Watch This Fund Grow

06/28/2011 10:30 am EST

Focus: FUNDS

This fund's unique approach will still serve investors well over the long haul, writes Janet Yang of Morningstar FundInvestor.

With his team of co-managers and analysts, lead manager Dennis Lynch and company ply a straightforward approach with a twist for Morgan Stanley Focus Growth (AMOAX).

Like many of their peers, they look for companies with strong and sustainable competitive advantages, earning high returns on invested capital. But Lynch further distinguishes the research process.

For example, one way he generates insight is by dedicating an analyst to deep-dive research on big ideas and themes, rather than stock recommendations. This analyst's concerns over the changing landscape for credit-card companies recently led Lynch to sell all of the fund's holdings in Visa (V) and American Express (AXP).

These firms' strong franchises and highly profitable operations seemingly fit Lynch's stock criteria. (Indeed, as late as June 2010, the two companies together accounted for 7% of the fund.) However, the analyst believed regulatory scrutiny and alternative payment mechanisms, such as cell phones, were disruptive enough for Lynch to completely cut the fund's ties with the industry.

The portfolio is also distinctive in other ways. It's the high-conviction version of sibling fund Morgan Stanley Institutional Capital Growth (MSEQX), so its approximately 30 holdings are a smaller subset of Capital Growth's. This results in a more-concentrated portfolio—almost 60% of this fund's assets are in the Top Ten holdings.

In addition, Lynch's low-turnover, bottom-up process pays little heed to any benchmark's sector weightings.

Lynch's process has resulted in strong results. Since taking over in 2004, the fund's annualized 7.2% return has outpaced the Russell 1000 Growth Index by 265 basis points, and the category average by 340 basis points.

Those strong results have come at a cost—specifically, high Morningstar Risk ratings. But long-term investors prepared for bumps along the way are in good hands here. 

The management team looks for companies with defensible business models and high returns on capital that generate significant cash flow. It prefers firms that are growing internally rather than by acquisition.

Lynch and company are also willing to go wherever their best stock ideas take them, so the fund will often look and act differently from its benchmark, the Russell 1000 Growth Index. 

Dennis Lynch, who overseas Morgan Stanley's entire US growth lineup, leads the growth team that runs this fund. Sam Chainani, David Cohen, Alex Norton, Jason Yeung, and Armistead Nash also serve as co-portfolio managers. The team has managed this fund since mid-2004.

Lynch has a notable record at Morgan Stanley Institutional Small Company Growth (MSSGX), and he's done well managing small caps and mid-caps. However, his responsibilities ballooned significantly when he took over this fund and several other Morgan Stanley growth offerings.

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