Q:  What is your investment philosophy?

A: We believe that investing in growth stocks is the most successful strategy over time because the opportunity for earnings growth boosts share price growth. We also firmly believe in the physics theory that a body in motion tends to stay in motion. Therefore, the companies that are growing their earnings, if you have a good understanding of why and how they run their businesses, will continue to grow them. So the likelihood of large-scale surprises decreases and you have the opportunity to benefit from the company as the earnings grow.

We're not necessarily a GARP investor, but we rarely pay a high multiple because we don't think that growth at any price is worthwhile. We don't believe in the PEG ratio, which people use to justify buying stocks with high multiples; it's that simple. They believe that if a stock is growing at 40%, you should be able to pay 60 times earnings and that’s ridiculous. Once you’re above a multiple of 40, there must be something truly dynamic and truly different about the company.

Q: What are the other factors influencing the multiples, besides the growth rates?

A: Everything in the market is about supply and demand, and the lack of supply increases the price. If you’re in an environment where growth is difficult, the market will pay a higher multiple for a company that can grow. We believe that once you get above a multiple of 40, it doesn’t really matter what you purchase. It may be a good investment, but the odds are pretty good that most stocks at 40 multiple will not work that well over a 12 to 24- month period. It doesn’t mean that a multiple of 40, by definition, is too high. It just means that the risks are higher at that level.

Q:  How would you describe your strategy?

A: While our philosophy is to buy growth stocks, our strategy is to find four to six themes. We invest predominantly in a top-down process, starting with a general overview of the markets, the industry environment, inflation, and that leads us in a certain direction. Then we try to find themes with something big and secular going on, cyclical or underappreciated, or unnoticed by the market. We look for a discrepancy that the market didn’t recognize.

Then we can leverage our research capabilities as a small firm based in Boston. We’re looking for industries where the information is primarily public, and our edge comes from our ability to analyze that information. We tend to avoid areas where somebody else has the information and you don’t. For example, in biotechnology, the edge is a function of reading abstracts, looking at trials, doing special surveys with doctors, and finding information that’s not readily available. As generalists, we will never have an edge in this sort of situation.

Q:  Could you give us an example of an area that you like?

A: One area that we currently like is flat panel TV. There are only four to five global producers of flat panels because the entry costs are too high and the learning curve is too steep. We think that’s a real opportunity as there is a massive upgrade cycle until everybody on the planet gets rid of his CRT and buys the flat panel.

This is the kind of area that we like, an area where the drivers are the economy, pricing,and demand. If we go into a global recession, demand for TVs will slow, and there will be excess capacity and poor pricing. But if we go into an economic deceleration with lower energy prices, there will be more free money for buying TVs, better visibility, and therefore, better perception by stock investors, allowing for higher multiples.

Q:  Could you give us an example of being wrong? What did you learn from it?

A: We got out of a group too soon, mostly because we believe that the markets tend to move through cyclical patterns. We aggressively bought energy stocks in 2002 and 2003, but we were out of most of them by the end of 2004 because of the enormous run of energy prices. Inventories were starting to accumulate in the G7 countries, and whenever inventories build up, even if prices don't go down a lot, you don’t make a lot of money in crude oil. It turns out that we were wrong. Oil was $45-$50 and on its way to $70 over the next 12 months, even with rising inventories.

Q:  Why do you think that happened based on your research?

A: Because we’re in a commodity bubble. In the last 12-14 months people have bought the idea that this time it’s different; that China, India, Brazil, and Russia are going to grow forever, so there will never be enough commodities for their growth. People have heard the mantra that the world goes through these 20-year hard asset cycles and there is a grain of truth in that idea.

That being said, we have plenty of periods through history where parts of the world started to grow, such as Taiwan, Korea, and Japan, but when the price of energy went up, consumers bought less, did without, and substituted. Obviously, it’s harder to substitute oil, but you can do it on the margin.

People sometimes don't realize that you could still adjust demand for crude oil. It's not like Apple's iPod where demand is growing at 100% year; oil demand, in aggregate, grows at only about 1.5% a year. You can moderate that demand by buying a different car, for example. The plummeting SUV sales or the roll out of hybrids represent meaningful numbers. In our minds, Pandora’s Box is now open, and we'll see Moore’s Law in automobiles, and thus a doubling of fuel efficiency every three to five years.

So we thought this whole thing with oil was crazy. People were piling into energy funds, so we had a flood of money, but it didn’t necessarily make sense from the fundamental supply and demand standpoint. Everyone talked about China as if demand was going to grow forever, but this year demand is looking down a little because when the prices go up, people use less.

The same is true about copper and steel. We got out of steel in late 2004 because steel inventories were rising, prices were falling, and the stock prices didn’t make any sense. You can’t have growing inventories and insufficient supply, so there's a dislocation that has gone a little too far.

Q:  What are the other factors that would prompt selling a stock or a group of stocks?