A stable U.S. growth fund for the long run

Sun Life MFS U.S. Growth's experienced managers and consistent process suggest it will outperform over a full market cycle.

Achilleas Taxildaris 10 January, 2017 | 6:00PM
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Sun Life MFS U.S. Growth, managed by Sun Life subsidiary MFS Investment Management, is in skilled and seasoned hands. The managers try to identify firms with underestimated earnings and cash flow growth prospects for the next three to five years. Specifically, they look for firms with pricing power in large, untapped markets that can be sustained regardless of the economic environment. A firm's pricing power may stem from sources such as intellectual property and high barriers to entry. They pay little attention to short-term earnings; thus, the portfolio's price multiples tend to run higher than those of the Russell 1000 Growth Index. Instead, the managers hold firms that they believe are undervalued relative to their internal long-term outlook.

To find these firms, the managers leverage the fundamental research of MFS's deep analyst team. The analysts meet with company management and create cash flow models to rate stocks across industries. While co-managers Eric Fischman and Matthew Sabel rely on analysts' knowledge, they also dig into fundamentals to understand a firm's growth thesis before making an investment decision. The resulting portfolio contains 90 to 110 stocks with position sizes that reflect the managers' conviction in the holdings. Generally, they don't allow a single position to represent more than 5% of the fund's assets. While they remain cognisant of sector positioning relative to the benchmark, their stock selection ultimately determines the sector weightings.

This Silver-rated fund strongly emphasizes firms that possess pricing power through high barriers to entry and economies of scale, among other factors. With that, it's not surprising that more than 90% of its assets are in holdings with Morningstar Economic Moat Ratings--a measure of competitive advantages. In the managers' search for durable growth, they may own multiple firms that fit a common secular growth theme, helping to reduce stock-specific risk. For example, two of the fund's top 10 positions are payment technology firms  Visa (V) and  MasterCard (MA), both wide-moat stocks. The team thinks both will continue to benefit from the secular shift from cash-based to electronic transactions worldwide because their platforms and scale are difficult to replicate.

As a testament to management's long-term focus, seven of the fund's top 10 holdings have been held for more than three years. Expect turnover to remain below average: It has averaged 41% in the past four calendar years, which is below the U.S. Equity category's average of 65%.

Recent additions to the portfolio include biotech firm  BioMarin (BMRN) and medical device firm  Edwards Lifesciences (EW). The managers believe BioMarin has a strong pipeline of potential blockbuster drugs. They also believe Edwards will outperform because of strong pricing power stemming from its duopoly with  Medtronic (MDT)--which the fund also owns--in the trans-catheter heart valve market.

Fischman has led this fund since its inception in October 2010, but he has managed its U.S.-domiciled clone, MFS Growth, since April 2002. The U.S. version outpaced its average peer and the index both on an absolute and risk-adjusted basis from the time Fischman took charge of the portfolio through November 2016.

For this fund's shorter record since its inception, the series A of Sun Life MFS U.S. Growth has posted a 15.3% annualized gain through November 2016, while series F earned 16.6% annually. This compares well with the U.S. Equity category's average 14.5%, but less so with the Russell 1000 Growth Index's 19% annualized return for the same period amid slightly lower volatility. Compared with its U.S.-domiciled version it had a wider gap of underperformance versus the index for this period owing to higher fees and larger cash drag from the Canadian dollar depreciation.

The fund has been successful by being consistent over the long run. It has outperformed its typical peer in all but one calendar year since Fischman took the lead of the U.S.-domiciled fund, and the same is true for the Canadian version. The fund trailed the category norm in 2014, when series A's 15.8% gain trailed the category's average 18.2% gain. Culprits included a bad bet on casino stocks  Wynn Resorts (WYNN) and  Las Vegas Sands (LVS). Both fell sharply amid China's anticorruption drive. The portfolio also lacked exposure to strong-performing giant-cap index components such as  Microsoft (MSFT) and  Altria (MO). The fund has bounced back since: Its 10.4% annualized gain in the trailing two-year period ended November 2016 beats 63% of its peers in the commission-based distribution channel.

The management-expense ratio of 2.46% on series A falls above the category median of 2.41%, ranking in the middle quintile among peers in the commission-based distribution channel of the U.S. Equity category. Its below-average turnover for the year led to a below-average trading-expense ratio of 0.02% and improved the fund's relative ranking within the category. The fund remains in the middle quintile on a total expense basis.

Less compelling are the fund's F shares. They carry a 1.34% MER--higher than the 1.24% category median. The fund makes up some competitive ground, however, with low trading expenses that hold the fund's total expenses rank to the middle of the pack among its category peers in the fee-based distribution channel.

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Achilleas Taxildaris

Achilleas Taxildaris  Achilleas Taxildaris is analyst for Manager Research and focuses on active strategies.

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