Buffalo Discovery: More Than Tech

05/16/2016 9:00 am EST

Focus: FUNDS

When it launched in 2001, this fund – a holding in our model portfolio -- was called Buffalo Science & Technology. But four years ago, its name was changed to reflect a strategy that goes far beyond what the old label implied, explains Tim Begany in Personal Finance.

Whenever we check on Buffalo Discovery (BUFTX), its performance is pretty much the same: superb.

And this time is no different. BUFTX outpaced virtually all its peers over the trailing three, five and ten years, when compound annual returns averaged 13.9%, 12% and 9.2%, respectively.

The three co-managers have traditionally gone heavy on technology and currently put 27.4% of assets in the sector, versus the category average of 19.6%.

However, they also make large bets on healthcare (20.2%) and industrials (20.1%).
There’s a 15.1% allocation to consumer cyclicals. BUFTX invests substantially in raw materials producers, too.

In all cases, the goal is to spot innovative companies that create better, more-efficient products, services or technologies and capitalize on overarching trends like the rise of mobile devices or the growing need for healthcare in aging populations.

We’re partial to that strategy, as innovators often make the most rewarding long-term investments.

But they can be chancy, so to limit risk, BUFTX thoroughly screens potential investments for an array of favorable attributes such as the potential for revenue to grow faster than the overall economy, strong cash flow and judicious use of debt.

At least two of the three co-managers must agree for a stock to be bought or sold. On average, less than half of fund holdings are replaced each year.

With 79 holdings, BUFTX is diversified but not overly so. Keeping the portfolio relatively small amplifies the impact of winners, which the co-managers have a long history of identifying.

The companies they favor tend to plow available cash back into their businesses, not dividends. But that’s exactly what you want in a growth fund, so the fact that BUFTX currently has no yield isn’t an issue.

Although the fund specializes in mid-cap stocks, small and large caps aren’t off limits. They currently make up 18% and 29% of assets, respectively, versus 53% for mid caps.

BUFTX is about as volatile as the typical mid-cap growth fund, with noticeably greater price fluctuation than the S&P 500 (14% more over the past three years).

Shareholders get the fund’s outperformance for a reasonable expense ratio of 1.01%, compared with the 1.28% mid-cap growth category average.

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By Tim Begany in Personal Finance

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