadence Design Systems, which makes semiconductor design software. 10-year annualized performance: 17%, which ranks in the top 10% of its category.
For moderate investors who want less volatility…
Parnassus Mid Cap (PARMX). Over more than 15 years, the fund has focused on socially responsible companies, avoiding those that make alcohol, tobacco or weapons…and focusing on those that treat their employees and the environment well. Its compact portfolio of about 40 stocks emphasizes industrial firms with solid balance sheets, limited debt and reliable cash flow, making it less volatile than most of its peers. Top holdings: Waste-management firm Republic Services…delivery giant FedEx. 10-year annualized performance: 12.3%, which ranks in the top 9% of its category.
David Snowball, PhD, is publisher of MutualFundObserver.com, an independent mutual fund analysis website that tracks 36,000 investment products. He also is professor of communication studies at Augustana College, Rock Island, Illinois.
*All performance figures are through October 9, unless otherwise noted.