In this article, we will be taking a look at the 10 most promising growth stocks according to hedge funds.

Bull Market and Investor Sentiment

Investors had been anxiously anticipating the start of a bull market, which the S&P 500 confirmed earlier this year. The bull run has seen the market continue to rise to new record highs, supporting revenue and earnings growth across the board.

Fast forward, the upward momentum appears to have peaked, with market indices at record highs. While it was highly expected that stocks would explode on the Federal Reserve offering support to a struggling economy with interest rate cuts, that has not been the case.

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It’s become increasingly clear that investors have become more sensitive to growth scares as the global economy faces many issues. Top on the list is the rising geopolitical tensions in the Middle East that threaten to disrupt supply chain networks. Energy prices rising owing to the escalation of a full-blown war could trigger higher inflation, something that is unsettling the markets.

Analysts at UBS are already warning investors that they should get overweight on defensive names as global growth slows at the back of deteriorating fundamentals. While UBS doesn’t anticipate a severe downturn, the bank is cautious, advising its clients to focus on important sectors like utilities and pharmaceuticals, which always outperform in a downturn.

While investors are increasingly rotating into defensive plays amid concerns about geopolitical tensions and the slowing global economy, Morgan Stanley Investment Management’s Andrew Slimmon recommends against this strategy.

“Now is the time to just be cautious. Don’t chase the defensives that are working because I think when we get to the fourth quarter, that won’t work,” the portfolio manager told CNBC’s “The Exchange.

“While our expectation is for October to remain choppy, we don’t view the overall market action to be bearish and encourage investors to maintain perspective on the longer-term trends,” Robert Sluymer, technical strategist at RBC Wealth Management, wrote to clients.

The sentiments echo the need to focus on high-growth companies. Investors who diversify their portfolio into high-growth companies eventually earn great returns regardless of how much a stock rises or falls in the short term.

Analysts project that S&P 500 stocks will grow at a median annual EPS rate of 8.5% over the next five years. On the other hand, the best growth stocks are well poised to outperform this benchmark by a factor of two to three or more.

For starters, companies exposed to artificial intelligence spectacles or those leveraging technology continue to deliver record earnings and revenue growth, thus dominating most hedge fund portfolios. Additionally, the most promising growth stocks, according to hedge funds, are those whose core business would be positively impacted by improving consumer purchasing power. As the Fed steers the economy into a soft landing, consumer purchasing is expected to improve, benefiting consumer cyclical stocks. Moreover, the rate cuts will likely benefit growth and tech stocks as well.

Market fluctuations are inevitable, but the secret to a growth stock’s success lies in the robustness of its core operations. Regardless of whether a stock is rising or falling in the short term, if you consistently invest in a competitively solid business, you’ll eventually reap substantial rewards.

Our Methodology

To compile the list of the most promising growth stocks according to hedge funds, we sifted through ETFs and online rankings to find 30 popular growth stocks. Then we selected the 10 that were the most widely held by hedge funds, as of Q2 2024. Finally, we ranked the stocks in ascending order of the number of hedge funds that have stakes in them.

At Insider Monkey, we are obsessed with the stocks that hedge funds pile into. The reason is simple: our research has shown that we can outperform the market by imitating the top stock picks of the best hedge funds. Our quarterly newsletter’s strategy selects 14 small-cap and large-cap stocks every quarter and has returned 275% since May 2014, beating its benchmark by 150 percentage points (see more details here).

10. Palo Alto Networks Inc (NASDAQ:PANW)

Number of Hedge Fund Holders: 66

Cybersecurity is one of the fastest-growing sectors as threats online soar amid the artificial intelligence race. Palo Alto Networks, Inc. (NASDAQ:PANW) is recognized as a key player as it does not concentrate on a specific segment of the cybersecurity sector. The firm operates across all aspects of the market.

Having succeeded in its firewall sector, PANW has ventured into various cybersecurity areas such as cloud protection, endpoint defence, data analysis and advisory services. By 2024, Gartner recognized Palo Alto Networks, Inc. (NASDAQ:PANW) as a frontrunner in both Security Service Edge (SSE) and Software-Defined Wide Area Network (SD-WAN), positioning it as the sole vendor for Secure Access Service Edge (SASE) to receive recognition in both segments.

The firm has acquired over 15 businesses, with a combined cost of approximately $4 billion. This approach of expanding through acquisitions is a key strategy in its journey to become a comprehensive provider of cybersecurity services.

During the last three months of the fiscal year 2024, the company’s cybersecurity business saw a 12% increase in revenue from the previous year, reaching $2.19 billion, which was higher than what analysts predicted by $40 million. Its earnings per share (EPS) also saw a 5% increase to $1.51, surpassing the average forecast by $0.10.

A significant indicator of Palo Alto’s future growth is the rapid uptake of its advanced security solutions. Palo Alto Networks, Inc. (NASDAQ:PANW)’s advanced security solutions cover emerging areas like secure access service edge (SASE), cloud security, and artificial intelligence (AI). The company’s total recurring revenue from these advanced solutions, which is the annualized revenue from all active contracts for these solutions at the end of the reporting period, grew by a strong 43% year over year to $4.2 billion. Additionally, the stock is rated as a buy with an average price target of $390.99, implying an 8.44% upside potential.

By the end of the second quarter, 66 hedge funds tracked by Insider Monkey had positions in Palo Alto Networks, Inc. (NASDAQ:PANW), compared to 78 in the previous quarter. Citadel Investment Group emerged as the largest shareholder, with 2.84 million shares in the company.

Here is what TimesSquare Capital Management U.S. Focus Growth Strategy said about Palo Alto Networks, Inc. (NASDAQ:PANW) in its Q2 2024 investor letter:

“Our cybersecurity holdings were also beneficial to the strategy this quarter. The global provider of network and cloud-based cybersecurity systems, Palo Alto Networks, Inc. (NASDAQ:PANW), chipped in with a 19% return. Its revenues and earnings were higher than anticipated as Palo Alto shifted its marketing strategy to emphasize larger platform contracts.”

9. Tesla, Inc. (NASDAQ:TSLA)

Number of Hedge Fund Holders: 85

Tesla, Inc. (NASDAQ:TSLA) stands out as one of the most promising growth stocks according to the hedge funds, as it is not only an automaker but an artificial intelligence and robotics investment play. While the company makes most of its revenues in selling electric vehicles, it also boasts of a lucrative energy storage business that promises to generate long-term value.

For many years, Tesla, Inc. (NASDAQ:TSLA) has been recognized for robust growth fueled by strong demand for its premium self-driving electric cars. Moreover, the company’s higher-end pricing and cost benefits in production have always triggered significant earnings growth.

However, in recent years, this positive environment has changed. Higher interest rates have made purchasing a Tesla vehicle more expensive for buyers due to higher monthly payments. Consequently, the company’s revenue base has taken a hit.

As the company struggles to sell more electric cars than it used in the past, it’s already looking to diversify its revenue base. It’s already strengthening its energy storage business, which is expected to be a key source of revenue.

Since its introduction in 2014, Tesla, Inc. (NASDAQ:TSLA) has been offering Autopilot and its advanced Full Self-Driving (FSD) capability, necessitating human oversight for automated driving, since 2020.

Independent forecasts suggest that the adoption rate stands at 2%, though Elon Musk has mentioned it’s “significantly higher,” The goal is for FSD to eventually result in a collection of more self-driving cars. Tesla customers would own these vehicles, providing an avenue for the company to generate reliable subscription revenue. Analysts on Wall Street have an average buy rating on the stock with an average price target of $207.83, implying a 15.32% upside potential from current levels.

In total, 85 hedge funds were long Tesla, Inc. (NASDAQ:TSLA) in the second quarter, with a total stake value of $4.9 billion.

ClearBridge Small Cap Value Strategy stated the following regarding Tesla, Inc. (NASDAQ:TSLA) in its Q2 2024 investor letter:

“Tesla, Inc. (NASDAQ:TSLA) manufactures electric vehicles, related software and components, and solar and energy storage products. The stock contributed as Tesla continued to drive vehicle manufacturing costs lower, accelerate the launch of new models, and invest heavily in its lucrative AI initiatives. Shareholders reaffirmed the CEO’s compensation plan, alleviating personnel and legal uncertainties. Despite material operational complexities resulting in significant shutdowns of key manufacturing facilities and lower sales volume, Tesla presented better-than-expected margins in the quarter. It expects to launch a lower cost model as soon as late 2024, which should result in accelerated revenue growth, reduced manufacturing costs, and increased factory utilization. The company continued to advance its autonomous driving capabilities, expanding its already significant data centers and developing its humanoid robot Optimus. These investments increased confidence in the attractive growth opportunities that remain ahead.”