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Amy Zhang, manager of the Alger Mid Cap Focus fund.

Photograph by Clark Hodgin

Mid-cap companies are generally defined as having a market capitalization of $2 billion to $10 billion, but Amy Zhang prefers to measure based on revenue instead.

As a $475 million portfolio manager


Focus on Algiers mid caps

fund (ticker: AFOZX), Zhang is looking for smaller mid-cap companies, those with revenues between $500 million and $1 billion, that generate strong free cash flow and operate in a sufficiently large area. to enable them to gain market share. This allows shareholders to benefit from capitalization as the business grows. “To use a baseball analogy, these companies are in the third or fourth innings,” she says.

A no-fee fund, Mid Cap Focus’ three-year annualized return of 14.9% puts it in the top 10% of its peers, easily beating the mid-cap growth category and the Russell Midcap Growth Index, net of rate annual rate of 0.68%. costs. It is sold largely through financial advisors and has a minimum investment of $500,000. Mid Cap Focus A (ALOAX) shares, which are the same investment, are now available for a minimum of $1,000 and 0.96% fees at brokerages such as Charles Schwab and Fidelity. There is a 5.25% upfront fee.

The fund has lagged the index over the past year as value stocks have held up better in a bear market than growth stocks. But Zhang is sticking to her guns, buying battered tech stocks she sees as bargains.

His differentiated investment approach stems from 20 years of managing small- and mid-cap growth strategies, including 13 years co-managing Gold Medalist Morningstar


Brown Capital Management Small Business

funds (BCSIX). She joined Algiers in 2015 to launch


Focus on Algiers small caps

(AGOZX) and in 2019 launched the Morningstar silver medal-winning four-star Mid Cap Focus fund.

Zhang seeks companies with business models that produce sustainable revenue growth with profit visibility, such as subscription models or companies that supply critical components. It wants companies that can take a stake and maintain an edge through time-saving or problem-solving products.

“These businesses are valuable and differentiated; they can have pricing power, which is a perfect fit for this market,” she says.

Focus on Algiers mid caps YTD 1 year 3 years
AFOZX -27.6% -16.6% 14.9%
Mid Cap Growth Class -20.9 -21.3 9.5
top 10 holdings
Company / Symbol Weighting
Natera / NTRA 4.2%
Constellation Energy / CEG 3.9
Island / PODD 3.4
Avantor / AVTR 3.2
Everbridge / EVBG 3.1
Palo Alto/PANW Networks 2.8
Bentley/BSY systems 2.8
Diamondback Energy / FANG 2.8
UCK / KLAC 2.8
Alteryx / AYX 2.7
Total: 31.7%

Note: Holdings as of August 31. Returns through September 12; three-year returns are annualized.

Sources: Morningstar; Alger

Strong managers are essential, and Zhang is looking for a “kind of yin and yang,” meaning companies that have a visionary CEO and a profitability-focused CFO, to balance growth and profitability. She avoids businesses that aren’t targeted or don’t have an effective sales strategy.

Mid Cap Focus is a highly concentrated portfolio of around 50 names, and Zhang prefers to hold companies for three to five years, using intrinsic value as a reason to buy or sell. The three years since she launched Mid-Cap Focus have been volatile, resulting in significantly more revenue than she would have liked, up 250% last year.

After Mid Cap Focus grossed nearly 85% in 2020, it sold several high-flying names, including user authentication company

Okta

(OKTA) and video conferencing company

Focus on video communications

(ZM), noting that “they really overshot their valuations.” Rising inflation and the Federal Reserve’s interest rate hike campaign prompted further selling.

The current value-favoring market cycle is hitting year-to-date and year-to-date Mid Cap Focus returns down 28% and 33%, respectively. The fund is in the bottom 10% of its peers and lags the index.

Another reason for the fund’s weak performance is a slight overweight in technology relative to its peers and the index this year. Zhang describes it as an opportunistic move as she seeks to “find the gems in the rubble” of this year’s tech sellout. She says several tech companies remain high-quality businesses as their multiples have contracted.

One of the companies Zhang bought during the tech rout earlier this year was

CrowdStrike Holdings

(CRWD), restoring a position in the cybersecurity business after taking profits at the end of 2021. The sale of technologies in the first quarter made the company attractive again from a long-term perspective, she said.

She sees CrowdStrike as an emerging market leader in enterprise endpoint security, an end-user device security system. CrowdStrike is taking market share from companies such as Qualcomm (QCOM) and McAfee (MCFE), she says. The cloud-based system is different from competitors’ offerings because once customers purchase the system, they often add additional services, creating sustainable revenue streams. “It’s both strong unit growth and part portfolio expansion,” she says.

Another recent technological addition is the payroll service provider

Paylocity Holding

(PCTY). He competes with people like

Automatic data processing

(ADP) and

Payment

(PAYX) and currently has about 33,000 customers, compared to a million combined for ADP and Paychex, she notes. It is also developing in the management of human capital. Zhang hopes Paylocity can be a long-term preparer, noting that it has increased its business during the pandemic.

A number of companies held by Mid Cap Focus have pricing power, which should ease inflationary pressure. An example is

Heico

(HEI), a company composed of two business units: a supplier of spare parts for aircraft and one for electronics for niche applications in aerospace and defense. As a Federal Aviation Administration approved third-party parts supplier, Heico makes parts 20-40% less expensive than original equipment manufacturers and is the largest in its class. FAA-approved aftermarket suppliers make up only 3-4% of the commercial aerospace aftermarket, which offers a long avenue for growth, she says.

After the volatility of the past few years, Zhang feels the portfolio is well built. The companies it owns have strong balance sheets and do not need to tap into the financial markets for financing, which protects them from higher rates.

“I feel great for the next three-plus years. I think most of the bad news about rates is priced in,” she says. “Even small businesses can grow in a rate environment in up, when you have strong balance sheets where you can be self-funding and you have really idiosyncratic drivers.”

E-mail: [email protected]