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Catching the growth train
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February 22, 2000: 10:51 a.m. ET
Firstar manager sees two-to-three years of substantial upside in small caps
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NEW YORK (CNNfn) - Record runs on the Russell 2000 Index last week following triple-digit returns in 1999 for many small-cap growth funds has made the small-cap universe a rewarding place for some investors.
It's little surprise, then, that assets in the funds grew by more than $1 billion in January, while S&P 500 funds lost nine times that amount.
Also in this column, bloated Franklin Small Cap Growth Fund shuts its doors to new investors, but a successor waits in the wings.
Such a rush begs the question, though: Is it too late to get in and play?
Judging from history, no, said Joe Frohna, portfolio manager for Firstar MicroCap Fund, one of the top performers among small-cap funds with a five-star rating from Morningstar. As of Feb. 18, Frohna's fund had gained nearly 25 percent year to date.
"It's still a very good time to get in," Frohna said. "The rally has a lot of legs left in it."
So good, in fact, that he would recommend the individual investor have between a 25 percent to 30 percent weighting in small caps in her portfolio.
Historically, resurgences like the one seen now in small-cap stocks run for two-to-three years, Frohna said, and he believes small-cap funds are just now enjoying the first wave of money inflows, which are better than they have been in 10 years.
In the last 14 months, his funds' assets have quadrupled to roughly $450 million, which is why he closed it to new investors in January.
Given their solid earnings growth, Frohna said, small caps may be trading at a premium to large caps in the next few years.
"There are pretty nice returns to be had in the small-cap universe," he said.
But as stellar as in 1999? Probably not, Frohna conceded, primarily because "you're already coming off a high base."
And some of the players, like biotech stocks, that have fueled the Russell 2000's northward sprint may be coming off their highs. Frohna sees the biotech craze as one with limits.
"Biotech will work for awhile, until it doesn't," he said, noting that much like Internet stocks, valuations will get out of hand and investors will wise up.
He has steered clear of the business-to-consumer dot.coms - for which, he said, "the party's over for awhile" -- opting instead for the enablers of that industry.
At the moment, he has his eye on some wireless and software companies that show great promise. One is Aeroflex (ARX: Research, Estimates), which he said is attractive because it makes components for fiber optic networks and satellite businesses, both highly appealing draws to investors.
Business software maker Level 8 Systems (LVEL: Research, Estimates) also has Frohna's attention because, he said, it's trading at about one-fifth of its true value and has strong revenue growth.
Franklin Small Cap Growth closes, but spawns anew
Come April, another high-flyer and literal heavyweight in the small-cap universe will close its doors to most new investors.
Franklin Small Cap Growth, with $11 billion in assets and year-to-date gains of 14 percent, has grown awfully fat for traditional small-cap positions, especially considering the average fund carries just $283 million in assets, according to Morningstar.
"We believe it is in the best interest of the fund and its shareholders to limit the cash flow at this time," portfolio manager Ed Jamieson said in a statement.
But don't despair. In May, you will be able to invest in a new fund - the Franklin Small Cap Growth Fund II - which will have the same management team and investment strategy, just not the considerable heft of its predecessor. 
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