January 18, 2020
This Approach Will Help You Find Stocks Ready To Explode

This Approach Will Help You Find Stocks Ready To Explode


okay hello everybody welcome to
investing with IBD for July 10th 2019 I’m your host Irusha Peiris and with me
today is Tom O’Halloran partner and portfolio manager of Lord Abbott
thanks for being here Tom thanks very much for having me on today’s podcast we
are going to talk about the markets the revolution of the brain and current
stocks but first what I want to do is get into a little bit of your background
Tom and how you got into investing and really the first question is you know
who are some of your mentors that helped you get into investing okay well I
didn’t get into the investment business until I was 33 years old I had a prior
career as a trial lawyer I was a criminal prosecutor for the state of
Rhode Island I left law at age 30 to go to Wall Street I did not think I would
be an investor I didn’t know anything about investing I didn’t my I’d never
owned a stock and I went to Columbia Business School and as luck would have
it my first job was in the venture capital group of a great firm by the
name of Dylan Reed and I worked there in that department for five years and I
just got hooked on growth investing most investors that I had met in business
school were value investors but I just thought growth investing was far more
exciting and then in year five at the end of year five the firm moved me over
to the equity research department so at at age
this is 1993 so at age 38 I had my first exposure to the public markets and I
began reading about great investors like I had read about great investors great
lawyers in in law school to to learn how to be a trial lawyer and I read about
a great investor by the name of Stan Druckenmiller who I had gone to Bowdoin
with he was an acquaintance in the game room where I used to shoot pool to drown
my loneliness and he was at this point very famous and I read about him in one
of the Jack Slager books on great investors and read about how he used
technical analysis and I thought boy this is intuitively very sensible and
seems like a lot of fun and this was 1993 and and stand by this point was was
you know a billionaire and I didn’t want to bother him but I did have access to a
great newspaper called investors business daily which combined growth
investing with technical analysis so I picked up my first issue of
investor’s business daily in 1993 and I’ve read 99% of the issues since it
used to be a daily which was very time-consuming now it’s a weekly and
it’s the very first thing I do on Saturday morning now I did finally make
my way to managing money in 2003 at lord Abbett where I have been for 18 years
another wonderful old firm with a great culture and I joined there in 2001 as a
Technology Research Analyst and I and I really did 14 years of marine boot camp
training and research before I got to manage money and that was a big
advantage and so I never really worked for a growth investor for a long period
of time I worked for a couple of gentlemen for a couple of years who were
very helpful but I didn’t I didn’t have a mentor I had to search for a mentor
and that mentor from afar was William O’Neal because he combined growth
investing with technical analysis and and so he was hugely influential to my
career know that’s made of meat we actually both had the same mentor from
afar and now yet Lord Abbett you’re currently
a partner and portfolio manager and you have a number of strategies and a few
funds to once you talked a little bit about that sure it’s really a great
situation at Lord Abbett I have a wonderful team it’s a great firm great
people and I get to manage all the way from micro cap up to mega cap we have a
micro cap growth a small cap growth and the large cap growth and now a new large
cap focus growth fund and and so this the the the ability to manage five
hundred million dollar companies to a trillion dollar market value companies
just gives you much more perspective and is a big advantage now there were three
mutual funds for these strategies this is a lord Abbot micro cap Growth Fund
there’s the developing growth which is the small cap strategy and there is the
growth leaders strategy which is for a large cap and now a focused growth which
is large cap focus and I have a team of six people five of us I consider to be
fundamental analysts and one is a full-time technician three of three of
us are portfolio managers Matt DeSeco and Vern Bice along with me and Vern
focus is on the technicals and Matts our healthcare guru as well and I double as
a generalist analyst but most of our investments can be found in consumer
discretionary healthcare and Technology because that’s where most of the
investments are that’s where most of the innovation from the tech revolution is
expressing itself I also have the luxury of having a dedicated trader who knows
you know our process and philosophy and and so it’s it’s very it’s a very
exciting job I love what I do and I think it’s going to be great for a
ten years or more that that’s an incredible now let’s let’s move on to
the current market so right now we’re in an uptrend and with IBD big picture we
currently have three distribution days on the Nasdaq – the S&P 500 we hit
all-time highs on the Nasdaq today leading stocks are acting well and
something you mentioned back in 2014 you felt that we were just starting a larger
secular bull market what are your thoughts on that right now yes I think
this is a long tailed bull market I think the stocks are going to go up for
the next two decades we will likely have three to six bear markets along the way
over those next two decades but I don’t think we’re going to have anything as
bad as we had in 2000 or 2008 yet everybody assumes those are right around
the corner this market still has a lot of skepticism even though it’s hitting
all-time highs which for me is a good thing I think we’re gonna go higher in
the second half of the year next year with the elections at the end of 2020
could be more challenging next year might be a flat year but for the balance
of this year I think we’re going to go higher and the reason is that the
technology revolution is enabling growth like never before
it is also lowering the rate of inflation which means that we have lower
interest rates and as I look at the stock market not only do I like that the
fact that we’re touching 3000 and the S&P but I see a multitude of great
growth companies that have great stock patterns so at the moment I’m I’m
bullish short and long term and now one thing that I’ve listened to you in back
in New York in April I was at the CMT Association event the symposium there
you were one of the keynote speakers and I heard you speak and I was the first
time I heard you but talking about IBD how big an influence it was on your life
and now how do you incorporate the IBD big picture
into your strategy how does the team incorporate into the decision-making
process well I would say you know we’ll talk about my our philosophy and process
in a moment but I would say that whenever we’re looking at a company or
we’re looking at a stock we have to have a sense of the bigger picture so when
looking at a company we have to have a sense of what’s going on in the industry
when we’re looking at the market the stock price we have to have a sense of
the overall health of the market and we have a great fixed income franchise at
Lord Abbett who attached greater weight to the macro picture and I
benefit from a close collaboration with them and an IBD is also an extremely
valuable source of information to give me a sense of where the market is going
you mentioned distribution days earlier that that those are signals that things
might be changing for better or for worse they’re a follow through days that
tell you when a market is resuming an uptrend no bull market has ever begun
without a follow through day for example although many follow through days fail
but the follow through day on April 9 2009 was the very near the very bottom
of the market and that was a great signal to get very aggressive for us and
similarly in January of this year they were follow through days that provided a
great signal to get more aggressive so we’re fully invested as a mutual fund
cash is you know rarely goes above 3% and certainly not 5% but if the market
is getting hostile to growth stocks which it does 20% of the time by my
estimate we can fade defensively into you know more defensive types of stocks
up to 25% of the portfolio’s generally speaking but for the most part our
belief is that we should be investing in these disruptive
companies that are benefiting from the tech revolution and owning them while
they are working as stocks because you need to remember that Amazon fell ninety
five percent in 2000 Netflix fell 80 percent in 2012 etc these stocks that
can go up ten to a thousand times when they go through their consolidations or
Corrections it’s not down ten percent it’s it’s normally down 25 to 75 percent
and when that happens you try to reduce exposure to those names perfect so the
market continues to be in an uptrend and a number of leading stocks are acting
better underneath the surface let’s take a quick break but when we return we will
talk about a revolution of not only technology but also of the brain stay
tuned hi everyone first I want to thank all of you for listening the podcast and
your support and I wanted to let you know that we want to hear your thoughts
and if you have questions for us we will answer them on the podcast email us at
[email protected] and remember to rate review and subscribe on
your podcasting platform we’re back with Tom O’Halloran on
investing with IBD and Tom before we get into tech revolution let’s first talk
about your investment process okay I we start off with a philosophy that the
disruption that the tech revolution is creating is vastly underestimated both
in terms of the good opportunity for growth companies and the bad destruction
for existing businesses we also believe that momentum is very underestimated
that’s where the technical analysis comes in so that’s our philosophy is
we’re trying to exploit that and the process can be thought of as three steps
and they’re really very interactive sometimes the last can go first etc so
the process is that we try to own fine businesses the more disruptive the
better and what we mean by a good business is first that it has a good
business model the more profitable the better the more profitable it can get
from where it is now or scalability the better the more annuity like it can be
the better secondly we think that the people that run the business are very
critical so we want management’s that are competent and credible thirdly we
believe free market capitalism benefits a few winners in each market so we want
the leader and then fourthly we want to make sure that the industry conditions
are healthy it’s fascinating to go through the investor business daily
history of the stock market over the past 100 years and look at what some of
the leading groups were in the 50s and the 60s things like bowling alleys and
amusement parks and things like that and and and now it’s software and and
biotech etc but we want to make sure that the industry is healthy then we
want to make sure that that good business
is operating in a healthy manner so we look at sales growth we look at earnings
growth sometimes growth can get too fast and then crash and then revive again but
while it crashes it turns makes it a bad stock so we we want the the the business
momentum to be healthy to enable this fine business to be a good stock and
then the third thing we do is we make sure that the stock price is cooperating
we like to own stocks that are going up and we don’t like to go own stocks that
are going down now we have a team of six people and we’re constantly reviewing
the fundamentals we get very deep on the fundamentals we’re a fundamental
research driven active management firm and my job on the team is to stimulate
an active discussion not to achieve a consensus but to try to get the right
answer on every buy and sell decision we’re doing we’re gonna make a lot of
mistakes but when we do we need to correct them we really need to check our
egos at the door it’s not about whether Tom’s right or Matt’s right or Verne’s
right it’s whether we get the right decision and perform well and I think
three things are really critical for an investor number one you have to have a
certain level of intelligence but there are people that are far smarter than I
am at this and and and I do better than they do in investing because two other
things are critical courage and humility you got to be comfortable taking risk
investing in growth stocks is is a venture into the unknown and you’ve also
got to be humble because you’re going to be wrong a lot and if you’re wrong you
want to make sure that you cut those losses so we believe that you know
research and process are a means to an end which is performance is the end but
without the research and a good process and a good team you’re not gonna get
good performance in any sustainable manner exactly so let’s go to one of
these larger larger secular trends that’s going on right now
the tech revolution what are you seeing here well
this is just fascinating to be investing at this time in the history of mankind
there has never been a revolution this powerful we have the fossil fuel
revolution which is 250 years old which brought us nice things like toilets and
hot showers and air conditioners and cars and the revolution of the brain
really began in the you know the mid 1900s and what’s going on now is we
continue to achieve exponential gains in processing so in 2001 $1000 of computing
power bought you an insect brain in 2010 it bought you the equivalent of a mouse
brain but in 2023 a thousand dollars of computing power is going to buy you the
equivalent of a human brain and by 2050 it will buy you the equivalent of all
human brains so we have essentially the creation of infinite brain power which
in and of itself plus a token will get you on the subway but what it does do it
is is that enables that brain power to be converted to real-world opportunities
and so we didn’t even have an int and this is all very recent we didn’t even
have an internet until 1996 it was not available to the public until then and
in a mere 20 years we have these enormous outgrowths of the internet
e-commerce social networks cloud computing and right around the corner
are 5g and artificial intelligence so I think the tech revolution will go
gangbusters for another hundred years and what it’s doing is two important
things it’s overcoming distance space and time so when you pull out your
iPhone and place an order on Amazon you don’t go to the mall you save the
distance the space and the time and I ask myself well why won’t retail be 100
percent ecommerce down the road a long time
the second thing it’s doing is it’s beginning to automate what we humans do
and what what we humans do is both things that we do mentally and
physically in the mental part the tech revolution is having a faster influence
on but the physical part it’s going to take longer but it will happen things
like robotics and autonomous vehicles those will be the big growth areas maybe
in 20 years right now the big growth are in these areas like e-commerce social
networks and cloud computing and all of this provides a tailwind for growth and
keeps inflation under control I think a fair argument could be made that 2%
inflation is overstated because we’re not really calculating the deflationary
effects of the tech revolution for example if this new iPhone cost $800 in
1985 it would have costs $40,000 if it had all the functionality yet we don’t
measure that deflationary power of the tech revolution and then on the on the
negative side it’s destroying business at a much faster rate Polaroid was a
24 Bill, Kodak was a twenty four billion dollar market cap company in
1998 and it was bankrupt in 2012 and the company that helps slay it Instagram was
sold a year later for a billion dollars it only had 13 employees and was 18
months old so the power of the tech revolution and the destruction that it’s
causing is is grossly underestimated in my view now that there’s another
interesting concept that you use and in your team uses to help select stocks and
that’s human motivation and using the Mosel theory of human motivation as a
guide once you talk a little bit about this yet you have an article on Lord
Abbott that you wrote a little while ago and it’s absolutely fascinating but it’s
it’s talking about a lot the concepts that you’ve already spoken about well
when you think when you’re investing in stocks that are benefiting from the
technology revolution you want to go where the money is and
our economy is 70% consumer that’s historically unique we only spend 15% of
the economy on things like tech equipment and software etc so there’s
plenty of great opportunities and software but most of it is in the
consumer and in healthcare because healthcare spending is part of the
consumer spending and and so what what what happens here is the infinite brain
power is being converted to real economic opportunity in consumer buy and
and we focus on the hierarchy of needs Maslow’s hierarchy of needs and and we
we always ask ourselves how is this going to be something that consumers
really want and need because otherwise how can it really be big and so the the
layers of the of the hierarchy of needs are at the bottom the physiological
needs we need to eat we’d like the the food and beverages to be at the right
temperature you know we we have all we want to be you know we have a need for a
hot meal tonight so if we can get that from a food delivery service that’s much
better than if we have to go to the restaurant and sit there or call and
walk down and pick it up so all of these things are targeted to the physiological
level and there’s the safety level so you you know all of the security
software stocks and all of the you know security of identification stocks of
consumers to protect your identity in your privacy all of that is addressing
the burglar alarm business all of that is addressing the safety level then we
move up to love and belonging we have a massive domesticated animals industry in
the United States we have a hundred million cats and dogs we spend billions
on them so because they solve our need for belonging love is very important
it’s far better if you can find a partner in life
and then we move up to self-esteem many of the great apparel companies have
become so large because people like to wear nice clothes and like to see other
people see that they have nice clothes that they’re successful enough that they
can afford nice clothes companies that straighten teeth address the issue of of
self-esteem companies that run fitness centers address the need for self esteem
and then at the very top is the self-actualization level and and and
that is is you know reaching your potential that’s why the social networks
become so massive you know people become famous overnight because of the social
network so you know we have a mobility boom going on we the the value of
entertainment is mushrooming all of these things are creatively developed
businesses with products and solutions and services to be paid for by consumers
we have in the in the medical area we have much better drugs today in
biotechnology the the human genome we didn’t know what cancer was until 1965
we didn’t know that we caused it until 1977 we didn’t know what the you know
how it really was caused until we mapped the genome in 2003 and we didn’t get the
genome down below 10,000 until 2010 so the modern-day biotech industry is less
than 10 years old and the drugs are vastly better than those of the big
pharmaceutical companies we have digital payments now which are far more
convenient you take a cab you don’t have to worry about having the right change
it’s all on on your credit card you can hit the button to pay the tip and so all
of this is is the way in which the technology revolution is expressing
itself in an economic sense so remember to pay attention to the bigger picture
we have a massive tech revolution going on and new
companies are continuing emerged to take advantage of these changes coming up
next we’re gonna talk about a few current stocks that are on the radar
stay tuned want to stay on top of the market action get free investing
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tips every week on how to improve your returns go to investors.com/newsletters to sign up for free today Tom O’Halloran is our guest on investing
with IBD we’ve learned how huge this tech revolution is and how it’s just
beginning now Tom let’s talk about some current
stocks that are on the radar the first stock that’s up is a MercadoLibre it
ticker symbol MELI yeah this is the number one ecommerce company in Latin
America they have 250 million users approximately in 20 different countries
and Latin America is a is a booming ecommerce market it is where the United
States was Nina in the year 2000 and it will advance as much in the next 18 to
19 years as ours advanced here internet access is growing incomes are growing
and in many instances consumers will just go straight to e-commerce and and
and and not go through stores like like like we have done for years in Latin
America so their business is growing at about 30 percent per year over the past
five years it’s it’s volatile from year to year because of currency movements
they were in Venezuela they got out of there so there there will be some
volatility in the growth rate but what’s what’s it what’s exciting not only about
their e-commerce opportunity is they’re relatively recent expansion into digital
payments through their mercado pago business and PayPal which is a leading
payment processor in the United States invested seven hundred and fifty million
dollars in MercadoLibre to assist in this effort and digital payments is even
less developed in Latin America than ecommerce and when I look at the payment
stocks from small cap to mega cap they are absolutely some of the very best
businesses of all they have annuity like revenues and there’s there’s there’s a
multitude of them annuity like revenues very high profit
margins so what mercado libre has done is moved into a new huge growth
opportunity and one in which the some of the very best business models can be
formed so this is a long tail growth opportunity this is not going to be a
value this is not a value stock this is a an expensive stock but it’s been an
expensive since 2009 it’s gone from you know maybe $40 a share up to 625 today
and as I look forward or there abouts as I look forward over the next 10 years I
think it can grow 20 percent a year just because ecommerce and digital payments
are in such a nascent state and have the potential to be so much bigger and this
is the best horse to ride very good management and profits are depressed as
they are and some of the other growth companies because they’re investing
heavily but the business will yield very good profits in the future as e-commerce
and payment processing company businesses do here so you know a great
long-term holding in my view mercado libre stock symbol MELI now you spoke
about before where the company sometimes could be great and but the stock might
not be great at that point well Makara Libre they broke out of a large
consolidation back on February 27th and now that momentum has been there for the
last four months so it’s starting to the markets don’t recognize a lot of the
potential for this stock it’s in a nice solid uptrend and you know we like to
see that when that when that happens we generally hold on to the ride now let’s
go to this second stock and this is match.com ticker symbol MTCH yep and they
have a number of different dating sites but they’re they’re big one is tinder
yep so you know mercado libre is is benefiting from the e-commerce boom
match.com is benefiting from the social network boom and I said before it’s it’s
very important to to find a partner in life or to you know if you want a date
that’s fine too but it’s it’s a very important thing and the online social
network dating sites offer a vastly superior solution and you don’t have the
benefit of the filtering of friends but through artificial intelligence they
will get it even better than friends in the future but there there has been in
just an explosion in the interest of dating sites I’ve never been on one I
don’t ever intend to go on when I’m happily married for 36 years but I can
see where the trends are going and this company has a good lineage mmm this
company is part of interactive cooperation and Barry Diller who I think
is a consumer internet genius is really you know behind the scenes
he’s got great people running match but whenever anything whenever I see
anything that he’s talking about on consumer internet I always read it
because he’s he’s really exceptionally able in this area and match has two
offerings one is free and that is paid for by advertising and then subscription
and the subscription offering is about 15 dollars a month and that gives you a
much better connection with potential partners and you can both swipe if you
like each other and it just it’s a it’s a far better solution to getting a date
and beginning a relationship and you know tinder is the they have a number of
properties and what’s very interesting to watch here with the dating sites is
how they are evolving in a specialty sense and you know these have been
around since the beginning of the internet
but the social networks didn’t really take off until Facebook was formed in
2006 hard to believe you know that it was that recent and and then you know
match has become the leader in in the dating site social network business and
I just think they have huge potential I they only have nine million paying
subscribers and there are some 300 million paying subscribers potentially
in the world so I asked they’ve got nine million now why won’t they have a
hundred million down the road sometime so again another long-tailed growth
opportunity they’re moving internationally now they’re Asian
business is ten times larger than it was four years ago they’re growing 20% their
profit margins are very nice at 30% and as is the case for MercadoLibre it’s in
a nice healthy stock uptrend and you know we’re we’re you know we’re very
flexible with with positions we can move them up and down in size we get out of
them if if they’re not war if they’re going if a stock goes up tenfold and
then is going to go down 50% we just assume checkout until it resumes its
uptrend but but today matches is you know sailing ahead very nicely as a
stock and the business is very healthy so we like it and couple things are now
you you mentioned a ball position sizes so usually what what are the typical
percentage for position sizing in your funds well there there are absolute
position sizes and relative position sizes you know so the number of stocks
that we own and the micro-cap growth fund for example would be about 80 in
the small cap strategy it would be about 90 and in the large cap strategy about
75 and in the focus fund about 33 and so mathematically 33 percent 33 names is an
average position size of 3 in a third percent for a ninety stock
portfolio something different but so there’s an absolute position size and
those normally don’t go north of seven percent in a given name in the small cap
fund usually not more than three and a two and a half and in the micro not
usually not more than three but in the large cap strategy you have stocks that
that are big weights in the index and so if company X is 5% in the index and you
only own three percent even though three percent is a good size absolute position
you are underweight relatively relative to your index so position sizes you know
depend upon fundamental conviction depend upon technical health and depend
upon relative exposures so if we own a small cap fund for example and we do own
a number of them in our large cap strategy typically you will have a small
weight in the index in the Russell 1000 growth a small cap company will be maybe
10 basis points or less and so if we own 2% that’s a that’s a you know a very big
active weight even though we might own a company at 4% but it’s 3% in the index
it’s it’s so so it’s a it’s a relative and an absolute position sizing but you
know we we own 200 stocks across the three 200 individual unique names across
these three strategies there’s overlap so when somebody says what is your
favorite single stock I I scratch my head and have a hard time so let’s go to
the third stock service now another great tech company here yep well
ServiceNow is benefiting from the third megatrend of the tech revolution which
is cloud software and this is pretty incredible when I started in the
business in 1988 my computer plugged into the wall and was connected
nothing else and then eventually we we had these routers in the watercooler
room that connected everybody on the floor and then cisco came along and
connected the whole connected all computers and then Qualcomm came along
and connected you know computers wirelessly and then in 1996 the
government commercialized the Internet and that led to things like search and
ecommerce social networks but the third big thing that it gave rise to is cloud
software now when I started in the business in 1988 the software that ran
every company in Manhattan was in the basement of the building or in the
office itself dispersed across millions of locations and then in the you know
around the turn of the century some internet pioneers had the wisdom to say
well we don’t need to do that anymore we can put the software on the Internet
itself onto a common platform which became called the cloud and this enabled
a huge revolution in software used to be that you had to wait 18 months for the
consultants to come in to upgrade it it was basically stale for 18 months yeah
yeah yeah that’s right with cloud computing it’s it’s instantaneously
upgradeable every day every moment and the other thing that it did was it
enable the software to be delivered by subscription and I said a moment earlier
that annuity business models are what we look for and it’s amazing how much more
people will pay for a business that is steady every year than one that is
volatile up and down and so we have the that gave rise to a new term called SAS
software as a service and the third thing that this cloud software
revolution did was it enabled the creation of incredibly specialized
software so you had you started out with operating system software and then you
had sales software and then you running the company software you have
customer relationship software you have cost management software there are now
you know 25 great software stocks out there and one of them is service now and
service now is basically digitizing all of the internal parts of a business so
the customer service the right the technology department the human resource
department the security of the enterprise they even put it on a
dashboard so it’s all there and you can manage all of it from one spot and what
this does is makes business businesses much more efficient and much more agile
and ServiceNow is is the king right now of digitizing the internal operations of
businesses and this is very early on businesses that are that are all digital
in terms of the the workflows are going to be vastly better than those that are
old world and ServiceNow is doing a very good job of what we call landing and
expanding so they land a lot of new customers many are one of the biggest
new customer areas is the government for them and expanding meaning that they’ll
get business with a client and then they’ll sell them more and more modules
and grow that way they have a very high retention of customers because this is
very sticky once you set up you know that once they’re using that service and
they see how simple simple is they’re locked in they’re locked in and this
company even though it’s now big is still growing thirty five percent a year
and it’s very profitable at 22 percent profit margins those profit margins if
you look at other software businesses could double over the next you know 10
years so and like MercadoLibre MELI stock symbol like match.com MTCH
ServiceNow which has the stock symbol NOW now is a good stock now it’s in a
nice uptrend and and so those are three stocks of the 200 that
that looked like their setup well at the moment
yeah perfect back there they’re all trending night so they’re all about
their 50-day moving average and they continue to work as long as the market
works so keep on these current stocks and remember that we have a massive tech
revolution going on and we’re currently in uptrend thanks so much for being on
the show thanks Irusha was great thank you so
much for having me that’s it for this week on investing with IBD next week I’m
gonna be out but we’re gonna have Chris Gessle chief content officer and Justin
Nielsen director of market research on the show
I’m Irusha Peiris and thanks for listening and for this week’s notes and
charts make sure to go to investors.com/podcast where you’ll find details
for each episode in the podcast episodes section hey everyone thanks so much for watching
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