- To potentially generate above-average returns, investors may need to look for “Top Growers,” which were concentrated in smaller-cap companies and in the most innovative sectors over the last three years.
As a dynamic growth investor, we believe finding companies that can deliver and sustain earnings growth is a vital part of the investment solution to generate above-average returns to meet our clients’ long-term capital appreciation goals.
As a thought experiment, we recently examined US-listed companies within the broad-market Russell 3000 Index that have demonstrated sustained exceptional growth over the last three years, a cohort we called “Top Growers.” It’s a short time period, we acknowledge, yet we observed a few traits of Top Growers that readers may consider as they think about where to engage active managers:
- Top Growers delivered above-market returns over the last three years
- They were scarce, a small subset of the US equity universe
- They were predominantly small-cap companies
- Top Growers were concentrated in the most innovative sectors
Top Growers, companies we defined as those with 20% or higher sales growth rates in each of the last three consecutive years, generated above-market returns. Over the last three years, the median Top Growers returned 19% annually. That’s nearly 2.5x higher than the 8% median company return in the Russell 3000 Index—and with less than a 25% increase in price volatility (See Exhibit 1 of the PDF).
Yet Top Growers were scarce. Less than 5% or 132 of 3,000 stocks in the Russell 3000 Index grew at a 20% or greater clip in each of the last three years.
Most Top Growers Were Small- to Mid-Cap Companies
As specialist in small- to-mid-cap companies, we were not surprised to find that most Top Growers were generally smaller in capitalization, earlier in their corporate lifecycle. Top Growers’ median market cap was $1.8 billion and 77% had a market capitalization less than $5 billion (See Exhibit 2 of the PDF).
Concentrated in Innovative Sectors
Also, not a surprise to us, Top Growers were concentrated in the most innovative sectors (See Exhibit 3 of the PDF). Over 50% were healthcare and technology companies, key market segments undergoing transformative advances propelling long and sustainable secular growth cycles.
Unearthing and investing in Top Growers, companies that have shown the potential to deliver above-market rates of return with only modestly higher volatility, may require expertise in smaller-cap companies and research specialists in the most innovative sectors, such as technology and healthcare.