Investors don't get poor by investing in quality stocks – those with good fundamentals.
Tom Hancock, head of focused equity at GMO, believes in quality stocks. They overperform the market in bad times and do well in good times, he says.
Hancock, a nearly 29-year markets veteran at GMO, is co-manager of GMO U.S. Quality ETF (QLTY) -), an actively managed fund that launched Nov. 13.
The ETF has holdings similar to those of the GMO Quality (GQLFX) -) mutual fund, but the mutual fund has a minimum investment of $1 million. The mutual fund also holds foreign stocks, while the ETF doesn’t. GMO aims for the ETF to have an 80% overlap with the mutual fund’s holdings.
The mutual fund’s total return beat the Morningstar mid-cap/large-cap index in the one-, three-, five- and 10-year periods through Dec. 31. The ETF returned 6.65% from its November inception through Dec. 31, compared with 8.39% for the S&P 500, according to GMO.
GMO
'The idea is to marry quality and value'
We recently chatted with Hancock about his investment philosophy and the fund’s activity, including its stock picks.
TheStreet.com: What is your investment philosophy?
Hancock: The idea is to marry quality and value. We want great companies deploying capital at a high rate of return that their competitors can’t match. And we’re conservative about how much we pay.
TheStreet.com: What’s the attraction of quality stocks?
Hancock: They’re safer than the overall market. They do better than the overall market in downturns and don’t have to give up return over time. These are sleep-well-at-night companies. You’re less likely to sell these stocks at the wrong time – during tough times.
TheStreet.com: As bottom-up investors looking for quality, are there any industries you gravitate toward?
Hancock: Technology, health-care and consumer stocks. In tech it’s particularly semiconductor, internet and software companies. In health care it’s companies providing services, big [drug companies] and health devices. On the consumer side it’s branded goods.
TheStreet.com: Are there any industries you shy away from?
Hancock: We don’t have much commodity exposure. By definition, they don’t differentiate on their products. We don’t like leveraged companies, which keeps us underweight financials. We don’t invest in utilities. There’s low volatility, but they’re quasi-regulated and capital-intensive. It’s hard to maintain high profits.
TheStreet.com: Are there any market themes that attract you?
Hancock: We’re thinking about artificial intelligence. It cuts both ways. Obvious names are very popular. So these stocks require a lot of optimism [to justify valuations].
But there are a lot of companies benefiting from AI that have received less exposure – companies that are deeper in the supply chain. That would include the semiconductor companies. We also favor big hyperscalers, like [Microsoft (MSFT) -), Amazon (AMZN) -), Apple (AAPL) -), Alphabet (GOOGL) -) and Meta Platforms (META) -)].
Themes that concern us include global tension, particularly between the U.S. and China. We try to be careful to invest in multinational companies where that’s not an existential risk.
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TheStreet.com: Can you discuss a few of your favorite stocks?
1. UnitedHealth (UNH) -). It benefits from being the most diversified health insurer. It has the most foresight in getting ahead of where others are going. That includes value-based care, getting paid for outcomes rather than the number of procedures.
We like other health insurers, too. The industry has a great demographic advantage and is privatizing from the government. The amount of the economy going to health care is increasing, and the companies are like toll takers.
2. Texas Instruments (TXN) -), the world’s largest maker of analog semiconductors. It’s not at the cutting edge of miniaturization. It deals with the complex of real world measurements.
It’s not dependent on Asian manufacturing: It manufactures a substantial majority of its chips in the U.S. Its end markets are diversified: autos, industrials, smartphones and computers. It has a massive manufacturing cost advantage because of its scale.
3. Constellation Brands (STZ) -), whose most valuable assets are Mexican beers in the U.S. – Modelo, Corona and Pacifico. While beer in general doesn’t have great growth, the Mexican beers do. That’s because the Latin population is growing, and consumers are tilting toward imports.
While Modelo is the No. 1 selling beer in the U.S., it’s relatively concentrated geographically – in areas where the Hispanic population is high. Now it’s penetrating the East Coast. It has room to expand.
4. General Electric (GE) -). It had tough times during the last decade. But CEO Larry Culp has done a good job shedding the bloat. They are well focused today on aerospace.
Airplane engines are like razor blades. They have a service annuity. GE isn’t the company it used to be, and we see the business transforming going forward.
The author owns shares of UnitedHealth.
