Buffalo Small Cap Growth (BUFSX)

Overall, this fund has been a top performer in its category for many years. since 2000, it has been in the Top 5 for 4 years. Its worst year was in 2007 where it was ranked 84th; to date, it ranks 4th in the category.

In terms of returns, it has only underperformed the category in 3 of the past 10 years (since 2000). This kind of consistent makes for an appealing fund.

Morningstar also seems to like the fund, having it ranked currently as a 5 star fund overall. This says a lot about its risk-adjusted returns; in fact, the fund has a beta of just 1.05 when measured against the S&P 500. This means that for every point the S&P 500 moves, this funds should move 1.05 points. Ultimately, the closer to 1, the less risk. But the closer to 1, the less likely the fund is to outperform that index… in theory. Clearly, Buffalo Small Cap has no trouble outperforming by a large margin without having to take crazy risks.

Currently rated 5-stars, this small cap fund can brag about a YTD return of 17.88% vs. 13.2% for category. This is quite promising since the risk rating of the fund is considered below average.

As for the investments, this fund has a small cap, growth-oriented portfolio, which has remained consistent over the past 3 years, if not longer. This provides the investor with a fair degree of comfort, knowing that the manager is not simply chasing the popular money for the sake of short-term returns at a cost of long-term returns.

Speaking about the make up of the fund, 31.93% is invested in Medium cap stocks while 56.67% is in small cap and 11.41% is in micro cap stocks. With such a heavy weighting in medium cap stocks, investors will need to make sure this fund does not deviate too much from its mandate as a small cap fund. However, with so much in small and micro cap, this does not seem to be a substantial area for concern.

With just 56 stocks in the portfolio, the manager has taken some fairly considerable positions with the fund’s assets. But with turnover at 15%, it is evident that the manager is committed to seeing those picks return appropriate gains.

The three largest sectors held within the fund are: Business Services at 21.22%; Consumer Services at 18.79% and; Health Care at 17.17%. The three largest holdings are:

1) WMS Industries
-is the largest individual holding; they are a leading slot machine supplier to the larger casinos.
-while some see risks in holding this type of security, others see an inevitable demand for slot machine replacements, an expense that many casinos have been putting on hold for several years. WMS, which aims to be the largest supplier, can benefit.
-even during “tough” past years, WMS has managed to increase sales on an annual basis and continue reinvesting into the company. Its equity position remains strong and has been getting strong with every year.
-According to Thompson/First Call, the 13 brokers that cover this stock rate it as a strong buy and the current price remains below the lowest 1-year price target.
-However, given the conflicting belief and information about the growth rate of this industry, including machine demand, it becomes a speculative investment based on one’s personal views about machine demand.

2) Life Time Fitness
One of top 5 largest holdings, Life Time Fitness targets a higher end fitness group. Its clubs are considered spa like and aim to provide an escape for its members.
-Financially, this company is well managed. As at the end of 2009, sales continued to increase and the equity position continued to grow through good capital management. The company has done well by paying down short-term and long-term debt.
-Overall, the 12 brokers who cover this stock according to Thompson/First Call rate this stock a hold.
-Some concerns facing this company is competition and potentially waning demand for this kind of niche (expensive) fitness club.

3) Waddell & Reed Financial
-An asset management and advisory firm, Waddell and Reed has fared quite well given the market turbulence. While they have seen lower revenues, the firm has been able to maintain a healthy equity position. They currently provide investment management services for Ivy (one of their largest clients).
-Overall, there are 10 brokers who cover this stock and the average rating is HOLD.
-Fears about a high concentration of revenue coming from a small percentage of clients has some investors/analysts more neutral on this stock.
-However, as the economic situation improves and the market cycle starts to improve, Waddell and Reed should see a growing demand for their services.

Evidently, Buffalo has taken a bold position in these firms, trusting that their belief (remember that for every position they take there is another position that feels otherwise) will yield positive results for the investors.

At the Mutual Fund Site, we feel there is simply too much emphasis placed on assets that have an uncertain future for 2010. If slot machine demand remains stable or drops, if high-end fitness club membership sales ease and if demand for investment management and advice services drop, the firms above could be easily and negatively impacted. There simply seems to be too much emphasis on service-based assets here.

However, there is no disputing the performance of the Buffalo Small Cap Growth fund. This fund has an extensive history for shooting past its competitors in terms of returns and safe performance.

Depending on an investor’s Asset Allocation Model, we would limit exposure to this fund to 1/3 or less of the specialty equity class.

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