In Search of All-Weather Stocks

10/15/2014 10:00 am EST

Focus: STOCKS

Allen Bond, co-portfolio manager at Jensen Quality Growth, looks at a trio of stocks that meet his strict criteria. To be considered, they must have earned at least a 15% return on equity in each year of the prior decade.

Steven Halpern:  Joining us today is Allen Bond, co-portfolio manager at Jenson Quality Growth, the Gold Recipient of Standard and Poor’s first ever US Mutual Fund Excellence Awards Program in the domestic large-cap equity category.  How are you doing today, Allen?

Allen Bond:  I am great.  Thanks for having me on.

Steven Halpern:  Now, just to let our listeners know, the symbol for your fund is JENSX.  Now, that fund is known for its stringent profitability criteria.  In fact, you select stocks from small universe of companies that have earned, at least, a 15% return on equity for each of the last ten years. Could you expand on that rational?

Allen Bond:  Yeah, absolutely. We think what we have is a unique investment strategy, really focused on quality growth companies.  To us, that means companies that have strong competitive advantages, generate consistent free cash flow, and then stocks that are attractively valued.

Like you said, we identify these companies.  Our first step is to screen for companies that have generated a return on equity of at least 15% for a minimum of ten consecutive years.  

We think this screen allows us to identify companies that are creating business value by generating business returns that are consistently in excess of their cost of capital.

We invest in about 25 to 30 of these companies and our goal and our strategy is to produce superior risk-adjusted returns throughout a full market cycle.

Steven Halpern:  Now, the companies that pass your criteria are what would be called all-weather stocks.  Could you explain some of the characteristics that you find to be common among those stocks?

Allen Bond:  Yeah, absolutely.  Like I was mentioning before, the frontend of our process with that ROE screen, the companies that pass that, for example, in the last year there were about 210 companies in our investible universe.

Those companies typically have competitive advantages.  They typically generate consistent and robust free cash flow and then, like we talked about, are creating business value.

Additionally, because we require ten years of strong business performance before we’ll consider investing, the companies that pass that test have generally been able to generate strong business returns throughout a full business cycle.  We think this demonstrates consistency and resiliency, and that’s really what we mean by all-weather stocks.

Steven Halpern:  So, in terms of evaluation, when would you consider selling a stock from the portfolio?

Allen Bond:  Sure, so we’re generally a growth strategy, but we have what we think is a pretty stringent evaluation overlay as well.  We calculate an estimate of what we think intrinsic value for each of our holdings is and, if the stock reaches our estimate of intrinsic value, then we will sell the position.

Steven Halpern:  Now, let’s look at some specific investment ideas that fit this strategy.  First, could you tell us about Becton Dickinson (BDX), the global healthcare company?

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Allen Bond:  Sure, so, Becton Dickinson is one of the largest positions in our strategy, or has been for most of the year.  It’s a globally diversified medical devices company with dominant positions in the global market for needles and syringes.  The business has complimentary businesses in diabetes care, diagnostics, and biosciences.  

It’s interesting—we think it’s a great long-term investment—kind of an interesting company right now that’s been in the news.  They recently announced a relatively large acquisition of a company called CareFusion. We’re very favorable on the acquisition.  We think it’s highly complementary.  

We think the real key to the acquisition is it’s going to give Becton Dickinson the ability to make drug delivery safer and cheaper, which are two things that are really important to healthcare providers right now, because the deal will allow them to increase their presence on, what we call, “the drug delivery value chain.”  

We also think the CareFusion products can be sold into Becton Dickinson’s existing international footprint, so it could be a strong growth driver as well.

Steven Halpern:  Now another stock that you like is the well-known PepsiCo (PEP).  What’s the attraction there?

Allen Bond:  Yeah, so Pepsi, like you said, is a very well-known company, global producer of a wide variety of well-known snacks and beverages. Brand names include Pepsi, Gatorade, Aquafina, Lays, and Doritos.  Very balanced business model.  Generates about 50% of their sales from snacks and about 50% from beverages.  

We think the company has very strong competitive advantages due to brand strength, due to manufacturing scale, due to channel strength.  It’s a business model that has resulted in very consistent growth over time.  

One thing we noted with the company is it’s raised its dividend for 42 consecutive years.  That kind of growth, and that kind of consistency, really makes Pepsi a very much core holding for us.

Steven Halpern:  Now another stock you highlight is probably less well-known to our listeners and that’s Praxair (PX).  Could you explain what the company does and your thoughts on it?

Allen Bond:  Yeah, sure, so, definitely a less well-known company.  We think a great long-term fit for our portfolio.  Praxair is an industrial gas producer.  

They’re the largest industrial gas producer in the Americas and the third largest in the world.  In a business that’s really a global oligopoly.  Industrial gases are pretty common gases like oxygen, carbon dioxide.  

They’re used across a wide variety of inmarkets, including manufacturing, energy, metals, healthcare, and food and beverage.  We think Praxair is a great fit for our strategy.  

The company has very strong, competitive advantages due to the large capital requirements that are required in the business and then the high switching cost that that creates.  

The company’s got very good long-term growth prospects as economic growth and infrastructure growth is done throughout the world.  What we really like about the business is it’s a management team that is extremely focused on return on invested capital, which is a great fit with our strategy.

Steven Halpern:  Well, we really appreciate you taking the time to join us. Thanks.

Allen Bond:  Thank you.

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