The $2.4 billion Alger Spectra Fund is a skilled
marathoner.
Its performance ranks in the top 24%, 6% and 1% of its
large-cap growth rivals tracked by Morningstar Inc. over three,
five and 10 years.
Patrick Kelly, 37 years old, has run the fund since Sept. 24,
2004.
He looks for growth companies that are undergoing positive
dynamic change. Kelly discussed his approach with IBD from his
office in Manhattan.
IBD:
You look for two types of good businesses getting better,
right?
Kelly:
Yes, we have two buckets of companies. One is high unit-volume
growers. These coming-of-age companies have market dominance and
are taking market share. They benefit from growing demand.
They're in good growth markets. They have lots of free cash
flow.
The other bucket holds lifecycle change companies. These are
more established companies. Their change comes through having a
new product or new management, new regulations or an acquisition.
They're looking for earnings acceleration and multiple
expansion.
IBD:
And naturally you hope not everyone spots the change as early as
you?
Kelly:
When we find that, we're more likely to find a differentiated
view from the consensus view. We try to be disciplined on
valuation.
IBD:
Are you finding more opportunities in any particular area of the
economy?
Kelly:
The Internet is creating significant changes. E-commerce growth
has been accelerating, creating a lot of demand for Internet
companies but also traditional retailers. Companies likeAmazon (
AMZN
) andeBay (
EBAY
) benefit from this. Other companies suffer significantly from
that change.
The Internet is also changing the way we consume media. It has
driven change in how companies allocate advertising dollars.
We've seen a rapid increase in Internet advertising, which has
benefited companies likeGoogle (
GOOG
) but has been the demise of other companies like traditional
newspapers.
IBD:
EBay has more than one moving part. Tell me more about your
thesis, please. You added to your stake in at least your Nov. 30
and Oct. 31 disclosures.
Kelly:
There's that benefit from the secular growth of e-commerce. The
company benefits from scale and network effects.
From 2007 to 2010 eBay was lagging e-commerce's overall
growth. But starting in 2011 it started to grow in line with
e-commerce and is now growing faster.
In its Marketplaces (e-commerce) business, continued
innovation should drive future growth.
Its PayPal unit is directly leveraged to growth in e-commerce
and global trade.
EBay's valuation is attractive relative to its growth
rate.
IBD:
Are Google's revenues and earnings still growing fast enough for
you?
Kelly:
Yes, they continue to grow at a strong clip. They're a dominant
player in a rapidly growing online advertising market.
They're well positioned for the shift to mobile advertising.
They have over 85% market share in mobile search.
And they have a large growth opportunity in online video
through YouTube.
We believe Google's core search revenue can accelerate this
year with the introduction of their Enhanced Campaigns, which
will integrate campaigns for desktop and mobile. (Enhanced
Campaigns requires advertisers to use the same keyword
advertising campaign across multiple devices.) That will result
in improved costs per click.
IBD:
You've added to yourPVH (
PVH
) stake in your two most recent monthly disclosures. Their recent
Warnaco acquisition lets them unify different parts of the Calvin
Klein brand they have rights to, correct?
Kelly:
They've got strong management. And they're well positioned to
benefit from the expansion of the Calvin Klein and Tommy Hilfiger
premium brands. And that Warnaco acquisition will be accretive to
earnings.
IBD:
Why did you open a stake inHCA Holdings (
HCA
) in your October disclosure?
Kelly:
Hospitals are well positioned to benefit from the health care
reform and the Affordable Care Act.
We think HCA has one of the best hospital management teams.
They generate a lot of free cash flow. And we think the company
can generate shareholder value through deleveraging and other
deployments of cash.
IBD:
You trimmedUniversal Health Services (UHS) between your September
and October reports. Earnings per share grew 8% and 7% the past
two quarters after falling 2% in the prior stanza. What's your
take?
Kelly:
They operate hospitals and health centers. It's the same kind of
thesis as HCA.
IBD:
What dynamic change do you associate withLinkedIn (LNKD), another
new addition to the fund?
Kelly:
It's another market dominating company, benefiting from increased
Internet usage.
We think they're taking significant share in the professional
recruiting market.
This is another business that benefits from network effects.
We think they have an enormous market opportunity in front of
them. That should give them the ability to expand margins
significantly.
IBD:
What is the catalyst forEastman Chemical (EMN)? Their earnings
per share grew 25% and 53% the past two quarters after declining
the prior two quarters.
Kelly:
The change is their recent acquisition of Solutia, which will
drive earnings accretion.
It improves the margin profile of the company. And it reduces
the cyclicality of their revenue stream.
In addition, we see upside to management's synergy targets for
the acquisition. And Solutia makes five of the eight key raw
materials Eastman uses in its business.
IBD:
Affiliated Managers (AMG) gives their acquisitions access to its
global distribution network. And acquired firms' owners are able
to monetize their equity. Any other special sauces?
Kelly:
They have a unique affiliate asset management model, with a very
strong brand that attracts smaller managers as partners. The
company has a strong record of adding affiliates, attracting new
organic client flows and performance has been very strong.
IBD:
You've got a number of financials --JPMorgan Chase
(JPM),Blackstone (BX) andCarlyle Group (CG). Do they have the
same dynamic driver?
Kelly:
Blackstone and Carlyle are leading alternative asset managers.
And alternative asset managers are seeing increased allocations
from investors.
Blackstone has a strong brand name. We expect them to rapidly
grow assets under management in the next several years.
IBD:
And what do you like about JPMorgan?
Kelly:
We've taken a more positive stance on financials. We think home
prices will surprise on the upside. And an improved housing
sector is a key driver for financials.
We think JPMorgan is a dominant franchise with a strong
management team, and its valuation is attractive relative to
their long-term earnings potential.
IBD:
What's your thesis onMorgan Stanley (MS), in which you've been
building a stake?
Kelly:
They're going through significant change. They're a good
franchise, trading at a fairly significant discount to book
value.
They are improving the profitability of their wealth
management business and reducing their exposure to the
fixed-income business. Reducing exposure to the fixed-income
business will free up excess capital, which can be returned to
shareholders. Improving the profitability of the wealth
management business and reducing the fixed-income business will
lead to a change in their business mix. We think that will
translate into a higher multiple.
IBD:
Why do you think they will succeed?
Kelly:
Their pretax margin was 9% in 2010. We expect them to exceed 20%
in 2015. Their earnings mix will change a lot. We think that will
lead to a multiple expansion and revaluation higher.
IBD:
What's your thesis for media holdings likeCBS (CBS) and News
Corp. (NWSA)?
Kelly:
We think CBS is well positioned to further monetize their
industry-leading content. They continue to return significant
value to shareholders through stock buybacks. In addition,
they're planning to sell their international outdoor
(advertising) business. And they're converting their domestic
outdoor (billboard advertising) business to a REIT, which will
have tax advantages. And they will lead to accelerated share
buybacks.