In this interview, Nick Schommer, CFA, Portfolio Manager of the Janus Henderson Contrarian Fund, discusses what the pandemic has taught us about the importance of a company’s business model and how the Fund employs Janus Henderson’s deep fundamental research to uncover hidden investment opportunities.
What is your process for identifying companies that you believe have durable business models with longterm investment potential?
We first assess a company’s business model to look for sustainable competitive advantages that we believe can allow it to generate attractive returns over a long duration. In the disrupted environment caused by the COVID-19 pandemic, this has allowed us to avoid certain “value traps” - companies that appear inexpensive but whose long-term growth prospects may be hindered. Second, we focus on valuation, buying companies whose stocks are trading at a significant discount to what we believe is their fair value. These are typically opportunities where the market appears to misunderstand the business model, undervalues the company’s assets or underappreciates the company’s long-term growth trajectory. Ideally, the companies we seek to invest in can achieve both objectives: Continued profitable growth over time and the ability to fully realize that value due to the strength
of the business model.
Identifying these companies requires us to not only employ the deep fundamental research that is the foundation of the firm’s active investment approach, but also to exercise independent thinking in our assessments. As the Fund’s name suggests, we are taking a position that may be considered contrary to what the broader market believes. That requires us to think independently as we attempt to uncover mispriced opportunities.
What can the pandemic teach investors about the importance of a company’s business model?
The COVID-induced economic environment has tested business models in ways we’ve never seen. The service economy – businesses that historically tend to do well during recessions – has been particularly impacted. The pandemic caused people to postpone non-critical medical procedures, cancel travel plans, and stop attending concerts and sporting events. No one would have predicted severely decreased and/or nonexistent revenues for these businesses.
Perhaps the most notable effect has come as a result of widespread digitization of the economy. Digital disruption has magnified competitive advantages for certain companies that have been able to not only function but thrive in the midst of crisis. Identifying which companies are on the right and wrong side of this disruption is key in this environment.
Financially leveraged companies were also punished disproportionately during the initial pandemic-related market volatility. As markets began to discern between companies that did and did not impair capital, we saw certain high-quality companies with a degree of leverage rebound strongly. The ability to understand businesses that are financially suited to weather a crisis and emerge in a position of strength is critical.
Considering your investment approach, what is your view on large-cap technology stocks’ performance in 2020?
Consumers have thus far been willing to spend through digital means and experiences during the pandemic, to the specific benefit of some large-cap technology firms.
While these companies have been the primary beneficiaries of the accelerated digitization of the global economy, businesses on the right side of this disruption can be found across economic sectors. As investors gain confidence that the economy can return to normal, we think the market recovery can become more broad-based and supportive for companies in other sectors and with more reasonable valuations. In our view, it’s important to seek out companies in less obvious areas that stand to emerge stronger on the other side. And of course the opposite is also true: Digitization has exposed many business models that are at risk of obsolescence, such as brick and mortar retailers, which investors may be better suited to avoid.
The Contrarian Fund is near the top of its Morningstar category during your time as portfolio manager. What do you feel has contributed to your successful track record?
The past year has confirmed our view that a focus on durable business models and avoidance of a permanent loss of capital can be powerful tools in an investment process focused on long-term capital appreciation. As with any crisis, the pandemic created a set of economic challenges that exposed weakness in certain business models and created opportunity for others.
Another key contributor to our track record is the fact that the Fund is unconstrained by sector or market cap. The flexibility to select stocks from such a broad opportunity set enables us to construct a concentrated all-cap portfolio that seeks differentiated sources of returns and diversification across market cap and style. And we have been able to outperform many of our peers over time by leveraging the independent thinking of our global research team.
What role do you see the Contrarian Fund playing in an investor’s overall portfolio?
Our belief is that by investing in durable business models trading at a significant discount to their fair value, whose intrinsic value grows over time and whose management teams are aligned with shareholders, investors may reduce the potential for permanent capital loss and could increase the probability of long-term gains. With a broad opportunity set, comprised of misunderstood business models, undervalued assets and under appreciated growth stocks, the Contrarian Fund may serve as a core equity holding that can provide a differentiated set of returns as compared to other equity holdings.