Despite the recent correction for small-caps, we have been finding compelling opportunities in those areas of the market not always discussed in the headlines. Portfolio Manager Jim Stoeffel sits down with Co-Chief Investment Officer Francis Gannon to talk about investment ideas that play on current trends but may be particularly interesting to value-oriented investors.
Francis Gannon: The Russell has had a nice correction, perhaps ongoing. Have you been able to find any new, interesting opportunities? Let's start first, perhaps, from a sector standpoint and then go bottom up.
Jim Stoeffel: One of the areas I really find interesting, particularly as a value investor, is tech. I feel like we're in the third or fourth inning of the next wave of technology, which is obviously the mobility wave. Mobile is a very broad category. Yeah, it includes Apple and Samsung and your phones, but there's a whole infrastructure that goes behind it: cloud computing, the internet of things, and all those things that people get excited about.
As a value investor, being in the third or fourth inning, that means you're actually starting to put in the infrastructure to support that growth. It's become more than a concept—it's something that's happening. People are putting in the infrastructure, and there are a lot of small-cap companies that provide what I would call the nuts and bolts to that infrastructure. So whether it's a Cirrus Logic (CRUS, Financial) selling audio codecs to Apple and has this great technology for voice recognition, or a NETGEAR (NTGR, Financial) that is putting in the wireless router that you're going to have to have in your house, I like to refer to them as sort of the plumbers of the mobile industry. It's not very sexy and so people don't care, and so we're at that sweet spot, I think, in the mobile area where it's going to be very interesting for value investors.
Francis: And these companies are generating a lot of free cash flow, solid balance sheets?
Jim: Yeah, great margins, and the world needs them. Fortunately it's a small part of the total cost of sort of the infrastructure build out, so it's not necessarily the place where people are going to try and crush them on price. So it's a very interesting area for me, at least.
Francis: Another area that got hit quite hard, especially in the month of September, was Energy. Energy in general, and the energy complex in general, has gotten hit quite hard. Oil dropped briefly below $90 a barrel recently, and so you've seen a lot of pressure on the sector. What are your thoughts on Energy these days?
Jim. Where I really like Energy though is maybe two places. I like it on the services side. People are still drilling very aggressively, and they need to. And so if you're on the services side, it doesn't matter what the price of the commodity is, necessarily. It matters on, you know, unit volume. And that seems to be very strong.
A name that I think is very interesting is a company called Newpark Resources. They have a composite mat. It's patented, and basically it replaces what were essentially wood mats on a drilling pad. And they have a spill containment system, so it's very environmentally friendly, which is going to be very important going forward. They have huge market share, great margins there, and so that's a good business.
But they also have a drilling fluids business, and as you're probably aware, drilling fluids are basically mud and oil, and that's not so environmentally friendly. They have developed a water-based drilling fluid, and this is one of my favorite words that I've learned this year, with equal to or better lubricity than oil based. It's basically the drill bit goes through there as effectively or better than it goes through oil, and it has the advantage of being environmentally friendly. So they're picking up significant amounts of share in that particular area. My guess is five years from now, it's going to be part of a much bigger company somewhere because the technology's pretty cool.
Important Disclosure Information
Jim Stoeffel is a Portfolio Manager of Royce & Associates, LLC, investment adviser to The Royce Funds. He serves as an assistant portfolio manager for Royce Low-Priced Stock Fund (RLP). The thoughts and opinions expressed in the video are solely those of the person speaking and may differ from those of other Royce investment professionals, or the firm as a whole. There can be no assurance with regard to future market movements.
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