“There are times when the normal rules don’t apply. It might be more dangerous to be passive- it can be less risky to take risk.”
The Hodges Funds experienced mixed relative performance in the most recent quarter as U.S. stocks advanced in defiance of an inversion in the yield curve (long-term interest rates falling below short-term interest rates) and uncertainty surrounding international trade. Although uncertainties were unsettling at times during the third quarter, U.S. stocks as measured by the S&P 500 Indexmanaged to rally 18.54% in reponse to solid year-over-year earningsand low interest rates.During the final month of the quarter we also observed a market rotation into value stocks, which for the first time in a while seemed to have the upper hand on high multiple growth stocks. Despite an uplift in valuations this year, domestic stock valuations still seem reasonable relative to the current interest rate environmentwith the S&P 500 Index trading at 16.5X forward earnings estimates according to FactSet. This is consistent with its five-year average of 16.6X. The inverse of the current PE multiple is an earnings yield of 6.06%, compared to the 10-year treasury yield of 1.54% at September 30, 2019. If earnings expectations materialize in the months ahead, we believe the relationship between the earnings yield on stocks and interest rates indicates that the potential reward for holding stocks outweighs the underlying downside risk. Furthermore, economic growth in the first nine months of 2019 was solid and to the surprise of many investors, price multiples for most stocks have not contracted in response to manufacturing headwinds related to trade. Despite uncertainties surrounding trade with China, global economic conditions, and the U.S. political landscape, we see profits for many U.S. corporations holding up well over the next twelve to eighteen months. As a result, the investment team at Hodges Capital Management has positioned our portfolios to potentially benefit from broader economic growth and earnings improvement across a wide number of sectors. Based on the recent changes in the interest rate landscape, we believe P/E multiples for the average U.S. stock could expand modestly in the months ahead and we see further gains being supported by modest earnings growth for most of the economically sensitive sectors of the market. As a result, we see compelling investment opportunities in many of the cyclical areas of the market such as consumer discretionary, technology, healthcare, energy, and industrials.
Although the current bull market will have to overcome several unique challenges in the months ahead, we do not see the typical signs of a market peak. For instance, net inflows into equity mutual funds and ETFs have been negative over the past couple of years, which is the opposite of what usually occurs at the peak of most bull markets. Furthermore, credit markets are relatively tight and interest rates have been declining. Leadership in the equity markets during the recent rally has also reflected an expanded market breadth, which is not typical of narrow leadership at the peak of a bull market. Moreover, we are not attempting to forecast or market time interest rates, currency fluctuations, or commodity prices. Instead, we are focused on the fundamentals of individual companies and our research team is rigorously gathering and analyzing firsthand information from a broad scope of publicly traded companies. Although short-term market volatility resulting from political headlines can seem overwhelming at times, we always fall back to the idea that the long-term performance of stock prices is determined by the future earnings and cash flows of each underlying business. Investors in the Hodges Funds can be assured that we are not changing our core investing discipline, which is designed to seek out quality companies running great businesses with excellent management teams that are trading at reasonable prices. Furthermore, we see this as an ideal environment for active portfolio managers to carefully select individual stocks that we believe can generate long-term value for shareholders.
Returns (% Retail Class) as of 9/30/2019
|1 YR*||3 YR*||5 YR*||10 YR*||SI*||Inception||Gross||Net|
|Hodges Fund (HDPMX)||-4.93||18.11||-20.02||-0.81||0.85||8.92||8.86||10/09/92||1.34||1.18**|
|S&P 500® Total Return||1.70||20.55||4.25||13.39||10.84||13.24||9.87|
|Small Cap Fund (HDPSX)||-6.01||11.78||-15.98||4.44||1.95||11.62||7.89||12/18/07||1.29||--|
|Russell 2000® Total Return||-2.40||14.18||-8.89||8.23||8.19||11.19||7.64|
|Small Intrinsic Value Fund (HDSVX)||5.58||19.43||-11.17||4.39||4.86||--||5.11||12/26/13||1.50||1.29**|
|Russell 2000® Total Return||-2.40||14.18||-8.89||8.23||8.19||--||6.26|
|Russell 2000® Value Total Return||-0.57||12.82||-8.24||6.54||7.17||--||5.32|
|Small-Mid Cap Fund (HDSMX)||0.00||17.89||-12.62||5.39||3.73||--||4.90||12/26/13||1.92||1.40**|
|Russell 2500 Total Return||-1.28||17.72||-4.04||9.51||8.57||--||7.52|
|Blue Chip Equity Fund (HDPBX)||3.58||22.01||3.59||13.31||7.54||10.93||10.89||09/10/09||1.48||1.30**|
|Russell 1000® Total Return||1.42||20.53||3.87||13.19||10.62||13.23||13.31|
**The Advisor has contractually agreed to reduce its fees and/or pay Fund expenses until at least July 31, 2020.
Performance data quoted represents past performance and does not guarantee future results. The investment return and principal value of an investment will fluctuate so that an investor’s share, when redeemed, may be worth more or less than their original cost. Current performance of the funds may be lower or higher than the performance quoted. Performance data current to the most recent month end may be obtained by calling 866-811-0224. The funds impose a 1.00% redemption fee on shares held for thirty days or less. Performance data quoted does not reflect the redemption fee. If reflected, total returns would be reduced.
Hodges Fund (HDPMX)
The Hodges Fund's third quarter 2019 return amounted to a loss of 4.93% compared to a gain of 1.70% for the S&P 500 Index. Reflecting lagging performance in the recent quarter, the Fund’s year to date performance amounted to a gain of 18.11% compared to a gain of 20.55% for the S&P 500 for the period ending September 30, 2019. Lackluster relative performance in the September quarter was mainly attributed to declining share prices among a handful of consumer related names that included online retailer, Revolve Group (RVLV), and online food ordering platform, Waitr Holdings (WTRH).
While the Hodges Fund has adapted to an everchanging investment landscape over the past 27 years, the core investment philosophy has not changed, and the portfolio remains focused on investments where we have the highest conviction. The number of positions held in the Fund at the end of the recent quarter was 40. Top ten holdings at the end of the quarter represented 45.97% of the Fund's holdings and included Texas Pacific Land Trust (TPL), Commercial Metals Co. (CMC), American Airlines Group (AAL), Twitter Inc. (TWTR), Capri Holdings (CPRI), Eagle Materials Inc. (EXP), Cleveland Cliffs Inc. (CLF), At Home Group Inc. (HOME), Gogo Inc. (GOGO) and U.S. Concrete Inc. (USCR).
As of 9/30/2019
Hodges Fund vs S&P 500
Inception: 10/09/1992 Annualized
Hodges Small Cap Fund (HDPSX)
The Hodges Small Cap Fund experienced a 6.01% loss in the third quarter of the 2019 compared to a loss in the Russell 2000 Index of 2.40%. The year-to-date return on the Fund amounted to 11.78% compared to 14.18% for the Russell 2000 Index for the period ending September 30, 2019. Lagging performance in the most recent quarter reflected relative weakness in a few of the Fund’s energy and healthcare stocks. Looking ahead, we currently view the risk reward for holding small cap stocks as attractive and expect this segment of the market to potentially generate above average risk adjusted returns relative to the broader market over the next few quarters.
The Hodges Small Cap Fund remains well diversified across industrials, transportation, financial services, technology, and consumer-related names, which we believe can contribute to the Fund's long-term performance. The Fund has recently taken profits in several stocks that appeared fully valued relative to their underlying fundamentals and established several new positions that we view as having an attractive risk/reward profile. The total number of stocks held in the Fund at the end of the recent quarter was 53 compared to 51 at the beginning of the quarter. The top ten holdings at the end of the quarter represented 36.14% of the Fund's holdings and included Texas Pacific Land Trust (TPL), Commercial Metals Co. (CMC), Cleveland Cliffs Inc. (CLF), Eagle Materials Inc. (EXP), Century Communities Inc. (CCS), Brooks Automation Inc. (BRKS), NCR Corp. (NCR), Hilltop Holdings Inc. (HTH), Brunswick Corp. (BC) and Conn’s Inc. (CONN).
As of 9/30/2019
Hodges Small Cap Fund vs Russell 2000 Index
Inception: 12/18/2007 Annualized
Hodges Small Intrinsic Value Fund (HDSVX)
The Hodges Small Intrinsic Value Fund experienced a gain 5.58% in the September quarter of 2019 compared to a loss of 0.57% for its benchmark, the Russell 2000 Value Index. As a result, the Funds year-to-date performance amounted to a gain of 19.43% compared to a gain of 12.82% for the Russell 2000 Value Index for the period ending September 30, 2019. The Fund’s relative performance in the recent period was positively impacted by strength among several consumer discretionary stocks, which included apparel retailer, Tillys Inc (TLYS), and entry level homebuilder, Century Communities (CCS). The top ten holdings at September 30, 2019 represented 43.82% of the Fund's holdings and included Commercial Metals Co. (CMC), Century Communities Inc. (CCS), Brunswick Corp. (BC), Northwest Pipe Co. (NWPX), Eagle Materials Inc. (EXP), Caleres Inc. (CAL), Dixie Group Inc. (DXYN), Hilltop Holdings Inc. (HTH), Delta Apparel Inc. (DLA) and Shoe Carnival Inc. (SCVL).
As of 9/30/2019
Hodges Small Intrinsic Value Fund vs Russell 2000 Value Index & Russell 2000 Index
Inception: 12/26/2013 Annualized
Hodges Small-Mid Cap Fund (HDSMX)
For the third quarter of 2019, the Hodges Small-Mid Cap Fund’s return was flat compared to a return of a loss of 1.28% for the Russell 2500 Index. On a year-to-date basis, the Fund’s return has amounted to 17.89% compared to 17.72% for the Russell 2500 Index. The Fund’s positive relative performance in the recent quarter was attributed a recovery in a handful of stocks, such as retailer Conn’s Inc. (CONN). Top ten holdings at the end of the quarter represented 44.05% of the Fund's holdings and included Tandem Diabetes Care Inc. (TNDM), Eagle Materials Inc. (EXP), Kansas City Southern (KSU), Five Below Inc. (FIVE), Conn’s Inc. (CONN), LGI Homes Inc. (LGIH), At Home Group Inc. (HOME), Owens Corning (OC), Commercial Metals Inc. (CMC) and Brunswick Corp. (BC).
As of 9/30/2019
Hodges Small-Mid Fund vs Russell 2500 Index
Inception: 12/26/2013 Annualized
Hodges Blue Chip Equity Income Fund (HDPBX)
The Hodges Blue Chip Equity Income Fund experienced a gain of 3.58% in the third quarter of 2019 compared to a gain of 1.42% for the Russell 1000 Index. Year-to-date the Fund’s return has amounted to 22.01% compared to 20.53% for the Russell 1000 Index for the period ending September 30, 2019. Looking ahead, we see the current investing landscape as offering plenty of attractive high-quality dividend-paying stocks with solid upside potential, as well as an opportunity for dividend income supported by corporate profits. The Blue Chip Equity Income Fund remains well diversified in companies that we believe can generate above average income and total returns on a risk adjusted basis. Top ten holdings at the end of the quarter represented 47.72% of the Fund's holdings and included Home Depot Inc. (HD), Apple Inc. (AAPL), Microsoft Corp. (MSFT), Boeing Co. (BA), Amazon.com Inc. (AMZN), Walt Disney Corp. (DIS), Caterpillar Inc. (CAT), Texas Instruments (TXN), Delta Air Lines Inc. (DAL) and Walmart Inc. (WMT).
As of 9/30/2019
Hodges Blue Chip Equity Income Fund vs Russell 1000
Inception: 09/10/2009 Annualized
In conclusion, we remain optimistic regarding the long-term investment opportunities surrounding the Hodges Mutual Funds. By offering five distinct mutual fund strategies that cover most major segments of the domestic equity market, we can serve the diverse needs of most financial advisors and individual investors. Our entire investment team of portfolio managers, analysts, and traders are rigorously studying companies, meeting with management teams, observing trends, and attempting to navigate today's volatile financial markets. Feel free to contact us directly if we can address any specific questions.
The above discussion is based on the opinions of Eric Marshall, CFA, and is subject to change. It is not intended to be a forecast of future events, a guarantee of future results, and is not a recommendation to buy or sell any security. Portfolio composition and company ownership in the Hodges Funds are subject to daily change.
Mutual fund investing involves risk. Principal loss is possible. Investments in foreign securities involve greater volatility and political, economic and currency risks and differences in accounting methods. These risks are greater for investments in emerging markets. Options and future contracts have the risks of unlimited losses of the underlying holdings due to unanticipated market movements and failure to correctly predict the direction of securities prices, interest rates and currency exchange rates. These risks may be greater than risks associated with more traditional investments. Short sales of securities involve the risk that losses may exceed the original amount invested. Investments in debt securities typically decrease in value when interest rates rise. This risk is usually greater for longer term debt securities. Investments in small and medium capitalization companies involve additional risks such as limited liquidity and greater volatility. Funds that are non-diversified are more exposed to individual stock volatility than a diversified fund. Investments in companies that demonstrate special situations or turnarounds, meaning companies that have experienced significant business problems but are believed to have favorable prospects for recovery, involve greater risk.
Value investing carries the risk that the market will not recognize a security’s inherent value for a long time, or that a stock judged to be undervalued may be appropriately priced or overvalued.
Diversification does not assure a profit or protect against a loss in a declining market.
Fund holdings and/or sector allocations are subject to change at any time and are not recommendations to buy or sell any security.
Investment performance reflects fee waivers in effect. In the absence of such waivers, total return would be reduced.
The S&P 500 Index is a broad based unmanaged index of 500 stocks that is widely recognized as representative of the equity market in general. The Russell 1000 Index is a subset of the Russell 3000 Index and consists of the 1,000 largest companies comprising over 90% of the total market capitalization of all listed stocks. The Russell 2000 Index consists of the smallest 2,000 companies in a group of 3,000 U.S. companies in the Russell 3000 Index, as ranked by market capitalization. The Russell 2500 Index consists of the smallest 2,500 companies in a group of 3,000 U.S. companies in the Russell 3000 Index, as ranked by market capitalization. The Russell 3000 Index is a stock index consisting of the 3000 largest publically listed companies, representing about 98% of the total capitalization of the entire U.S. stock market. You cannot invest directly in an index. The Russell 2000 Value Index measures the performance of small-cap value segment of the U.S. equity universe. It includes those Russell 2000 companies with lower price-to-book ratios and lower forecasted growth values. The Russell 2000 Value Index is constructed to provide a comprehensive and unbiased barometer for the small-cap value segment. The Index is completely reconstituted annually to ensure larger stocks do not distort the performance and characteristics of the true small-cap opportunity set and that the represented companies continue to reflect value characteristics.
Cash Flow: A revenue or expense stream that changes a cash account over a given period.
Price/earnings: The most common measure of how expensive a stock is.
Earnings Growth is not a measure of the Fund’s future performance.
Forward Earnings Yield: The same earnings per share for the projected 12-month period divided by the current market price per share.