A Masterful High-Quality Growth Fund
The team managing Silver-rated Jensen Quality Growth knows its circle of competence and doesn't leave it.
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Jensen Quality Growth still deserves a Morningstar Analyst Rating of Silver because its reach does not exceed its grasp.
The team running this fund knows its circle of competence and doesn’t leave it. Its members won’t look at any stock that doesn’t have at least $1 billion in market capitalization and hasn’t achieved 15% return on equity or better in 10 consecutive years. The managers cast their lines into a higher quality pond from the start--one that’s easy replicable by anyone with a historical stock database. The managers’ forte, however, is discerning which historically profitable firms have the business models, market positions, balance sheets, and management teams to fuel steady earnings and cash flow growth for years; and which trade at discounts to their estimates of intrinsic value.
The people executing this approach have changed since advisor Jensen Investment Management formed in 1988, but they exhibit the same patient, team-oriented ethos as their predecessors. Indeed, the current six managers' firm tenures overlap with those of one or more of the boutique’s founding generation. None of them have fewer than 10 years of experience with Jensen and are proficient in its quality-first style. They still all work as generalists and research ideas until the team reaches a consensus on whether to buy or sell.
This deliberate and selective approach produces a portfolio that tends to be less volatile than its peers, S&P 500 benchmark, and normal expectations for funds of 30 or fewer stocks. Its strict profitability and valuation requirements tends to lead it to steady growers rather than highfliers, which makes the portfolio less speculative than its typical rival and index alternative. Its longtime horizon keeps turnover and transaction costs low. It only recently sold its last shares of Coca-Cola (KO), one of the portfolio’s original holdings. This is a low-fuss, low-muss fund.
The process starts simply. The managers here screen for companies with market caps of at least $1 billion that have delivered returns on equity of at least 15% in each of the past 10 calendar years. That reduces its pool of candidates to fewer than 250 stocks.
The approach isn’t mechanical, though. Anyone with a decent stock database can derive a similar universe of profitable stocks, but these managers don’t stop there. They scour companies that pass the initial screens for those that have the most-durable competitive advantages, best cash flow growth prospects, most-shareholder-friendly capital allocation practices, and most-attractive valuations. The team uses discounted cash flow analysis stretching out over long periods as their primary valuation tool, but also considers other metrics, such as P/E and price/book ratios.
The portfolio is focused and long-term. It owns just 25-30 stocks, often for seven to 10 years. Indeed, annual portfolio turnover has averaged about 12% during the past five years. The team collaborates on buy and sell decisions, researching each idea until they reach consensus. Selling is a team decision, too. The fund sells stocks when their ROE drops below 15% or shows diminished growth prospects. It will also sell if it discerns a better opportunity elsewhere.
This concentrated fund doesn’t look like its typical large-growth Morningstar Category peer, its S&P 500 prospectus benchmark or other relevant bogies, such as the Russell 1000 Growth Index. At the end of December 2018, the fund didn’t hold some of the largest growth stocks in the benchmarks’ and typical peer’s portfolios, such as Amazon (AMZN) and Facebook (FB). The fund invested about 27% of its assets in healthcare stocks, though, much more than the S&P 500 and Russell 1000 Growth indexes. The fund even added drugmaker Pfizer (PFE) in mid-2018 because the company is approaching an inflection point after which new pipeline drugs will more than make up for revenue lost to treatments losing patent protections.
This is a conservative growth fund, but it's still a growth fund. Stock-picking drives sector allocations and it tends to find stocks that meet its strict criterion in growthy sectors like tech and health care, which each claim close to 30% of assets. It will consider stocks from most sectors, though, including basic materials, where it owns industrial gas firm Linde (LIN) and sanitation firm Ecolab (ECL). While it is not an explicit environmental, social and governance strategy, it is ESG-aware. It historically has shunned fossil fuel stocks and scores and ranks stocks in its investment universe on ESG criterion as part of its risk-control process.Performance Pillar: Positive | Dan Culloton 02/15/2019
A laser-like focus on firms with stable business models means this fund often shines in tough times, not rallies. Over a multiyear holding period, however, the fund has posted competitive absolute and risk-adjusted results versus the typical large-growth category peer, S&P 500, and Russell 1000 Growth Index. The fund’s 8.6%-plus gain from the 2004 start of senior manager Eric Schoenstein’s tenure, through Jan. 31, 2019, beat the category’s 7.8%, edged the S&P 500’s 8.3%, and lagged the Russell 1000 Growth’s 9.2%, but did so with far less volatility as measured by standard deviation of returns. The fund posted positive alpha for the time period and a higher Sortino ratio, a risk-adjusted return measure that factors in downside volatility.
The fund’s upside has been its downside protection. Since Schoenstein began comanaging the fund in 2004, it has lost 80% as much as the S&P 500, and 76% as much as the Russell 1000 Growth Index, when stocks have fallen. It’s also lost less in downturns than the Morningstar Wide Moat Index, a more value- and small/mid-cap-leaning benchmark, but one that also focuses on stocks with strong competitive advantages. You must hold through the lean times to appreciate this fund.People Pillar: Positive | Dan Culloton 02/15/2019
The last of Jensen Investment Management’s first generation of investors, Robert Zagunis, retired in February 2018, but a capable team of successors was already in place. That includes Eric Schoenstein, chair of the investment committee, a comanager since 2004, and firm veteran since 2002.
Five other investors, none with less than a decade of experience at Jensen and none older than their mid-50s, compose the rest of the team. Rob McIver has been a comanager since 2005 and firm president since 2007. Kurt Havnaer joined the firm in 2005 as an analyst. Allen Bond and Kevin Walkush each joined as analysts in 2007. And Adam Calamar became an analyst in 2010 after working at the firm for two years in an operational role. Havnaer, Bond, Walkush and Calamar became comanagers in 2015.
The team works collaboratively as generalists, but some members have gravitated to specialties. Havnaer takes the lead on consumer staples and industrials; Bond in healthcare; Calamar in consumer discretionary; and Walkush in technology and environmental, social, and governance research. The tenure and retention rates remain above average, and the managers invest in the fund. Schoenstein and McIver each invest more than $1 million in the fund.Parent Pillar: Positive | Dan Culloton 02/13/2019
Disciplined adherence to a tight circle of competence, proactive succession planning, strong retention and tenure, close alignment with fundholders, and a prevailing team-first attitude form the foundation of Jensen's culture. Since its 1988 founding, the firm has been a one-strategy boutique focused on investing in historically profitable stocks that still have strong growth prospects and reasonable valuations. It has launched only one other strategy since opening its first fund in 1992; Jensen Quality Value (JNVSX) has struggled since its 2010 birth, but it starts with the same universe of stocks with historically solid returns on equity.
The firm has managed generational change well. Its founder and first generation of investors have taken their leave since 2004, but Jensen, which requires all investment personnel to give at least a year's notice before retiring, found capable replacements well in advance. Its management team still has one of the highest five-year retention rates and average tenures in the industry. Each team member has money in the firm's strategies and owns shares of the advisor; the biggest firm shareholder is investment committee chair Eric Schoenstein. Investors run this firm like they invest--deliberately.Price Pillar: Positive | Dan Culloton 02/15/2019
Dan Culloton does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.
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