Want to know how to invest in stocks now and in 2023? Ask winners. Jeff and Ron Muhlenkamp are the son and father duo who have been the only managers of the now $277.7 million Muhlenkamp Fund (MUHLX) since its opening in late 1988.
Muhlenkamp Fund is up 2.38% so far this year, through Dec. 22. That's nearly 21 percentage points ahead of the broad market. And the Muhlenkamps say investing won't get any easier in the near term. They see stagflation ahead.
As a result, Muhlenkamp Fund is keeping a lot of its powder dry while the market fights through inflation and the threat of recession.
How much is a lot? As of Sept. 30, Muhlenkamp Fund had 45% of its shareholders' money sitting on the sidelines.
But the fund isn't sitting idle, either. Jeff and his father have plenty of money at work in stocks. While the fund is up 2.38%, the S&P 500 has notoriously plunged 18.50% through Dec. 22. That means the fund's gain is larger than 95% of its large-cap value direct rivals tracked by Morningstar Direct, which averaged a humbling 6.64% loss through Dec. 22.
Over the past five years, the Muhlenkamp Fund's average yearly return is 7.85% vs. 9.25% for the S&P 500 and 6.8% for its large-cap value peer group.
The Muhlenkamp Fund seeks capital appreciation with income from dividends and interest. It aims to achieve those goals with stocks it buys when they are temporarily undervalued.
Jeff, 56 years old, is sole manager since fund founder Ron stepped down in early 2019. But Ron, age 78, continues to research investment opportunities. The Muhlenkamps frequently brainstorm about market conditions and opportunities. When it's time to pull the trigger on a buy or a sell, responsibility rests with Jeff.
From their offices in Wexford, Pa., near Pittsburgh, the mutual fund veterans discussed with IBD the Muhlenkamp approach for how to invest in stocks.
How To Invest In Stocks
IBD: It's the time of year for the big outlook question, gentlemen. What's your expectation for the stock market in 2023?
Jeff Muhlenkamp: I expect the stock market to continue to decline as long as the Federal Reserve is raising interest rates and shrinking their balance sheet. I expect that decline to be pretty choppy. It has been for the last year or so. This will continue until the Fed reverses course and starts cutting interest rates and possibly starts quantitative easing again.
IBD: When do you expect the Fed to reverse course?
J. Muhlenkamp: They may do that if they have, one, licked inflation, although that's unlikely without a recession. Another reason they would reverse course is if they trigger a recession and don't want it to get too bad. That's a likely outcome. Or, three, they need to fight a financial crisis that has popped up. That's also a likely scenario.
How Flexible Is Muhlenkamp Fund
IBD: Generally, how flexible is the fund's investment approach?
J. Muhlenkamp: We look for total return. We're indifferent about where we find it. If we get it from capital appreciation, great. If we get it from income, great. Our focus is on how much we get on an after-tax basis. And how sustainable it is.
IBD: How typical for the fund is your current 45% cash weighting?
J. Muhlenkamp: Forty-five percent is unusually high. But we're happy to sit on cash right now. Not just because of valuations we see, but also what the Fed is doing. It seems unlikely that the broad market is going to go up as the Fed raises rates and reduces the size of its balance sheet.
IBD: When would you put more money to work?
J. Muhlenkamp: One, if we saw a value that is a nonsense, cheap price. The last time the market did that in a systemic fashion was in March-April of 2020 (at the start of the Covid-19 pandemic). That's when you ignore the disquiet in your gut and just buy the asset. We're not seeing those prices yet. I don't need to see it on a systemic basis. But I do need to see it for individual assets.
IBD: When else?
J. Muhlenkamp: If we believed the market trend is turning. That would mean the Fed is going from tightening to easing.
Apple: How To Invest In Stocks
IBD: Apple earnings per share growth have slowed a lot. Do you still like it?
Ron Muhlenkamp: We bought Apple in December 2012 and November 2014. We bought Microsoft in October 2010. We bought when they were 12 times earnings. They got to 30 or 35 times earnings. We sold two-thirds to three-quarters of our stakes in August and September of 2021 and then in January 2022.
IBD: Why hold onto some?
J. Muhlenkamp: (Apple has) the premium computer in your pocket. My hypothesis is that it can do more. Apple is figuring that out. They've got headsets and ear buds. They're not just speakers. They can also be sensors. They could measure your temperature, turning it into a health monitoring tool. Likewise, they've got a watch on consumers' wrists. They're working with eyeglasses.
There's no guarantee. But I'm willing to live with a decline in price-earnings as they generate cash to find out how to use those tools.
IBD: What's the appeal of Alerian MLP ETF?
R. Muhlenkamp: It's an ETF that owns gas pipeline middlemen. And it's yielding about 8%. When people look for yield, they often buy electric and water utilities. But their yields are only about 2.5%. And their prices are about twice what I can justify. And since Alerian is an ETF, I don't need to file a Form K-1 with my taxes the way you would with an MLP (master limited partnership).
Schlumberger: A Geopolitical Play
IBD: Earnings per share growth for energy field services firm Schlumberger have accelerated. Is that why you like this particular field services stock?
J. Muhlenkamp: They operate more globally than, say, Haliburton. And for the last decade plus, much of Europe has focused on wind and solar. It has shifted away from coal, oil and gas. If they shift back towards oil and gas, Schlumberger is in a better position than Haliburton to take advantage. And Europe has to change its mind. It has no choice.
IBD: Earnings per share growth for UnitedHealth Group has accelerated for two quarters. What's your outlook for this managed care provider?
J. Muhlenkamp: UnitedHealth has two businesses. They have health insurance. And they have health services, called Optum. That's where most of their growth comes from. We expect their 10% annual revenue growth to continue. And they have a better than 25% return on equity, selling at 24 times 2022 estimated earnings.
That looks fully priced. But we're happy to own it as long as they continue to do good things with their money. And as long as they reinvest it as profitably as they have.
IBD: Is McKesson a good comeback story?
J. Muhlenkamp: They're primarily a drug distributor. We bought it three or four or five years ago. Shortly after, the opioid crisis hit. They got dragged into court for their role. But once legal challenges started to get resolved, the economics of the company started to reassert themselves. I expect 3% to 5% annual revenue growth. I expect return on equity of about 18% to 20%. I expect it to generate about 8% free cash flow at the current price. It's trading near 380. It has (at least) tripled since we bought it.
How To Invest In Stocks: In A Rush
IBD: You don't mind owning winners a long time, right?
R. Muhlenkamp: We've owned Rush Enterprises, a truck distributor and maintainer in the Southwest, more than 20 years. It's trading around 50. Our cost is a buck (per share).
IBD: Why do you like it?
J. Muhlenkamp: They've invested in their parts and services business. CEO "Rusty" Rush tracks how much of his overall costs are covered by his parts and services. He calls it his absorption rate. It's 130%. So his company is profitable even if they don't sell a single truck.
Most auto retailers' absorption rates are around 60% to 70%. They must sell cars to make money. And he continues to gain share. He has about 5% to 6% of total class-A truck sales in the U.S. He grows through acquisitions. He improves their profitability. How can I find another business like that?
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