It’s a difficult time to be a manager of a growth fund in the current market. Investors are no longer willing to pay high earnings multiples to own these types of stocks, and inflationary pressures mean growth is evaporating for many companies in this space.

This matters because investors have put a lot of faith in growth funds over the past decade as they’ve delivered some of the best returns. ISAs and pensions are full of these types of investment products.

For example, between the start of 2012 and 1 November 2021, the MSCI All Countries World Growth index generated a 345% total return in sterling, according to FE Fundinfo. That’s nearly four times the 90% total return from the UK’s FTSE 100 index.

There has subsequently been a reversal of fortunes. Since 1 November 2021 and the end of September 2022, on a total return basis the MSCI All Countries World Growth index has lost 15% whereas the FTSE 100 has only dipped 2%.

So, for someone whose portfolio contains growth funds, the past 11 months have been challenging to say the least. Popular names to have taken a beating include Scottish Mortgage (SMT) which is down 49%, Blue Whale Growth Fund (BD6PG78) has dropped 26% and Fundsmith Equity Fund (B41YBW7) has lost 10%.

With everything looking so gloomy, it’s understandable that market sentiment is poor. However, there is also a decent chance some good companies are now on sale at great prices.

History shows the market tends to overreact. When everything is looking good, stocks can over overshoot on the way up, and that’s precisely what happened last year as we came out of the pandemic. Valuations got too rich for many businesses. This year the opposite has happened, with companies being sold down indiscriminately regardless of whether their growth prospects have got worse, stayed the same or improved.

It may feel hard given the background noise, but now could be a good time to start looking for the stocks that could deliver good returns in the future. Posting on Twitter, fund manager Simon Young (@UKstockpicker) recalled one of his mentors who ran the Mercury Keystone Trust, who said that in periods with big share price declines, ‘buy a little bit of sensible companies and in the long run you’ll do ok.’ That’s a sound approach.

A lot of growth funds will be setting themselves up for the next leg by picking up quality stocks that don’t normally trade this cheaply. For example, George Sakellaris, manager of the Brown Advisory US Mid Cap Growth Fund (BYW8R75), says he has been buying quite a few stocks since markets turned down.

Sakellaris accepts there could be more downgrades to earnings forecasts and that the broader economic backdrop isn’t great, however being an investor is about taking advantage of opportunities and he believes there are plenty of them available.

DISCLAIMER: The author owns units in Fundsmith Equity Fund.

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