Opportunity Beckons: A Mutual Fund Focused on Innovation

A volatile investment strategy can still be worthwhile if you have a long- term investment horizon and are well compensated for enduring the strategy’s swings in performance. That’s where a seemingly esoteric concept like risk-adjusted return comes into play. 

Risk-adjusted return is calculated by using the Sharpe ratio, which isolates the premium a portfolio earns above a risk-free return, such as 90-day T-bills, and compares it against the full range of a portfolio’s expected returns. While investors can’t dine out on risk-adjusted returns, this statistic can help determine whether a volatile strategy is sufficiently rewarding for investors to stick with it through thick and thin.

This is a key concept when analyzing Baron Opportunity’s (BIOPX) enviable long-term returns. Although the fund is in the top 2 percent of Morningstar’s Mid-cap Growth category over the trailing 10-year period, a closer examination of the fund’s individual calendar year performances reveals a narrative that might test even the most seasoned investors. 

In three of those 10 calendar years, Baron Opportunity garnered a ranking in the top 1 percent to 2 percent of its category. In five of the 10 calendar years during this period, however, the fund’s ranking dropped toward the bottom half of its category. Nevertheless, the fund beat both the broad market and its category peers by wide margins over the three-, five- and 10-year trailing time periods. And the fund’s out- performance has been strong enough to similarly best the market and its category peers on a risk-adjusted basis over those same periods.

Much of this dynamic can be explained by Baron Opportunity’s substantial 39.7 percent allocation to the information technology sector, a weighting that’s nearly double that of its peers. In fact, the fund was originally launched to capitalize on the Internet bubble, but management has since expanded the fund’s mandate to include innovation-based growth opportunities regardless of the sector in which a company operates. Fund manager Michael Lip- pert has developed diverse investment themes in transformative technologies ranging from cloud computing to minimally invasive surgical procedures. 

Lippert employs a fundamental approach to stock selection by looking for companies that have solid balance sheets, predictable earnings, positive operating cash flows, and sustainable competitive advantages. In the current economic environment, Lippert has taken advantage of the market’s volatility by selectively scooping up discounted shares of growth stocks whose businesses specialize in providing crucial products and services to their customers.

The fund has produced its best returns in years that followed a major market bottom, such as 2003 and 2009. And while the fund only lost 3.6 percent in 2001 versus the S&P 500’s 11.9 percent loss, investors should normally expect the fund to suffer draw- downs in excess of the market during downturns. Indeed, the fund’s largest rolling 12-month loss during the Great Recession was 49.5 percent, as compared to the S&P 500’s 38.1 percent loss. But should the global economy resume its growth trajectory after last year’s doldrums, Baron Opportunity may soon be poised to deliver its customary post-downturn gain.