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Equity Perspectives

Growth faces stiff headwinds today, but American capitalism is alive and well. Innovative companies are engaged in creative destruction, positioning themselves to exploit six big "growth rivers" that have the potential to flow a long way.

If there is one term that underscores the need for active managers, it's "creative destruction," a term popularized by renowned capitalist Joseph Schumpeter to describe the incessant confluence of obsolescence and innovation. As old markets stagnate or shrink, seismic shifts in demand give rise to new consumers, goods, and methods of production. Finding tomorrow's growth leaders will be a big challenge, especially given the slow economic growth of the developed world, which is currently mired in debt. But Lord Abbett analysts and portfolio managers have identified six growth themes that they believe have significant upside potential over the next decade even if economic headwinds pick up as some academics expect. The thematic approach breaks down as follows:

1) The Ongoing Digitization of Society
According to Northwestern economics professor Robert J. Gordon, computers and the Internet underpin the Third Industrial Revolution.1 Driving that revolution are such growth engines as e-commerce (sales over the Internet); hosted software (the delivery of software from a site where it is hosted on the Internet); social networks (platforms that connect individuals and businesses); mobility; and cloud computing (a vast network of remote servers that have added unprecedented functionality to the technology ecosystem). Meanwhile, the Internet has enabled a mobility boom by linking itself to telecommunications networks. This has led to a proliferation in advanced wireless devices and has changed the way consumers and businesses communicate. But because of the enormous complexity all of this creates, the Internet's infrastructure, overburdened as it is today, is being upgraded through cloud computing, thereby elevating itself to a new functional level. These growth engines are bringing about an ongoing digitization of society.

2) U.S. Mass Consumerism

Although consumer spending in the developed world may grow at a subdued pace, creative destruction is alive and well in many consumer markets. Simply put, consumer companies are helping consumers look good and feel good. They also are making their lives much more convenient through a growing market in at-home products and services. And rapidly growing social networking sites are empowering individuals to take full advantage of this.

These trends open up big new markets for "winner take most" companies. These include apparel manufacturers and retailers as well as a wide variety of beauty products, ranging from cosmetic lasers to invisible braces. Compelling approaches to basic human needs or desires, such as sleep, beauty, and health, are also generating significant growth. So are alluring changes in the global luxury market, which has seen robust growth, especially in some of the largest emerging nations. Meantime, innovation at home that makes consumers' lives more convenient and economical is another growth category. For example, companies have developed brewing machines to allow single servings of a cup of coffee and carbonated beverages with healthier and tastier ingredients. Household chores, such as vacuuming and floor washing, are now performed by robots.

3) Emerging Nations
The superior growth rates of emerging nations, relative to the developed world, are giving rise to a growing middle class in these nations. The implications for increased spending are staggering. Ernst & Young predicts that three billion people will join the middle class by 2030,2 and the Organization for Economic Co-operation and Development (OECD) believes the middle class in the Asia-Pacific region alone could spend an incremental $25 trillion by 2030.3

We think that the growth in emerging nations will shift this decade toward the consumer sector of those nations and away from the sectors tied to Chinese industrialization. The increasing disposable incomes have particularly benefited the consumer, healthcare, and technology areas. And the middle class in emerging nations will happily "download" the attributes of U.S. consumerism.

4) Modern Medicine
Three areas of innovation that have fueled growth in health care include genomics, biotechnology, and minimally invasive devices and procedures. In genomics, significant progress in identifying genetic defects has led to breakthrough diagnostics, targeted drug therapies, and preventive medicine. The biotechnology industry is a major beneficiary of the greater understanding of human genetics and physiology. Scientists at biotechnology companies have used this knowledge to fundamentally change the drug-discovery process and develop new drugs they believe will be more effective and/or safer than earlier treatments. An improvement in the drug-discovery process has led to new and better medicines in many fields. Meantime, minimally invasive surgery has become one of the fastest-growing segments in health care. Among the benefits are quicker recovery, smaller incisions, less pain, fewer complications, and a faster return to normal activities. These solutions are focused on the cardiology, diabetes, and spinal markets, among others.

5) America's Manufacturing Renaissance
Lord Abbett's growth investment team believes sharply enhanced U.S. competitiveness provides secular growth opportunities in a range of industries, from consumer products such as athletic and casual apparel, cosmetics, and jewelry, to commercial and military aviation, industrial products, infrastructure, and materials.

In addition, owing to the growth of emerging nations, American manufacturers now have much bigger markets to sell into. U.S. exports to China alone have accelerated a whopping 583% between 2000 and 2012, according to the U.S. Department of Commerce.

Against that backdrop, Lord Abbett is finding growth opportunities in leading providers of advanced technology and training that will increase industrial productivity, flexibility, and efficiency while lowering costs and making manufacturing competitive globally. These include the leading provider of fiber lasers used in cutting and welding applications, a producer of vision systems and surface inspection systems, and a provider of 3-D measurement and imaging systems that speed up the design and development process of highly engineered products. The dramatic improvements in 3-D software and printing technology should also help fuel the growth of U.S. manufacturing, particularly in the medical, motor vehicle, and aerospace sectors, where faster prototyping and time to market can become a significant competitive advantage. 3-D technology has also begun to enable direct digital manufacturing in the consumer market.

6) The North American Energy Revival
Thanks to horizontal drilling and hydrofracking technology that breaks open shale rock by pumping high-pressure fluids into the ground, this unconventional energy source is now abundantly accessible. According to some experts, the United States alone has a 200-year supply of shale gas.

With natural gas in abundance, the economics of high-performance, fuel-efficient internal combustion engines that run on natural gas have become increasingly attractive to consumers. Shale producers have been so prodigious that they have created a supply/demand imbalance. For now, users of the cheap natural gas are the biggest beneficiaries. These include chemical companies and companies that make equipment used to compress and liquefy natural gas.

As shale gas production evolved into a state of oversupply, the solar industry came back into balance. Following a boom and bust cycle that transpired between 2006 and 2011, stronger demand has enabled solar producers to realize higher prices and profits, which has driven sharp appreciation in solar stocks this year.

The Bottom Line
Although there are social and economic headwinds, innovation continues to thrive, and growing companies continue to develop new products and services and exploit new markets. These are the progenitors of creative destruction that give big growth rivers the potential to flow a long distance.

We seek to identify exceptional U.S. and foreign companies that demonstrate above-average, long-term growth potential. These have good business models, strong managers, and leading market shares, and operate in healthy industries. We believe these companies hold the potential to be market leaders in an era of slow economic growth.


1 Robert J. Gordon, "Is U.S. Economic Growth Over? Faltering Innovation Confronts the Six Headwinds," Working Paper 18315, National Bureau of Economic Research, August 2012.
2 "Innovating for the Next Three Billion," Ernst & Young, November 2011. The report was based on two studies conducted in September 2011: an online survey of 547 C-suite executives, board directors, and senior managers in rapid-growth markets, and in-depth interviews with senior executives and thought leaders. The survey focused on developed market companies with rapid-growth market operations and rapid-growth market companies in Brazil, Russia, India, China, Mexico, Turkey, Indonesia, and South Korea. Half of the companies surveyed have more than $US1 billion in revenue, and 70% reported EBITDA growth in excess of 5% in 2011, Ernst & Young said.
3 Homi Kharas, "The Emerging Middle Class in Developing Countries," Working Paper No. 285, OECD Development Centre, January 2010.

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