Quality investing is evolving, with changing market dynamics reshaping the relationship between growth, quality and the role of active management.

For much of the post-Global Financial Crisis period, quality growth investing occupied a privileged position within institutional portfolios. The proposition was straightforward: invest in businesses with durable competitive advantages, high margins, strong returns on capital, recurring revenue streams, and predictable cash flows.

Over time, the compounding of superior business economics would overwhelm short-term market volatility. The approach attracted significant investor capital. Quality growth strategies often delivered a compelling combination of growth, resilience and lower volatility than many traditional growth strategies. For many asset owners, quality growth became the ‘sleep-at-night’ component of their equity allocation.

However, a curious shift appears to have occurred in recent years. Many of the sectors and companies that historically exemplified traditional quality growth characteristics have experienced a meaningful slowdown in growth, even while many of their traditional quality characteristics have remained intact. The result is an important question for investors: has the relationship between quality and growth changed?

When quality and growth diverge

For much of the last decade, quality and growth often went hand in hand. Many of the market’s strongest growth companies also exhibited the characteristics traditionally associated with quality investing: high margins, strong returns on capital, recurring revenue streams, stable earnings and asset-light business models.

The success of these businesses was not accidental. Software companies, consumer franchises and select healthcare businesses often benefited from powerful secular tailwinds while simultaneously exhibiting many of the characteristics traditionally associated with quality investing. Strong growth supported margins and returns on capital, while high profitability provided the resources necessary to sustain innovation, market leadership and competitive advantages.

This combination created a powerful feedback loop. Companies with superior economics often became stronger over time, reinforcing both their quality and growth characteristics. As a result, quality became an increasingly effective lens through which to identify attractive growth opportunities. In many respects, quality served as a useful proxy for future growth. Investors did not necessarily have to choose between the two because the market’s most successful companies frequently exhibited both.

More recently, however, the relationship has become less straightforward. Some of the sectors that historically exemplified quality growth characteristics have experienced slower growth, while many of today’s most compelling growth opportunities exhibit characteristics that differ meaningfully from the traditional quality framework.

The growth has slowly bled out of quality

In the following chart, the larger circles represent the composition of the MSCI ACWI Quality Index as of more recent quarter-ends (i.e. the larger the circle, the more recent the time period, and the smaller the circle the farther away the time period).

As the chart shows, over the trailing three years the quality index has slowly migrated away from growth characteristics and toward the value end of the spectrum. In other words, the growth has slowly bled out of quality and managers who remained focused on backward-looking growth characteristics have sacrificed forward-looking growth in the process.

The opportunity set has changed

Part of the explanation may lie in the changing nature of the opportunity set itself.

Historically, many of the market’s most successful growth companies were asset-light businesses that benefited from network effects, recurring revenue streams and attractive unit economics. Software companies, internet platforms, consumer franchises and select healthcare businesses often required relatively modest levels of capital investment while generating substantial cash flow and high returns on capital.

Today’s investment landscape appears different.

The buildout of generative AI infrastructure has created significant demand for semiconductors, data centre infrastructure, networking equipment, power systems, electrical components, cooling technologies and other enabling technologies. These businesses are critical to supporting the rapid adoption of artificial intelligence across the global economy.

Importantly, many of these businesses look quite different from the companies that dominated the previous decade. They are often more capital intensive, operate with lower margins than traditional software companies, and exhibit earnings profiles that can appear less predictable. In many cases, they are choosing to reinvest aggressively rather than maximise near-term profitability.

Traditional quality metrics were developed to identify businesses that had already achieved economic maturity and demonstrated sustained profitability. During periods of stability, these metrics can be highly effective. However, during periods of significant technological change, some of the most attractive opportunities may emerge in businesses that are investing heavily to capture future growth rather than optimising for current profitability.

The current AI investment cycle illustrates this dynamic. Much of the value creation is occurring within the physical infrastructure required to support AI adoption.

Data centres require semiconductors, networking equipment, electrical systems, power management, cooling solutions and other enabling technologies. The companies providing these solutions may not always score as highly on traditional quality measures, yet they are benefiting from some of the strongest secular growth drivers in the market. This does not diminish the importance of quality. Rather, it highlights the limitations of relying too heavily on any single framework. Traditional quality metrics remain valuable tools, but they may not fully capture the companies best positioned to benefit from major shifts in technology, infrastructure and capital investment.

As a result, investors relying primarily on traditional quality metrics may underappreciate parts of today’s evolving opportunity set.

Where did the growth go?

The slowdown in growth did not occur in a vacuum. Many of the sectors that historically produced businesses exhibiting traditional quality growth characteristics have experienced a meaningful moderation in growth over recent years.

Consumer franchises provide one example. For much of the past two decades, global consumer and luxury brands benefited from the rise of the Chinese consumer and expanding global demand. More recently, slower Chinese growth, changing spending patterns, elevated savings rates and a weaker real estate backdrop have reduced what was once a powerful source of growth. While many of these businesses continue to possess strong brands, attractive margins, and solid cash generation, their growth trajectories have become less compelling.

Enterprise software has faced a different challenge. For years, software companies represented the ideal combination of recurring revenue, high margins, strong cash flows and attractive returns on capital. The emergence of generative AI has introduced uncertainty regarding the durability of traditional software business models and long-term growth assumptions. While many software companies remain high-quality businesses, investors have increasingly questioned whether future growth rates can match those achieved in the past.

Healthcare has also become a more challenging hunting ground for investors seeking businesses with the profitability, stability and returns on capital traditionally associated with quality investing. Regulatory pressures, reimbursement concerns and heightened policy scrutiny have weighed on growth expectations across portions of the sector.

While the underlying causes differ across sectors, the outcome has been remarkably similar. Businesses that once benefited from powerful structural growth drivers increasingly face slower growth, more uncertain demand, or heightened competitive pressures. Importantly, this does not mean these businesses are poor investments or that their quality characteristics have disappeared. Rather, it suggests that investors can no longer assume that the sources of growth that defined the previous decade will be the same sources of growth that define the next one.

The quality growth dilemma

This highlights an important tension within quality growth investing.

Quality metrics are largely backward-looking. They measure what a company has achieved: historical profitability, historical returns on capital, earnings stability and cash generation. Growth is inherently forward-looking. It reflects future demand, future market opportunities, future competitive positioning and future earnings potential. During periods of stability, quality and growth often reinforce one another. During periods of significant technological or economic change, however, they can diverge.

This is particularly true when new growth opportunities emerge in industries that do not yet exhibit the characteristics traditionally associated with quality investing. Businesses investing heavily to build infrastructure, capture market share, or establish leadership in emerging technologies may appear less attractive on traditional quality measures even as their long-term growth prospects improve.

This is not a failure of quality investing. Rather, it is a reminder that quality and growth are not the same thing.

The important role of earnings

Over nearly three decades, data demonstrating the relationship between company fundamentals and share price returns is unambiguous: the companies with the fastest earnings growth in the Russell 1000 Index have delivered the strongest performance consistently over multi-year time periods (figure two).

Looking at rolling five-year returns of the Russell 1000 Index from 1997 through 2025, the top earnings-growth quintile produced annualized returns near 19%, compared with less than 1% for the slowest-growing quintile. Over time, investors have clearly rewarded businesses that can compound profit growth at a high and durable rate.

There is, however, a concentration problem. If the long-term case for growth investing is straightforward, the case for accessing it through a passive growth benchmark has quietly become more complicated. The top 10 holdings in the Russell 1000 Growth Index now account for 61% of the index – more than double their average weight over the past three decades.

For most of the index’s history, top 10 weights oscillated between 20% and 35%. The current level is without precedent, and it was reached in a remarkably short window: top 10 weights have nearly doubled since 2013, driven by a handful of mega-cap names whose market values have grown faster than the rest of the universe combined.

As a result, a benchmark that was historically a broad expression of secular growth has become, in practice, a concentrated wager on a few of the world’s largest businesses.

In addition to being heavily concentrated in just a handful of individual stocks, 50% of the Russell 1000 Growth Index is in the technology sector. And when you add tech-related names from other sectors, that number soars to 68%.

The Magnificent 7 growth deceleration

While the Magnificent 7 have been among the fastest growers for years, the reality today is that the cohort’s growth rate has been slowing. They are no longer among the top quintile of growers in the Russell 1000.

The 5-year average earnings per share growth for the Mag 7 was 30% through June 2026.  Looking ahead, the 3-year average forward earnings per share growth for the Mag 7 is 23%, which represents a 20+% decline (figure three). The law of large numbers is doing what it usually does to dominant incumbents: making the next double harder than the last. These companies are on a path of normalisation toward a still-attractive but no-longer-exceptional growth rate. The companies that were the index’s growth engine are now poised to grow roughly in line with, rather than well ahead of, a long list of less dominant peers.

None of this is a critique of the Magnificent 7 as businesses. These are high-quality companies with durable competitive advantages, exceptional cash generation, and a leading position in the AI build-out. This is simply what mega-cap scale eventually does to the rate of growth.

The next generation of leaders

Growth investment specialists Jennison looks for two types of growth companies – those with above-average and potentially accelerating growth and those with more stable and consistent growth.

The first are generally the emerging winners in a new and evolving industry or inflecting growers that are innovating within an existing way of doing business. Companies such as these have large and expanding addressable markets and are investing significantly in growth, understating their profits. Many times, the market underappreciates the scale of opportunity as they produce earnings that are well below their potential and before the opportunity is fully reflected in benchmark weights. By design, those companies are underrepresented or absent from a top-heavy passive index.

The second are durable compounders – those with defensible business models, significant competitive moats and long runways of growth ahead of them. These stable growers are high-quality companies, generally with pristine balance sheets, and significant cash flow generation. The market often underestimates the duration of growth of these companies, and the better-than-average returns that their consistent, above-average growth can drive. Many of today’s mega-caps fit this profile.

History shows that market leadership is dynamic: the companies that dominate one era seldom lead the next with the same force. For growth investors, the opportunity is not to abandon proven leaders, but to complement them with quality companies that are emerging winners and inflecting growers that benchmarks may not yet fully recognise. This is where active, diversified growth investing can add meaningful value.

Quality remains an important component of successful investing. Businesses with strong competitive advantages, attractive returns on capital and disciplined capital allocation should continue to create value over time.

However, quality alone is not growth. The characteristics that defined quality during the previous decade may not be the same characteristics that identify the next generation of growth leaders.

Jennison believe growth remains the primary driver of long-term equity returns. Quality should support growth, not replace it. As markets evolve and new sources of growth emerge, investors must continually reassess where future growth resides rather than relying solely on the characteristics that defined success in the past.

Periods of paradigm change have historically created both risk and opportunity. Investors who remain anchored to the characteristics that defined the previous cycle may struggle to identify emerging leaders, while investors willing to look beyond traditional frameworks may discover new sources of growth before they become widely recognised.

The challenge is not abandoning quality. It is recognizing that the characteristics associated with future growth may evolve as the opportunity set evolves.

Many investors focus on identifying today’s quality companies. We believe investors should focus on identifying tomorrow’s quality companies.

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Important Disclosures (as of July 2026): Jennison Associates LLC (“Jennison”) is a registered investment adviser under the U.S. Investment Advisers Act of 1940, as amended, and a Prudential Financial, Inc. (“PFI”) company. Registration as a registered investment adviser does not imply a certain level of skill or training. Jennison has not been licensed or registered to provide investment services in any jurisdiction outside the United States. Additionally, vehicles may not be registered or available for investment in all jurisdictions. Prudential Financial, Inc. of the United States is not affiliated in any manner with Prudential plc, incorporated in the United Kingdom, or with Prudential Assurance Company, a subsidiary of M&G plc, incorporated in the United Kingdom.
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The views expressed herein are those of Jennison investment professionals at the time the comments were made and may not be reflective of their current opinions and are subject to change without notice and should not be considered investment advice. Forecasts may not be achieved and are not a guarantee or reliable indicator of future results. Although Jennison believes that the expectations reflected in such forward-looking statements are based on reasonable assumptions, actual results may differ materially from those projected.
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The global growth equity universe spans a broad spectrum, from emerging disruptors to established compounders with resilient long-term potential.

In a global market where ‘growth’ is often used as a catch-all term, true long-term capital appreciation remains a rare find. Identifying companies capable of sustaining strong growth requires more than just following trends; it requires navigating a vast spectrum that spans industries, borders and diverse corporate life cycles.

While these opportunities are diverse, the most resilient growth stories typically converge into two distinct categories: emerging growers and stable growth compounders.

By applying an empirical lens to these two groups over nearly two decades, Jennison uncovers how the unique investment characteristics of each group drives performance across different market cycles. This is important for growth investors to understand as they navigate through different market cycles. However, while this historical framework provides a vital roadmap for growth investors, it is no substitute for the rigorous, bottom-up fundamental analysis required to pinpoint the winners of tomorrow.

In this article, we explore the mechanics of these two growth archetypes and how they shape the modern global equity landscape.

The growth landscape

Companies that deliver above-average, sustainable growth over the long term are among the most valuable investments in the markets. These companies generate the strongest compound returns over time, a role that has been amply rewarded by investors. The fastest-growing companies have consistently led performance over the past three decades and through a range of market environments.^[1]

Growth companies, however, are rare. Since mid-2005^[2], about one out of four publicly listed large- and mid-capitalisation companies globally posted seven percent or greater annualised revenue growth and 10 percent or higher earnings growth.

When the revenue growth threshold is raised to 15 percent and earnings growth to 20 percent, the number falls to about one in ten companies (figure one)^[3].

The sources of growth can vary and are often fluid. While strong, persistent growth is typically driven by innovation or technological disruption, the drivers are rarely, if ever, predictable or static. In the course of fundamental research, Jennison has observed two distinct types of growth companies: emerging growers and stable growth compounders. Although both groups consist of growth stocks, the differences in their characteristics and performance can be profound (figure two).

Emerging growers and stable growth compounders

Emerging growers are typically young disruptors, in a new or developing industry, and offer significant upside potential. To fuel their rapid growth, these companies reinvest their cash flow into sales, marketing, research, product development and achieving scale, while reporting relatively low – or no –profits. These strategic decisions can depress margins and earnings over the short term (usually 1–2 years), but this is typically followed by a phase of pronounced growth over the following 3-5 years.

Emerging growers have been concentrated in many different industries over the past several decades. In the 1980s, they were found among pharmaceutical and biotech firms; in the 1990s, they were computer hardware and internet companies; today, they are concentrated in AI-related technology.

Stable growth compounders also demonstrate above average growth potential, but they have a history of profitability and established drivers of growth. They are often former emerging growers that have matured into large or mega cap companies with a flourishing mix of products and services. They can maintain their competitive position through continued innovation and expansion into new markets or by leveraging an established business that cannot be easily replicated by competitors. They can be found in a range of industries, including technology, luxury goods and high-end brands and healthcare.

The differences between these two groups impact their performance. Emerging growers can be relatively volatile; they tend to be more sensitive to market uncertainty because they have little history of reported earnings. Traditional valuation measures that are earnings-based, such as price-to-earnings, can make them appear unattractive, especially in their early years.

Emerging growers have longer duration profiles. In this context, long-duration growth companies have the bulk of their expected profits weighted towards more distant time periods. Conversely, short-duration companies are expected to report a more significant share of their future profits in the near term.

Due to their longer duration profiles, emerging growers also tend to underperform in a rising rate environment as investors apply a higher discount to future cash flows. However, in periods of stable economic growth and flat or declining interest rates, emerging growers are usually among the market leaders.

On the other hand, stable growth compounders typically have shorter duration profiles and can be less volatile, as their profits are usually more visible and their sources of growth more established or diverse. This can lead stable growth compounders to outperform emerging growers during periods of economic uncertainty, but their long term upside potential tends to be lower.

To further explore observations of emerging grower versus stable growth compounder behaviour, an empirical lens was applied to the global and US equity universes (as measured by the MSCI ACWI and the S&P 500 Index). Proxies were created for the two groups by screening each index based on realized revenue and earnings growth levels (figure three).

The parameters for emerging growers were 3-year trailing revenue growth rates above 15 percent and 5-year trailing earnings per share (EPS) growth rates above 20 percent. For stable growth compounders, lower thresholds were set – revenue growth rates of 7-15 percent and EPS growth rates between 10-20 percent. These thresholds are not intended to be definitive; Jennison believes they should be adjusted should levels of growth structurally reset over time.

These revenue and earnings screens are a simplification, one that serves as a useful way to aggregate and analyse two groups of growth companies that possess attributes that should allow them to generate strong returns for shareholders.

For the purposes of this analysis, the focus has been on companies that have reported positive earnings for most of the previous five years and have been growing in the ranges specified above. However, there are many high-growth companies that have not yet reported profits on a consistent basis, and some of these may offer compelling investment opportunities. Consequently, Jennison does not rely on these screens in its own investment process, which is driven by fundamental, bottom-up analysis and a forward-looking view.

Insights from performance analysis

Each group’s performance compared to the index was calculated from June 2005 through to June 2025 (figure four). Overall, both outperformed the MSCI ACWI during this time period. Stable growth compounders led, gaining 10.4 percent on an annualised basis compared to 9.8 percent by emerging growers and 8.2 percent by the index.

These growth stocks set a positive trajectory over time, but their paths are not perfectly linear. To gain more perspective on the performance of the two groups during periods of uncertainty, Jennison identified seven peaks in market volatility and the events that coincided with them:

• the global financial crisis (GFC)
• US debt downgrade (2011)
• flash crash (2015)
• market correction (2018),
• COVID-19 outbreak (2020)
• the Fed interest rate tightening cycle (2021–2023)
• tariff and trade policy uncertainty (2025).

These market events included major credit defaults, sudden panics, technical trading events, as well as pandemic and macroeconomic pressures. This allowed an examination of growth equity performance across different settings, with the common thread being that they each represented high volatility, tail-risk scenarios.

In these volatile environments, stable growth compounders outperformed emerging growers in each period except for the US debt downgrade and the COVID-19 outbreak (figure five).

The outperformance did not last beyond relatively short periods of market instability, which suggests that there could be more sensitivity of returns for stable growth compounders in a prolonged macro event, such as the GFC. However, the divergence in returns between emerging growers and stable growth compounders became significant during and after the COVID-19 outbreak (figure six).

After March 2020, emerging growers outperformed stable growth compounders and the broad market by 12 and 11 percentage points, respectively, over the next five quarters. However, this performance reversed during the Fed tightening cycle, when emerging growers underperformed stable growth compounders and the broad market. Stable growth compounders outperformed again when uncertainty related to trade surged in the first half of 2025, but as the uncertainty dissipated, emerging growers returned to market favour.

Both groups benefited from the surge in technology adoption during the COVID-19 shutdowns, but emerging growers were more exposed to the Fed’s tightening cycle and rising interest rates. When the Fed’s tightening cycle neared an end, ACWI emerging growers made up ground against their stable growth compounders counterparts.

The risk and return profiles of emerging growers versus stable growth compounders were compared on a rolling 3-year basis. ACWI emerging growers and stable growth compounders generally outperformed the index, but with some important nuances.

Emerging growers generated the highest excess returns from mid-2011 to about mid-2013, and since mid-2017 until the sell-off in 2022 (figure seven). Notably, stable growth compounders led performance for several years, from early 2013 to mid-2017 and from early 2022 through early 2025. Moreover, while emerging growers occasionally lagged the broad markets, stable growth compounders have outperformed the benchmark since early 2012.

The volatility of emerging growers and stable growth compounders were calculated over the same time period (figure eight). The higher volatility of emerging growers compared to the index and stable growth compounders is in line with their higher growth, longer duration profile. Stable growth compounders have often exhibited lower volatility than the broad market historically, but growth companies in general have had higher standard deviation in recent years.

The analysis shows that emerging grower and stable growth compounder performance outcomes are mostly consistent with the characteristics of the underlying companies in the two groups. Emerging growers tend to have more dynamic long-term growth potential but are more volatile; stable growth compounders are more established and less volatile. While each group had different risk and return profiles, both outperformed the index over time.

These patterns of performance tie back to the fact that markets are discounting mechanisms that reward visibility. To generate excess market returns, growth investors must be earlier and more accurate than the market in identifying companies with a clear path to profitability and inflection points in the growth rates of their revenue and earnings. After all, earnings growth has been a potent driver of returns.

Returns have tracked earnings growth

Over the past several decades, the companies with the fastest earnings growth have outperformed through a range of market environments (figure nine). Each company in the emerging growers and stable growth compounders proxy portfolios was mapped to the corresponding performance quintile, to test the hypothesis that they should be concentrated in the first two quintiles of returns. The results were in line with expectations.

The vast majority of emerging growers were concentrated in the top quintile of returns, which is an intuitive result as these companies are in the highest ranks of 5-year earnings growth. Stable growth compounders tended to cluster in the second quintile of returns, with some falling into the third quintile. This is consistent with the levels of earnings growth generated by these companies

Successful growth investing is an active challenge

Putting aside the reversal in returns over that time period, figure nine might suggest a strategy for successful long term growth investing: simply construct a portfolio of stocks from quintiles 1 and 2. It should come as little surprise, however, that the reality is far more complex.

Identifying in advance the companies that will deliver high and sustainable growth is extremely difficult. As a case in point, most companies fail to live up to consensus growth expectations (figure ten).

Companies with expected top quintile EPS growth (according to consensus) contrasted with the actual constituents of those quintiles five years later. Companies that met earnings expectations are “hits;” companies that did not meet expectations are “misses.”

The result?

Less than one fifth of the companies that consensus estimates placed in quintile 1 (mostly emerging growers) met the mark. In quintile 2, the numbers were better – about 25% lived up to consensus expectations five years later.

This data shows that, most of the time, consensus earnings growth forecasts have been either too optimistic or too pessimistic. It also illustrates the market’s inefficiency and the potential benefits of having an experienced research function wholly focused on appraising growth opportunities via fundamental company research. Even small improvements in forecasting can add significantly to long-term returns.

Another example of the challenges of growth investing can be found in the way companies report earnings, the strength of which can be understated by evolving business models and conventional revenue recognition methods. In some cases, employing a different methodology—one that draws on measures such as free cashflow or enterprise value—can reveal underlying strength in a company’s valuation. This helps illustrate that successful growth investing can require active managers with the skill, experience, and resources to spot these irregularities and take advantage of them. 

Navigating for the long term

A long-term perspective on investing is important, despite market uncertainty and volatility. Growth companies that offer differentiated products and services that create real value for society will generally continue to prosper. While demand may be uneven in the short term, the long-term trend is typically positive.

As we have explored, the spectrum of growth is not a monolith. By distinguishing between emerging growers and stable growth compounders, investors can better understand the distinct risk and return profiles that dictate performance across different cycles. While these two groups offer compelling long-term potential, their paths often diverge when market conditions shift, making this framework essential for staying the course when growth falls out of favour.

This aggregated analysis can be viewed as a framework for growth investing. However, Jennison emphasises its belief that success lies in the basic building blocks of fundamental security selection, which, when done well and consistently by a skilled active manager, meaningfully contributes to a long-term investment goal. It is a challenging proposition, but as history has shown, for the active manager, it is a journey that remains profoundly rewarding.

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Notes:
[1] Based on MSCI All Country World Index 5-year rolling returns from 1997-2024
[2] Based on MSCI All Country World Index. For this analysis we used company data going to back to 2005, the first year in our view with enough data to ensure thorough and meaningful analysis.
[3] Revenue growth based on 3-year historical revenue growth and earnings growth based on 5-year historical EPS Growth (equivalent to 736 of an average of 2,646 companies in the MSCI ACWI from June 2005 through June 2025). When we raise the growth threshold to 15% based on 3-year historical revenue growth, and 20% based on 5-year historical EPS Growth, this proportion shrinks to about a tenth of the index (or 11%, equivalent to 297 companies).

Important information: While every care has been taken in the preparation of this document, neither Jennison LLC nor PAN-Tribal Asset Management Pty Limited ABN 35 600 756 41 AFSL 462065 make any representation as to the accuracy or completeness of any statement in it, including without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This document has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this document, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This document has been prepared for use by sophisticated investors and investment professionals only and is solely for the use of the party to whom it is provided. The views expressed herein are those of Jennison LLC investment professionals at the time the comments were made and may not be reflective of their current opinions and are subject to change without notice. Forecasts may not be achieved and are not a guarantee or reliable indicator of future results. Certain third party information in this document has been obtained from sources that Jennison believes to be reliable as of the date presented; however, Jennison cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. Jennison has no obligation to update any or all such third party information. There is no assurance that any forecasts, targets, or estimates will be attained. Jennison uses the Global Industry Classification Standard (GICS®) for categorizing companies into sectors and industries. The Global Industry Classification Standard (GICS®) is the exclusive intellectual property of MSCI Inc. (MSCI) and Standard & Poor’s Financial Services, LLC (S&P). Neither MSCI, S&P, their affiliates, nor any of their third party providers (“GICS Parties”) makes any representations or warranties, express or implied, with respect to GICS or the results to be obtained by the use thereof, and expressly disclaim all warranties, including warranties of accuracy, completeness, merchantability and fitness for a particular purpose. The GICS Parties shall not have any liability for any direct, indirect, special, punitive, consequential or any other damages (including lost profits) even if notified of such damages. The S&P index(es) (“Index”) is a product of S&P Dow Jones Indices LLC and/or its affiliates and has been licensed for use by Jennison LLC. Copyright © 2022 S&P Dow Jones Indices LLC, a division of S&P Global, Inc., and/or its affiliates. All rights reserved. Redistribution or reproduction in whole or in part are prohibited without written permission of S&P Dow Jones Indices LLC. For more information on any of S&P Dow Jones Indices LLC’s indices please visit www.spdji.com. S&P® is a registered trademark of S&P Global and Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC. The Russell 1000® Growth Index measures the performance of the large cap growth segment of the US equity universe. It includes those Russell 1000 companies with relatively higher price-to-book ratios, higher I/B/E/S forecast medium term (2 year) growth and higher sales per share historical growth (5 years). The Russell 1000® Index is an index of approximately 1,000 of the largest companies in the U.S. equity market. The Russell 1000 is a subset of the Russell 3000 Index. It represents the top companies by market capitalization. It is considered a bellwether index for large cap investing. The financial indices referenced herein are provided for informational purposes only. The MSCI All Country World Index (MSCI ACWI) is a free float- adjusted market capitalisation weighted index designed to measure the equity market performance of developed and emerging markets. The MSCI ACWI comprises 24 developed country market indexes and 21 emerging market country indexes. The financial indexes referenced herein are provided for informational purposes only. Financial indices are unmanaged and assume reinvestment of dividends but do not reflect the impact of fees, applicable taxes or trading costs which may also reduce the returns shown. All indices referenced in this presentation are registered trade names or trademark/service marks of third parties. References to such trade names or trademark/service marks and data is proprietary and confidential and cannot be redistributed without Jennison’s prior consent. Investors cannot directly invest in an index.

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The sell discipline is one of the most complex, and least understood parts of the investment process.

Don’t let conviction become complacency

An investment manager’s analysts should conduct deep research that includes onsite meetings with a company’s senior leadership, customers, suppliers and competitors, and should also evaluate financial statements. All of this information will inform the manager’s fundamental outlooks and earnings models.

For example, Jennison Associate’s global equity team focuses on the magnitude and duration of the long-term growth drivers for each company the portfolio holds. The team is willing to accept short-term stock price volatility as part of the price that needs to be paid for the potential to create significant growth in value over time.

Evaluating a company’s fundamental prospects requires a deep understanding of its competitive advantages and growth potential, especially for emerging growers in their early stages. Usually, these take a long time to develop and become entrenched, which makes a long-term mindset essential.

However, this long-term mindset should not be misconstrued as complacency or a plan to buy and hold for a long period. The sources and nature of growth drivers are continuously evolving and changing over time, and so the best global growth equity portfolios must reflect and mirror that all the time.

Effectively identifying early indications that a company’s growth expectations might not be met is also a critical component of generating attractive long-term returns. Long-duration growth companies, after all, are not common, and identifying in advance the companies that will deliver high and sustainable growth can be extremely difficult.

Historical data shows that most companies fail to live up to consensus growth expectations (figure one). To demonstrate this point, the MSCI All Country World Index has been grouped into quintiles using historical five-year earnings growth—companies in quintile 1 had the highest earnings growth and companies in quintile 5 had the lowest earnings growth.

Figure one highlights consensus earnings estimates of companies in quintiles 1 and 2 compared to realised earnings growth five years later. Companies that remained in the quintiles after five years were “hits.” Companies that dropped out of the quintiles were “misses.” In both of the top quintiles, less than 20 percent of companies lived up to consensus expectations for earnings growth.

MSCI All Country World Index data from June 2005 through December 2023. Companies with expected top quintile EPS growth (according to consensus) contrasted with the actual constituents of those quintiles five years later. Companies that met earnings expectations are “hits;” companies that did not meet expectations are “misses.” For this analysis we used company data going to back to 2005, the first year in our view with enough data to ensure thorough and meaningful analysis. In addition, we sought 19 years of data (versus a more standardised 15 year period) to have enough context for the Global Financial Crisis in 2008–2009.

The market’s errors in predicting growth stocks fall into two categories:

• overly optimistic – trees really can grow to the sky
• overly pessimistic – this can’t go on, returns will revert back to the mean soon.

Global stocks that suffer from over-optimism need to be weeded out of a portfolio, while stocks experiencing over pessimism can turn into long-term winners. These ought to have more capital allocated to them in the portfolio. For this reason, a strict “buy-and-hold” approach to investing does not always deliver the best investor outcomes.

In the ideal global growth portfolio, holdings must earn their place in every day. Further, “low portfolio turnover” is not an inherent virtue. On the contrary, the more rapidly the world changes, the more it can be seen as a detriment to long-term outperformance.

Conviction cuts both ways

The pitfalls of a strict buy-and-hold approach are obvious after considering the history of the corporate world.

For example, many growth darlings that dominated industries for many years eventually lost leadership because of new technologies, new competitors, or a new macroeconomic environment – for example, Blackberry and Yahoo. It would be an act of complacency—if not arrogance—to assume that the holdings in a global portfolio at any point in time will justify the investment teams’ theses and always represent their view of the best growth ideas in the world over the subsequent three-to-five-year periods.

Ideally, investment teams are open minded and rigorous in their global portfolio construction. This means the team is constantly “weeding the garden,” identifying and exiting stocks where the growth may be maturing, new competition may be emerging, or execution may be failing to deliver on its initial promise. This allows the investment team to be patient over the long term with potential” flowers”—companies that the team believes will blossom and have the potential for high returns and high growth over the long term.

In many global portfolios, portfolio holdings will offer this potential at any given time but, at the time of purchase, it is impossible to know which ones will continue to earn their place over several years.

The most successful companies over the long term have been able to innovate, evolve and reinvent

themselves. They string a sequence of great business ideas together to create wave after wave of strong growth. For example, Mercado Libre, Latin America’s largest online marketplace, continued to innovate by creating an ecosystem of additional product offerings around its e-commerce platform, including payment solutions, logistics, financing, advertising and software services.

Sell discipline: both an art and a science

Most investment teams have a rationale for their sell discipline. This might include selling a position for reasons such as:

• to fund more attractive growth opportunities
• to realise gains
• to reflect a change in fundamentals that alters the analyst’s investment thesis.

A rigorous approach to portfolio management should see an investment manager not satisfied holding a company—even if it is successful—if it believes there are more attractive opportunities available. It is important that the investment team constantly evaluates what the opportunity set is relative to the risk/reward in other stocks it does and can own.

There are times when the idea that fuels a company’s growth runs its course, the “new” market gets saturated, and the company appears to have no promising ideas in development. Alternatively, a manager can elect to exit a position because the company’s strategy is sound, the management is effective and the market appreciative. The stock reaches its price target and the investment thesis is fulfilled.

Another reason to sell is a deterioration in the company’s fundamentals. An obvious sign of trouble is a shortfall in earnings and revenue, but this can reflect several issues—not all of them negative. For example, many earnings disappointments do not reflect a company’s longer-term potential and investors will need to ride out these speed bumps toward higher growth. Orders and revenues may be pushed into later time periods, but this represents growth deferred rather than growth lost. Other times, however, revenue and market share growth falls below expectations for salient issues, which might reveal flaws in the investment thesis. Investment teams rely on deep fundamental analysis to distinguish between the different types of disappointments.

There are several factors to consider when making sell decisions, and their relative importance will vary according to the circumstances. Accordingly, it is important to measure the success rates of those decisions, over the short, medium, and long term.

Using the example of Jennison’s Global Equity Opportunities strategy, figure two illustrates the percentage of the team’s sell decisions that go on to subsequently underperform the market (blue bars) or the rest of the portfolio (green bars). This data is for the Global Equity Opportunities representative portfolio and is based on the final sale only.

As figure two highlights, more than 50 percent of the stock sold underperformed the global portfolio in the subsequent one-year period following the sale. Over the subsequent five-year period, the percentage of companies that underperformed the global portfolio (after sale) increased to 74 percent.

As of June 30, 2024. *Inception of Global Equity Opportunities Composite: 4/30/11. Source: Jennison, MSCI and FactSet. Gross of fee performance is presented before custodial and Jennison’s actual advisory fees but after transaction costs. Net of fee performance shown reflects the deduction of a model fee. Due to the inclusion of performance-based fee accounts, model net of fee performance presented herein may be higher or lower than the actual net of fee performance of the composite. Model net of fee performance is based on the highest tier of the standard asset-based fee schedule (0.75%). Actual net of fee returns are available upon request and are calculated using estimated performance fee accruals, where applicable, which are subject to change based on the account’s performance as of each period end until the actual fees are invoiced. Please visit https://www.jennison.com/gips-global-equity-opportunities for the Global Equity Opportunities Composite presentation, which includes fee information and criteria for composite performance creation. Past performance does not guarantee future results. **The performance of GEO stocks sold from portfolio is based on Jennison’s books and records of a representative account prior to fees being charged. Information is supplemental to the Global Equity Opportunities Composite presentation. Please visit https://www.jennison.com/gips-global-equity-opportunities for the Global Equity Opportunities Composite presentation. The bar chart above shows how stocks have performed after being eliminated from the portfolio (i.e., 1 year after final sale, 3 years after final sale, etc.). Data is shown since the inception (6/1/11) of the Global Equity Opportunities representative portfolio. The total number of holdings is dependent on the time period and the final sale date. This illustration includes securities that have been added back to the portfolio if the security was eliminated again after repurchase. Past performance does not guarantee future results.

Short-term rigor enhances long-term focus

Great growth ideas can deliver strong returns for long periods of time, so it is crucially important that a sell discipline accounts for the risks of selling too early as much as holding a stock after its key growth drivers have matured.

There is a need to focus on both risks equally: for example, a significant portion of Jennison’s long-term returns have come from stocks the manager has held for greater than four years (figure three). The aspect that isn’t visible in the chart below is that Jennison’s team is able to allocate more capital to these long-term winners (“the flowers”) because the team is quick to exit those stocks where the thesis is not working (“the weeds”).

Based on Jennison’s books and records of a representative account prior to fees being charged. Inception Global Equity Opportunities Composite: 4/30/11. Information is supplemental to the Global Equity Opportunities Composite presentation. Please visit https://www.jennison.com/gips-global-equity-opportunities for the Global Equity Opportunities Composite presentation. GEO = Global Equity Opportunities. The total sum of contribution to return data for the GEO portfolio is based on the cumulative sum of all securities held within each holding period range shown since inception, and is then annualized. Note that this analysis includes those securities that were held in the GEO portfolio for at least one month or more since inception. The holdings included in the above analysis do not represent all of the securities purchased, sold or recommended by Jennison during the time period shown. A complete list of holdings and how each contributed to the overall portfolio’s return is available upon request.

Finding growth

Many business models and growth ideas today are lumped together under the “growth category,” but they may not offer exposure to pure growth. Understanding the differences one business model at a time—one growth driver at a time—can reveal enormous disparities. Some business models become more cyclical as they grow and mature. Others accelerate as adoption rates and the size of addressable markets increase simultaneously.

Investors need to understand this evolution in real time, determine the market value, and make a judgment on whether to buy more, hold, or sell a security.

A critical part of investment success

The sell discipline is one of the most complex, and least understood parts of the investment process. Jennison believes it is essential to keep “weeding the garden” by constantly monitoring the viability and investment thesis of each holding. Long-term growth companies are rare, and many fail to fulfill investor expectations.

Each holding must continuously justify its place in Jennison’s global portfolios. The manager’s sell discipline is a critical element to its investment success: it eliminates the companies that fail to fulfill our investment theses and offers us the capital to devote more resources to “flowers”—companies that the team believes have the potential to compound their growth over time and deliver long-term outperformance to investors.

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Important information: While every care has been taken in the preparation of this document, neither Jennison Associates LLC nor PAN-Tribal Asset Management Pty Limited ABN 35 600 756 41 AFSL 462065 make any representation as to the accuracy or completeness of any statement in it, including without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This document has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this document, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This document has been prepared for use by sophisticated investors and investment professionals only and is solely for the use of the party to whom it is provided. Performance results are calculated in US dollars and reflect reinvestment of dividends and other earnings. Periods greater than 1 year are annualized unless otherwise noted. Certain data provided is based on a representative Jennison Global Equity Opportunities portfolio. The representative portfolio was selected because it is in the composite, and we believe the holdings, characteristics and risk profiles are representative of these strategies. The views expressed herein are those of Jennison Associates LLC investment professionals at the time the comments were made and may not be reflective of their current opinions and are subject to change without notice. Forecasts may not be achieved and are not a guarantee or reliable indicator of future results. Certain third-party information in this document has been obtained from sources that Jennison believes to be reliable as of the date presented; however, Jennison cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. Jennison has no obligation to update any or all such third-party information. There is no assurance that any forecasts, targets, or estimates will be attained.References to specific securities and their issuers are for illustrative purposes only and are not intended and should not be interpreted as recommendations to purchase or sell such securities. This material is only intended for investors who meet qualifications as institutional investors as defined in the applicable jurisdiction where this material is received. This material is not for use by retail investors and may not be reproduced or distributed without Jennison Associates LLC’s permission. 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It should not be assumed that any of the securities transactions or holdings discussed were or will prove to be profitable, or that the investment recommendations or decisions we make in the future will be profitable or will equal the investment performance of the securities discussed herein. In providing these materials, Jennison is not acting as your fiduciary. These materials do not purport to provide any legal, tax or accounting advice. Asset allocation strategies do not assure a profit or protect against loss in declining markets. Jennison Associates is a registered investment advisor under the U.S. Investment Advisers Act of 1940, as amended, and a Prudential Financial, Inc. (“PFI”) company. Registration as a registered investment adviser does not imply a certain level of skill or training. Jennison Associates LLC has not been licensed or registered to provide investment services in any jurisdiction outside the United States. Additionally, vehicles may not be registered or available for investment in all jurisdictions. Prudential Financial, Inc. of the United States is not affiliated in any manner with Prudential plc, incorporated in the United Kingdom or with Prudential Assurance Company, a subsidiary of M&G plc, incorporated in the United Kingdom. Please visit https://www.jennison.com/important-disclosures for important information, including information on non-US jurisdictions. References to indices, benchmarks or other measures of relative market performance over a specified period of time are provided for your information only and do not imply that the portfolio will achieve similar results. The index composition may not reflect the manner in which a portfolio is constructed. While an adviser seeks to design a portfolio which reflects appropriate risk and return features, portfolio characteristics may deviate from those of the benchmark. The MSCI All Country World Index is a free float-adjusted market capitalization weighted index designed to measure the equity market performance of developed and emerging markets. It comprises approximately 24 developed and 21 emerging market country indexes. The financial indices referenced herein are provided for informational purposes only. When comparing the performance of a manager to its benchmark(s), please note that the manager’s holdings and portfolio characteristics may differ from those of the benchmark(s). Additional factors impacting the performance displayed herein may include portfolio-rebalancing, the timing of cash flows, and differences in volatility, none of which impact the performance of the financial indices. Financial indices are unmanaged and assume reinvestment of dividends but do not reflect the impact of fees, applicable taxes or trading costs which may also reduce the returns shown. All indices referenced in this presentation are registered trade names or trademark/service marks of third parties. References to such trade names or trademark/service marks and data is proprietary and confidential and cannot be redistributed without Jennison’s prior consent. Investors cannot directly invest in an index. MSCI information may only be used for your internal use, may not be reproduced or redisseminated in any form and may not be used as a basis for or a component of any financial instruments or products or indices. None of the MSCI information is intended to constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such. Historical data and analysis should not be taken as an indication or guarantee of any future performance analysis, forecast or prediction. The MSCI information is provided on an “as is” basis and the user of this information assumes the entire risk of any use made of this information. MSCI, each of its affiliates and each other person involved in or related to compiling, computing or creating any MSCI information (collectively, the “MSCI Parties”) expressly disclaims all warranties (including, without limitation, any warranties of originality, accuracy, completeness, timeliness, non-infringement, merchantability and fitness for a particular purpose) with respect to this information. Without limiting any of the foregoing, in no event shall any MSCI Party have any liability for any direct, indirect, special, incidental, punitive, consequential (including, without limitation, lost profits) or any other damages.

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Understanding the characteristics of emerging growers and stable growth compounders is essential for recognising how these companies contribute value to an investor’s portfolio.

Companies that generate strong, sustainable growth are valuable sources of long term capital appreciation in a portfolio, but these businesses are rare, difficult to identify and exist on a broad spectrum. The spectrum includes companies ranging across sectors, countries and stages of their life cycles.

The most attractive companies generally fall into one of two main groups: emerging growers and stable growth compounders. By applying an empirical lens to these two groups across nearly two decades, it is possible to see how their investment characteristics have affected performance outcomes. This is important for growth investors to know as they steer through different market cycles. While this framework helps explain growth equity performance, it is not a substitute for the bottom-up, fundamental analysis essential to identify long term growth investment opportunities.

The growth landscape

Companies that deliver above-average, sustainable growth over the long term are among the most valuable investments in the markets. These companies generate the strongest compound returns over time, a role that has been amply rewarded by investors.

The fastest-growing companies have consistently led performance over the past three decades and through a range of market environments^[1].

Growth companies, however, are rare. Since mid-2005^[2], about one out of four publicly listed large- and mid-capitalisation companies globally posted seven percent or greater annualised revenue growth and 10 percent or higher earnings growth. When the revenue growth threshold is raised to 15 percent and earnings growth to 20 percent, the number falls to about one in ten companies (figure one)^[3]. In the United States, the number of stable growth compounders and emerging growers together is slightly higher than globally – almost one in three companies.

The sources of growth can vary and are often fluid. While strong, persistent growth is typically driven by innovation or technological disruption, the drivers are rarely, if ever, predictable or static. In the course of fundamental research, growth investors Jennison Associates has observed two distinct types of growth companies: emerging growers and stable growth compounders.

Although both groups consist of growth stocks, the differences in their characteristics and performance can be profound (figure two). In this article, the risk and return patterns of both groups are examined across a range of market scenarios, especially during periods of high volatility. This analysis offers several critical insights into the challenges and opportunities of growth investing over the long term.

Emerging growers and stable growth compounders

Emerging growers are typically young disruptors, in a new or developing industry, and offer significant upside potential. To fuel their rapid growth, these companies reinvest their cash flow into sales, marketing, research, product development and achieving scale, while reporting relatively low – or no –profits. These strategic decisions can depress margins and earnings over the short term (usually 1–2 years), but this is typically followed by a phase of pronounced growth over the following 3-5 years.

Emerging growers have been concentrated in many different industries over the past several decades. In the 1980s, they were found among pharmaceutical and biotech firms; in the 1990s, they were computer hardware and internet companies; today, many are concentrated in technology software and services.

Stable growth compounders also demonstrate above average growth potential, but they have a history of profitability and established drivers of growth. They are often former emerging growers that have matured into large or mega cap companies with a flourishing mix of products and services.

Stable growth compounders can maintain their competitive position through continued innovation and expansion into new markets or by leveraging an established business that cannot be easily replicated by competitors. They can be found in a range of industries, including technology, luxury goods and high-end brands, and healthcare.

The differences between these two groups impact their performance. Emerging growers have longer duration profiles and can be relatively volatile. They also tend to be more sensitive to market uncertainty because they have little history of reported earnings. Traditional valuation measures that are earnings-based, such as price-to-earnings, can make them appear unattractive, especially in their early years.

Long-duration growth companies, in this context, have the bulk of their expected profits weighted towards more distant time periods. Conversely, short-duration companies are expected to report a more significant share of their future profits in the near term.

Due to their longer duration profiles, emerging growers also tend to underperform in a rising rate environment as investors apply a higher discount to future cash flows. However, in periods of stable economic growth and flat or declining interest rates, emerging growers are usually among the market leaders.

Stable growth compounders, on the other hand, typically have shorter duration profiles and can be less volatile, as their profits are usually more visible and their sources of growth more established or diverse. This can lead stable growth compounders to outperform emerging growers during periods of economic uncertainty, but their long term upside potential tends to be lower.

To further explore observations of emerging grower versus stable growth compounder behaviour, an empirical lens was applied to the global and US equity universes (as measured by the MSCI ACWI and the S&P 500 Index). Proxies were created for the two groups by screening each index based on realized revenue and earnings growth levels (figure three).

The parameters for emerging growers were 3-year trailing revenue growth rates above 15 percent and 5-year trailing earnings per share (EPS) growth rates above 20 percent. For stable growth compounders, lower thresholds were set – revenue growth rates of 7-15 percent and EPS growth rates between 10-20 percent.

These revenue and earnings screens are a simplification, one that serves as a useful way to aggregate and analyse two groups of growth companies that possess attributes that should allow them to generate strong returns for shareholders.

For the purposes of this analysis, the focus has been on companies that have reported positive earnings for most of the previous five years and have been growing in the ranges specified above. However, there are many high-growth companies that have not yet reported profits on a consistent basis, and some of these may offer compelling investment opportunities.

Insights from our performance analysis

Each group’s performance compared to the index was calculated from June 2005 through to December 2023 (figure four). Overall, both outperformed the MSCI ACWI during this time period. Stable growth compounders led, gaining 9.5 percent on an annualised basis compared to 9.0 percent by emerging growers and 7.4 percent by the index.

The S&P 500 Index tells a different story. Due in part to the index’s heavier exposure to tech companies, emerging growers led stable growth compounders 12.4 percent versus 11.5 percent,

respectively, compared to the index’s return of 10.0 percent.

These growth stocks set a positive trajectory over time, but their paths are not perfectly linear. To gain more perspective on the performance of the two groups during periods of uncertainty, we identified six peaks in market volatility and the events that coincided with them:

• the global financial crisis (GFC)
• US debt downgrade (2011)
• flash crash (2015)
• market correction (2018)
• COVID-19 outbreak, and the Fed interest rate tightening cycle (2021–2023).

These market events included major credit defaults, sudden panics, technical trading events, and pandemic and macroeconomic pressures. This allowed us to examine growth equity performance across different settings, with the common thread being that they each represented high volatility, tail-risk scenarios.

In these volatile environments, stable growth compounders globally outperformed emerging growers in each period except for the US debt downgrade and the COVID-19 outbreak (figure five).

The outperformance, however, did not last beyond relatively short periods of market instability, which suggests that there could be more sensitivity of returns for stable growth compounders in a prolonged macro event, such as the GFC.

The divergence in returns between emerging growers and stable growth compounders became significant during and after the COVID-19 outbreak (figure six).

After March 2020, emerging growers outperformed stable growth compounders and the broad market by 12 and 11 percentage points, respectively, over the next five quarters. However, this performance reversed during the Fed tightening cycle, when emerging growers underperformed stable growth compounders and the broad market.

Both groups benefited from the surge in technology adoption during the COVID-19 shutdowns, but emerging growers were more exposed to the Fed’s tightening cycle and rising interest rates. When the Fed’s tightening cycle neared an end, ACWI emerging growers made up ground against their stable growth compounders counterparts.

It is notable that US equities show a different pattern. In their case, US emerging growers fell below stable growth compounders as the Fed tightened rates, but this decline came from a much higher peak, enabling emerging growers to recover more quickly and rise to near parity with stable growth compounders by the end of the period.

The risk and return profiles of emerging growers versus stable growth compounders were compared on a rolling 3-year basis. ACWI emerging growers and stable growth compounders generally outperformed the index, but with some important nuances.

Emerging growers generated the highest excess returns from mid-2011 to about mid-2013, and since mid-2017 until the sell-off in 2022 (figure seven). Notably, stable growth compounders led performance for several years, from early 2013 to mid-2017. Moreover, while emerging growers occasionally lagged the broad markets, stable growth compounders have outperformed the benchmark since early 2012. The pattern of US large cap companies was similar.

The volatility of emerging growers and stable growth compounders were calculated over the same time period (figure eight). The higher volatility of emerging growers compared to the index and stable growth compounders is in line with their higher growth, longer duration profile. However, stable growth compounders have often exhibited lower volatility than the broad market, except for 2015 through early 2019.

The analysis shows that emerging grower and stable growth compounder performance outcomes are mostly consistent with the characteristics of the underlying companies in the two groups. Emerging growers tend to have more dynamic long-term growth potential but are more volatile; stable growth compounders are more established and less volatile. While each group had different risk and return profiles, both outperformed the index over time.

These patterns of performance tie back to the fact that markets are discounting mechanisms that reward visibility. To generate excess market returns, growth investors must be earlier and more accurate than the market in identifying companies with a clear path to profitability and inflection points in the growth rates of their revenue and earnings. After all, earnings growth has been a potent driver of returns

Returns have tracked earnings growth

Over the past several decades, the companies with the fastest earnings growth have outperformed through a range of market environments (figure nine). Each company in the emerging growers and stable growth compounders proxy portfolios was mapped to the corresponding performance quintile, to test the hypothesis that they should be concentrated in the first two quintiles of returns. The results were in line with expectations.

The vast majority of emerging growers were concentrated in the top quintile of returns, which is an intuitive result as these companies are in the highest ranks of 5-year earnings growth. Stable growth compounders tended to cluster in the second quintile of returns, with some falling into the third quintile.

This is also consistent with the levels of earnings growth generated by these companies. While long-term data shows that the top earnings growers lead performance, this trend reversed in the 12 months through to 30 September 2022. Investors, facing the uncertainty of a step change in inflation and interest rates, sold the high growers ostensibly for the perceived safety of shorter-duration growth stocks.

Successful growth investing is an active challenge

Putting aside the reversal in returns over that time period, figure nine might suggest a strategy for successful long term growth investing: simply construct a portfolio of stocks from quintiles 1 and 2. It should come as little surprise, however, that the reality is far more complex.

Identifying in advance the companies that will deliver high and sustainable growth is extremely difficult. As a case in point, the vast majority of companies fail to live up to consensus growth expectations in both the MSCI ACWI and the S&P 500 Index (figure ten). Companies with expected top quintile EPS growth (according to consensus) contrasted with the actual constituents of those quintiles five years later. Companies that met earnings expectations are “hits;” companies that did not meet expectations are “misses.”

Companies were mapped into quintiles 1 and 2 according to consensus earnings growth expectations and then contrasted the results with the actual constituents of those quintiles five years later.

The result?

Less than one fifth of the companies that consensus estimates placed in quintile 1 (mostly emerging growers) met the mark. In quintile 2, the numbers were even worse—about 15 percent lived up to consensus expectations five years later. When we focus on US companies, the hit/miss rate is slightly higher but supports the overall conclusion.

This data shows that, most of the time, consensus earnings growth forecasts have been either too optimistic or too pessimistic. It also illustrates the market’s inefficiency and the potential benefits of having an experienced research function wholly focused on appraising growth opportunities via fundamental company research. Even small improvements in forecasting can add significantly to long-term returns.

Another example of the challenges of growth investing can be found in the way companies report earnings, the strength of which can be understated by evolving business models and conventional revenue recognition methods. In some cases, employing a different methodology—one that draws on measures such as free cashflow or enterprise value—can reveal underlying strength in a company’s valuation. This helps illustrate that successful growth investing can require active managers with the skill, experience, and resources to spot these irregularities and take advantage of them.

Navigating for the long term

A long-term perspective on investing is important, despite market uncertainty and volatility. Growth companies that offer differentiated products and services that create real value for society will generally continue to prosper.  While demand may be uneven in the short term, the long-term trend is typically positive.

As investors look for companies that will generate sustainable growth, we believe they can benefit from a deep understanding of the differences within the spectrum of growth equities—especially emerging growers and stable growth compounders. As we have demonstrated, companies from these two groups have compelling long-term return potential, but also distinct risk and return profiles. Over the shorter term, their performance can vary, especially against changing market backdrops. An understanding of these differences can help investors navigate market cycles as growth comes into, and goes out of, favour.

This aggregated analysis can be viewed as a framework for growth investing. However, Jennison emphasises its belief that success lies in the basic building blocks of fundamental security selection, which, when done well and consistently by a skilled active manager, meaningfully contributes to a long-term investment goal. This is a challenging proposition, but one that history demonstrates can be achievable and, above all, rewarding.

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Notes:
[1] Based on MSCI All Country World Index and the S&P 500 Index 5-year rolling returns from 1992-2023
[2] This analysis used company data going to back to 2005, the first year with enough data to ensure thorough and meaningful analysis. In addition, 19 years of data (versus a more standardised 15 year period) was used to have enough context for the Global Financial Crisis in 2008–2009.
[3] Revenue growth based on 3-year historical revenue growth and earnings growth based on 5-year historical EPS Growth (equivalent to 716 of an average of 2,642 companies in the MSCI ACWI from June 2005 through December 2023). When the growth threshold was raised to 15% based on 3-year historical revenue growth, and 20% based on 5-year historical EPS Growth, this proportion shrinks to about a tenth of the index (or 11%, equivalent to 288 companies).

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