The Beneficial Effect of Lower Interest Rates on Growth Stocks With Solid Competitive Positions

Insight's investment approach is a flexible one. We invest in value stocks as well as growth stocks, and we implement long positions as well as short sales. Incidentally, to us the terms "growth stock" and " value stock" are in many respects artificial, because we pay alot of attention to valuation. So, for example, we would not be buying a growth stock, if we felt it didn't represent good value. What also makes us different from the usual long/short equity approach, is that we pay attention to macroeconomic factors, and will not, for example, slavishly maintain short positions in our portfolio if we think the macroeconomic environment is favorable enough. In the current macroeconomic environment we have drastically reduced our short positions. We do think we are more toward the end of the interest rate tightening cycle by the Fed than the beginning, and so far the economy while slowing, has been doing well. And even were the economy to slow further, as long as there is no recession, the stock market, in our opinion, could still go higher. With this view as a backdrop, we have been increasing our growth stock positions. We have, for example, recently been a buyer of Cisco, due to its reasonable valuation and, in our opinion, preeminent position as a provider of internet and communications infrastructure. While some value investors make the case for buying Microsoft, we think Cisco has a stronger competitive position than Microsoft, and with a similarly strong balance sheet. Growth stocks with solid competitive positions such as Cisco, Whole Foods, and Google, three of Insight's positions, should do well in an environment of lower interest rates, which is Insight's forecast. We know on a discounted cash flow (DCF) basis that lower interest rates make future cash flows more valuable, and since growth stocks get more of their cash flows in the out years than do value stocks, lower interest rates should provide a tailwind for growth stocks. The one macroeconomic proviso being that the economy must hold up for this scenario to unfold. Lower interest rates make future cash flows more valuable, but only where top line revenues can reasonably be expected to expand. We believe that one of the reasons the bear case for the market has not held up is that while lower interest rates often bespeak a slower economy, this time this has not been the case. Unlike previous circumstances in which an end to Fed increases sometimes heralded a massively slowing economy, currently available data suggests the economy is holding its own quite well.

Philip Frank, PhD
President and Portfolio Manager,
 Insight Asset Management LLC
e-mail: insight-asset@earthlink.net