ASX growth shares took a pummelling in 2022, but many then saw a strong recovery in 2023. Is it time to focus on rapidly growing businesses?
Inflation and higher interest rates hurt ASX growth shares a lot. Why? We need to determine how much we think a company might be worth in three or five years and then discount that value to today.
The interest rate plays a large part in the discount rate investors use – the higher the interest rate, the bigger the discount rate used to get to today's value.
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Strong performance by growth funds
According to reporting by The Australian, performance tracking by Mercer showed that growth-focused funds made up all 10 top spots in its investment performance table for the 2023 calendar year.
The top-performing fund for the year was from Hyperion, which fell 25.4% in 2022 and rose 25.1% in 2023. Hyperion fund managers Mark Arnold and Jason Orthman think the change to artificial intelligence and machine learning is a "paradigm shift" that may have the potential "to create a rarely seen opportunity to increase equity values".
Is this a good time to invest in ASX growth shares?
The second-best performing fund was from ECP Asset Management, with fund manager Manny Pohl acknowledging his fund faced "severe headwinds in the form of multiple compression as discount rates rose". But, he also said that (discount) rates were more likely to be flat or down, which could mean the headwinds it faced "should become tailwinds for the portfolio".
The largest positions in the ECP portfolio that did well last year were Block Inc (ASX: SQ2), Megaport Ltd (ASX: MP1) and GQG Partners Inc (ASX: GQG).
The Australian reported on comments from Dushko Bajic, First Sentier's head of Australian equities growth, who looks for companies that can deliver strong growth of revenue, earnings, cash flow and make returns stronger than their cost of capital. He focuses on businesses where a change in the return on invested capital could be a potential share price catalyst.
Some of the best ASX growth share performers in the First Sentier portfolio included Pro Medicus Ltd (ASX: PME), WiseTech Global Ltd (ASX: WTC), Xero Limited (ASX: XRO) and REA Group Limited (ASX: REA).
Bajic said:
That sort of keeps you on your toes and also gives you a good reason to look at other parts of the market, because industry structure can change – competitive intensity can increase or decrease, as can capex requirements and that can fundamentally change rates within industries and companies.
So that gives us a good reason to look at all parts of the market.
You've always got to be careful what you pay for these wonderful attributes of earnings growth, cash flow generation and higher return on investment capital.
Interestingly, Bajic believes 2024 will be a "steadier year" without the "depressed base" there was before 2023.
