Todd Solomon, CFA
Senior Vice President, Portfolio Manager
Congress Asset Management Company, LLP
CONGRESS' PORTFOLIO OF 40 MID-CAP NAMES BALANCES PROPER DIVERSIFICATION AND DEEP INSIGHT INTO EACH HOLDING
June 30, 2024
Congress Asset Management is the Fund's mid-cap growth manager. Congress employs a strategy focused on established, high-quality companies that are growing earnings and generating attractive levels of free cash flow. The firm also strives to construct portfolios with relatively low levels of volatility. We recently had the chance to talk with Todd Solomon, CFA, Senior Vice President and Portfolio Manager at Congress. The Fund's Investment Advisor, ALPS Advisors, Inc., conducted the interview.
How is Congress' actively managed mid-cap portfolio different than the relevant passive index, in this case the Russell Midcap Growth® Index? Is this primarily a product of Congress' strategy and the research behind it? Or other factors?
Our portfolio is more focused with approximately 40 stocks versus over 300 for the Russell Midcap Growth® Index. Also, our portfolio is closer to equal-weighted than the benchmark's allocation, which is capitalization weighted and thus tilted toward companies at the larger end of the mid-cap range.
We believe that a portfolio of 40 names can give us proper diversification while maintaining a strong knowledge base of our current investments and their main competitors. Since the inception of the portfolio, our process and philosophy have maintained that having the best ideas in the portfolio in similar position sizes is more important than focusing on relative conviction to determine allocation.
"We believe that a portfolio of 40 names can give us proper diversification while maintaining a strong knowledge base of our current investments and their main competitors."
What are the factors-quantitative and qualitative-that you consider first and foremost when you are researching candidates for inclusion in the mid-cap portfolio?
A "good company" doesn't always equate to a "good stock." We employ a four-part process outlined as follows: First, we seek to identify a successful company with the following attributes: increasing margins and free cash flow; positive, consistent growth; increasing market share; strong balance sheet; and shareholder consciousness. Second, we want to determine if this success is likely to continue. In this regard, the primary characteristics we assess are whether the company operates in a growing industry; the uniqueness of its business model; how defensible its market position is; and whether its business is sustainable through market cycles. Next, we want to understand the "bear" case for the company to assess if there is anything we may have overlooked including a different viewpoint of the business risks and valuation. Finally, we want to understand how adding this name will affect the current portfolio if it's purchased. For instance, will we be maintaining the current portfolio diversification? Does the company depend on similar drivers of growth as current holdings, or different? Two additional primary considerations are how correlated/uncorrelated the stock under consideration is with the rest of the portfolio and whether it changes the portfolio's overall risk profile.
Large-cap growth, driven by AI/information technology, has been posting exceptional returns and capturing the lion's share of media attention. Is AI the realm of large- and mega-cap companies or have you identified mid-cap growth companies that are already participating in AI directly or those that are positioned to benefit downstream? What are some examples?
We have been able to identify several mid-cap companies that have exposure to AI trends, but do not solely rely on the theme. Investments in, and acceptance of, AI may be too volatile to successfully invest in a "pure play" in the mid-cap space, where profitability and consistency of results may be elusive.
"We have been able to identify several mid-cap companies that have exposure to AI trends, but do not solely rely on the theme."
Turning to examples, nVent Electric (NVT), first purchased in August 2023, is a manufacturer of cable management products, racks and cabinets, and liquid cooling equipment. The company expects approximately 14 percent of 2024 sales to come from its Data Solutions segment, which is growing strong double digits. In its most recent earnings release, the company said they "continue to see great demand for Data Solutions, growing with the acceleration of AI and high-performance computing." nVent is also well positioned in other "electrification, sustainability and digitization trends," which may allow the company to offset any possible receding of AI spending.
A more recent investment, Fabrinet (FN), purchased in December 2023, provides advanced precision optical, electronic and mechanical manufacturing services. It produces equipment for telecom and datacom optical communications, which are the "pipelines" for data movement. The company reported continued strong demand for high-data-rate products in its most recent earnings release. However, the company has exposure to the automotive industry, industrial lasers, and medical and other components and subsystems. Such diversification should improve the consistency of reported results in the future.
Thank you, Todd. The market has shown some broadening recently. We will hope that investors continue to recognize the value of mid-cap stocks in a diversified growth portfolio.