To paraphrase a market clichÃ©, as technology goes, so go small-cap growth stocks. That was especially true in 1999, as small-cap growth funds benefited from investors’ love affairs with technology shares and last year’s hot initial public offering market, dominated by Internet and related technology companies. Small-growth fund managers definitely took advantage of these trends, leading to one of their best performances in years.
“Small growth was the top performing domestic equity category” in 1999, says Valerie Putchaven, an analyst at Chicago-based mutual fund research firm Morningstar. “The top 10 funds all had returns of over 100%. That’s very unusual.” According to Morningstar, the small-cap growth fund sector had an average return of 56.21%. That represents a comeback from 1997 and 1998, two challenging years for small-cap growth stocks, say analysts and fund managers.
The top performing small-cap growth funds had healthy positions in technology. Another key similarity: the top five portfolios were managed by smaller, more nimble fund complexes specializing in small- and mid-cap companies.
Take the $5 billion RS Emerging Growth fund (Nasdaq: RSEGX), run by portfolio manager Jim Callinan. Sponsored by RS Investment Management in San Francisco, the fund has a high exposure to tech names-about 54% at the end of 1999. It also holds more than 150 stocks in the portfolio, spreading its risk across a variety of tech sectors.
“Last year we had just come off of one of the worst bear markets for small-cap growth stocks,” says Callinan, who is also chief investment officer of RS Investment Management. “I was very aggressively postured” in select areas of the Internet and other technology sectors.
RS Emerging Growth enjoyed a total return of 182.51% for the year, according to Morningstar, handily beating the average return of small-cap growth stocks. Stocks that helped the fund achieve its performance: Bea Systems (Nasdaq: BEAS), Knight/Trimark Group (Nasdaq: NITE) and Network Solutions (Nasdaq: NSOL), its current top three holdings as of December 31, 1999.
Meanwhile, a long- term buy-and-hold strategy worked for Lee Kopp, president of Kopp Investment Advisors in Minneapolis and portfolio manager of the $1 billion Kopp Emerging Growth fund (Nasdaq: KOPPX).
“We look for strong management teams and companies in the right areas and we hold them for quite some time,” from five to 10 years, Kopp says.
The fund has an even bigger weighting in tech stocks than some of its peers, with more than 80% in the sector. The remainder is mostly in healthcare companies. Some of the high fliers in the portfolio include: Digital Microwave (Nasdaq: DMIC), Macrovision (Nasdaq: MVSN), and SDL (Nasdaq: SDLI). Kopp Emerging Growth returned 148.20% last year.
But with the success of small-cap growth funds comes risk. Portfolios can become too unwieldy to manage, as new investors pour cash into the latest hot performers. To guard against that, several, like Kopp Emerging Growth, have closed to new investors.
Kopp says he had already committed to closing the fund once it reached $1 billion in assets-it officially closed February 7. Another concern: the possibility of “in-and-out” investors buying then selling