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By Leo Acheson, CFA | 05-16-2016 04:00 PM

3 Excellent Growth Funds for the Risk Tolerant

Led by manager Dennis Lynch, Morgan Stanley's growth funds practice a successful yet volatile strategy, says Morningstar's Leo Acheson.

Leo Acheson: Morgan Stanley's three institutional growth funds are excellent picks for growth investors. One team runs all three strategies using the same investment process and philosophy, they just apply it to different market capitalizations.

The team is overall very tenured and stable. Dennis Lynch serves as the lead manager, and five comanagers support him, all of whom have been on the team for more than a decade.

The managers look for unique companies with sustainable competitive advantages, which isn't uncommon in itself, but the process is distinguished in a couple of key ways. First of all, the managers take a longer-term view than most growth-oriented competitors, with turnover hovering around 35% for all three funds over the last five years. Additionally, the team places a lot of emphasis on thinking outside of the box. In fact, one analyst on the team strictly conducts deep-dive, big-idea research rather than making specific stock recommendations.

Lynch and his team typically have balanced the portfolio between established and emerging companies, but recently they have favored emerging stocks. For example, at the end of 2015, the large-growth fund held about 40% of assets in Internet-oriented names, such as Twitter, LinkedIn, and Facebook. Many of these Internet-related names held IPOs within the last five years. With short histories and less predictable earnings, these names tend to have meaningful short-term performance swings. That translates into high volatility for the funds, and there's plenty of evidence that it's hard to use highly volatile funds correctly, with investors often buying and selling at inopportune times. Considering that, we lowered the funds' ratings to Silver from Gold. However, we maintain that these funds represent great growth options for long-term investors with a healthy risk appetite.

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