Do you think the stock market looks terrible? The market, in the form of the S&P 500, is down 12.74% over the past 12 months as of Thursday. But the managers of the $296.7 million Hennessy Cornerstone Value Investor Fund ( HFCVX ) see good times ahead. “Personally, I think the economy is in very good shape,” co-manager Neil Hennessy said.
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On the other hand, optimism is probably what you should expect from a manager whose fund is outperforming. The fund is in positive territory, up 2.44% over the past 12 months and outperforming 95% of its direct large-cap peers tracked by Morningstar Direct.
Impact on the stock market
Is Hennessy concerned about how inflation will affect the stock market? “Prices have gone up,” Hennessy said. “But they’re nothing like the 18% rate that existed when I bought my first house (in the early 1980s).”
Is unemployment depressing the stock market? “Today, our biggest problem is getting people to work,” he said. Companies cannot find enough workers.
Can businesses afford to spend the money? “Companies are flush with cash,” Hennessy said. “OK, earnings are down a bit. Who cares? Earnings don’t pay the bills. Companies in the S&P 500 have over $7 trillion in cash.”
And can investors afford to buy shares? “Consumers have $18 trillion in their checking and savings accounts,” Hennessy said. “There’s plenty of money sitting on the sidelines waiting to buy stocks.”
Furthermore, does he worry that the recession will choke the stock market this year? “You can’t have a deep recession with high employment,” he said. “And you can’t have a deep recession without a weak financial system, which we don’t have now. In fact, the financial institutions are extremely strong.”
So where is the bull market? “You have to be patient,” he said. “The market will be volatile. But companies with strong cash flows will keep the market on a solid footing going forward. It will creep up little by little. All in all, it will be slow and steady, with volatility.”
Features of the Fund
One unusual practice of the fund is to reconstruct its portfolio once a year. This is intended to take the emotion out of portfolio construction. The last rebalancing of the fund was last March.
What else goes into Hennessy Cornerstone Value Fund’s investment approach? Neil Hennessy and co-managers Ryan Kelley and Joshua Wein strive to “take the emotion out of investing,” Hennessy said. Instead, they use quantitative analysis by the numbers to search for stocks they want to buy.
One of the characteristics of their purchases is an above-average cash flow. This is a sign of strong financial fundamentals.
Strong dividend yield
Another common trait is a high dividend yield.
One result is that the fund tends to offer shareholders a relatively smooth ride. Over the five years ended Dec. 31, the fund gained 86.26% as much as the S&P 500 during the market’s advance. During the pullback, the fund limited itself to 90.61% of losses in the broad equity market.
It’s a picture of a fund suitable for shareholders who are willing to sacrifice some long-term growth potential for less volatility and higher income along the way. “This fund is great for investors who want to sleep well at night,” Kelley said. “They don’t want to worry about the next high-traffic sector breaking up. And they get strong dividend yields.”
Shares corresponding to this fund
Hennessey Cornerstone Value algorithms targeted side effects in the French energy explorer and manufacturer TotalEnergies (TTE) for the portfolio about six years ago.
The dividend yield of energy stocks is 3.7%. “When we bought it, it was about 4%,” Kelley said. “It has increased its dividend by 10.5% per year over three years. They pay a nice regular dividend. And they paid almost a $1 special dividend a few months ago. There’s a lot of cash flow. But a lot of extra capital is going back to investors.”
Despite an average annual return of 25% over the past two years, the stock is still relatively cheap. Its price-to-earnings ratio is 6 over next year’s earnings, compared with about 16 for the broad stock market in the form of the S&P 500, Kelley says.
Undervalued in the stock market
Bank of the money center JPMorgan Chase (JPM) has a dividend yield of 3%. The total return is a negative 7.07% over the past 12 months. This reflects pressure on the bank’s fixed income and investment banking operations.
Still, Hennessy Cornerstone Value Fund has held the stock since February 2019. “The financials are in good shape,” Kelley said. “But most of the stock market underestimates the financials. When you look at the fundamentals, they saw a 48% increase in net interest income in one year…Financials do better in a rising rate environment.”
This is because banks typically pay less for deposits than they earn for lending and investment banking.
Cute tech stocks
Total return of Texas Instruments (TXN) is negative 2.10% over the past 12 months. And the Hennessy Cornerstone Value Fund avoids glamorous tech stocks. However, Texas Instruments is the type of technology stock of this fund. “This is the type of technology company that would be included in this fund, not the more volatile technology companies that don’t pay dividends,” Kelley said.
Texas Instruments has a 2.9% dividend yield. “This company has significantly increased its dividend by 17% annually over the past five years,” Kelley said. “It’s been through hard times.” During the last year, shares were traded in the range between 145 and 200.
Still, over the past five years, the stock’s average annual gain is 10.46%, versus 8.93% for the broad stock market represented by the S&P 500.
Follow Paul Katzeff further Twitter at @IBD_PKatzeff for advice on retirement planning and the best mutual funds.
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