In a stock market mainly focused on the megacap stocks of the moment, Joshua Wein steers clear of the giants while running one of the best mutual funds.
The comanager of Hennessy Cornerstone Mid Cap 30 Fund (HFMDX) casts his stock-picking net in a pond filled with undervalued midsize companies valued between $1 billion and $10 billion with improving earnings and stock price momentum.
Stocks Wein and comanagers Neil Hennessy and Ryan Kelley target fall somewhere between $3 trillion market-cap giants like Apple and Microsoft and small-cap companies valued below $1 billion like insurer SelectQuote and furniture retailer Ethan Allen Interiors. The fund is fairly concentrated and invests in about 30 names.
Hennessy Cornerstone Mid Cap 30 uses a quantitative model to find midsize companies that have a price-to-sales ratio below 1.5, higher earnings than the prior year and positive price gains in the past three- and six-month periods.
The fund's quant-driven repeatable process has served its investors well over the past decade. The fund has performed better than 99% of its peers in the past one-, three-, five- and 10-year periods, posting respective gains of 40.69%, 25.41%, 24.17%, and 13.16% in those time frames, according to fund tracker Morningstar Direct.
Hennessy Cornerstone Mid Cap 30 is off to a good start in 2025, posting a 4.03% gain in January, topping 83% of its peers.
IBD asked Wein to discuss the fund's investment philosophy and to say what stocks the fund is bullish on now.
What Makes One Of The Best Mutual Funds?
IBD: So, what's the benefit of the fund's quant model?
Joshua Wein: It's a rules-based methodology. It ends up excluding about two thirds of the companies in the (midcap) marketplace. This investing formula goes back to the fund's inception over 20 years ago.
IBD: When looking for cheap stocks, why use price-to-sales and not price-to-earnings multiples?
Wein: It wasn't my invention, but the idea was that sales are more variable than earnings or cash flow. With price-to-earnings, some years if a company doesn't have earnings, or if they're turning around and they've earned a penny and maybe they're going to earn $1 next year, but that penny gives you a somewhat infinite P-E, or in the case of a loss, there's no P-E. So, using P-Es (those turnaround stocks) get excluded (from consideration). But if you use price to sales, what ends up getting included are some turnaround names or turnaround stories. And we like to buy companies that have already turned the corner.
IBD: Does your focus on price to sales also guide you toward specific types of stocks?
Wein: By using price to sales (as the valuation guide), we end up excluding industries and sectors with high margins. The way that $1 of sales would flow through, you would never have a software company, for example, trade below 1.5 sales. They probably would never even be trading below five times sales.
What we do get are a lot of low-margin companies: construction, consumer and distribution-based businesses. And they do tend to be a bit more defensive. They also tend to be harder to replicate. It's hard to build out a new (retail chain like) Gap, which is not a very sexy name. It would be hard to replicate Gap. You'd have to build a lot of stores, hire a lot of people. And the same with a construction company, if they have offices around the world and equipment and people and contracts that stretch out many years. So, we end up with the portfolio that's very much into industrials, consumer discretionary and then a smattering of, you know, consumer staples and financials.
Tracking Earnings
IBD: Why do you like stocks whose earnings this year are higher than the previous year?
Wein: It really speaks to improvement in a company's prospects. It's not always going from earning a certain amount to earning more. It could also be just losing less money than the prior year. A lot of screens other people use look at earnings growth, say 10% or 15% or whatever it might be. But I don't think many are just looking at near-term improvement. It's a small thing, but I think it's a little bit unique.
IBD: Why do you look for stocks with strong price appreciation in the past three to six months?
Wein: It's telling some kind of valuation story or perhaps there's some improvement in earnings. (It's a check to see) is the market is even noticing? And if it's not, and the stock isn't being pushed higher in the near term, then we'll wait to buy. It's not worth getting in front of a falling knife.
IBD: Does the quant model help you home in on stocks that possess traits you're looking for?
Wein: Yes, it gives us a list of maybe 50 or 60 names. And to get it to the 30, we're just ordering that list by 12-month price appreciation, and we're buying the top 30.
Looking For Turnarounds By One Of The Best Mutual Funds
IBD: Is the idea to buy stocks in turnaround mode that the market is recognizing?
Wein: In some cases, we're buying a name that has doubled in the last year, or we're just buying something that's gone up by some amount. (Price appreciation) is a sentiment indicator. Ultimately, we ask, "Is the market noticing? Do they care? Do they like the stock?" So, it's interesting. At first blush, a lot of people would be skeptical of (buying after a big run-up). And, you know, the fund had been around long enough that that skepticism can be put to rest, right?
IBD: I guess by buying names that have already turned things around, you avoid value traps?
Wein: Yeah, exactly. Take retailer Big Lots, which filed for Chapter 11 bankruptcy in September. We've never owned it. I remember seeing somewhere that it was selling at six or seven times earnings. Every company has some story to tell. Obviously, some people lost a lot of money, but it actually could have been value investors (looking at low P-E stocks). Many names that went (out of business over the years) had compelling P-Es. So, sometimes you want to avoid low P-E stocks. In contrast, in the case of our fund, it goes to show that a high P-E, if there's some improvement in earnings, could be a good starting point.
IBD: So, there's something good about a stock with price momentum?
Wein: It suggests that what's happening is positive and that the market is starting to recognize it. You know, a lot of people would say, "Oh, you're buying them after these big moves?" But when a company stock moves, I think people forget it's not just the Nvidias of the world. It could be a restaurant company, or whatever it might be. Some of these moves can last for several years, and they can be well in excess of a double or a triple (in terms of price appreciation). Even the most benign company, when they've been left for dead, and then they turn it around and people really aren't paying attention because they were burned once already, there's some money to be made there.
Investing Without Emotion
IBD: Does using a quant model take the emotion out of investing and boost performance consistency?
Wein: Yeah, it's a great point. Sometimes I get hung up on, is it the momentum? Or is it the price to sales? Or maybe even just the simplicity of the earnings growth that is the key. But it's really the discipline. We can't override what is presented to us each year in October when we reconstitute the portfolio.
IBD: Give me an example of a holding you might have passed on had the model not flagged it?
Wein: Peloton Interactive, (which makes exercise machines like stationary bikes and treadmills and offers digital training sessions) is one. I honestly don't think that I would have said yes. The model is saying buy Peloton, let's do it. I probably would have said there's probably something more interesting or better. But, you know, Peloton (which fell on hard times after sales slowed post-Covid) has done very well for us.
IBD: What's the Peloton thesis?
Wein: Peloton is interesting because it's a great brand and you can get some of their fitness classes online or through other places, probably for free, or a lot less. But for a certain segment of consumers, the whole package resonates. The bike and the live classes and the technology that goes into it, and being able to track progress and all that. They've gone beyond the bike to treadmills and rowing. They still exist. And the fund owns it.
DeepSeek's Impact On The Market And Best Mutual Funds
IBD: With megacap tech names under pressure due to Chinese AI platform DeepSeek, can midcaps close the performance gap?
Wein: Regardless of how this AI model in China was developed, and how good it might or might not be, I think it just goes to show that there's so much capital flooding into all things AI. And even though no one could rightfully say that Nvidia is going to go away, I mean, there will be competition. But there's not a lot of capital flooding into restaurants. We own Brinker International, which has done very well. (It owns brands such as Mexican restaurant chain Chili's Grill and Bar and Italian restaurant Maggiano's.) There's not a lot of capital flooding into construction companies, either. I mean, with all the excitement over infrastructure and now things like data centers and power generation, I don't read headlines about companies raising massive amounts of capital to go into that vertical.
IBD: Are midcaps situated in a good place now?
Wein: Midcaps are obviously a bit larger than small caps but they exist for a reason. And in many cases that reason is kind of mission critical to everything else that we talk about. It's building buildings. It's heating them. (And) it's powering them. Or it's eating out after a long day of work. It's just the flow of capital and the competitive nature of midcaps, where there's just less competition.
IBD: Are midcaps cheaper than the big caps?
Wein: More importantly, there's a bit of a valuation story. The market now trades at like 22 to 24 times this year's earnings. But on an equally weighted basis, I think you can shave six or seven points off that. So, obviously the market is very top heavy. This could be a tough year for the market, but probably a great year for stock picking, favoring kind of equal weight managers (and small-cap to midcap managers) of the world.
Examining Midcap Stocks
IBD: What else is working in midcaps' favor?
Wein: There's a lot of cash on the sidelines (that could fuel acquisitions). Both private equity and large corporations could be buyers of smaller companies. And we have a better regulatory environment. (We could see more) M&A. The (Biden) administration was pretty hawkish, and I think the (Trump) administration will take a much softer view of things. So, I think there's a good setup.
IBD: Talk about some stocks in the portfolio that are not well-known like Nvidia is.
Wein: I mentioned Brinker. And I think that in a backdrop of companies that are struggling like TGI Fridays (which in November filed for Chapter 11 bankruptcy protection) and IHOP, I think Brinker sticks out. They were one of the first to really take hold of this idea that we have to provide some value to customers because they're not showing up at our door. And so, granted, it's had this incredible run over the last year, but they're taking share. And if there's a more favorable backdrop for wholesale food prices, I think that there's more room to run.
IBD: Isn't the turnaround at Chili's helping Brinker's numbers?
Wein: I haven't been in a while, but my son and wife went and said it was an incredible value. And they said the food was great. It's been this viral thing of, you know, how good Chili's is. It's interesting, because I think a lot of names in our portfolio, people kind of forget they exist because they were more about the '90s or 2000s. But they're still around. And I guess times like this, you know, if you can take share from some of these other companies that are just struggling, it's a great thing.
How A Best Mutual Fund Stays Fresh
IBD: How often does the fund's quant model update the 30 stocks in the portfolio?
Wein: We do a portfolio reshuffle once a year in the fall. And typically, anywhere from maybe two to five names will remain after we run the model. But 80% to 90% of the fund is brand new.
IBD: How do you tweak the portfolio during the year?
Wein: As these names go up or down, we add to them pro rata. So, when money comes in, we're not looking to get every holding back to 3.3% weighting. We're kind of pressing things. If a stock has done well, we're going to give it more money. And if it's done poorly, then we back off.
IBD: The fund owns a lot of consumer and construction stocks. Why? Talk about some names you like.
Wein: Fluor, a big construction company, is really interesting. It sold off recently because they own a stake in Nuscale Power, which is the one of the small nuclear reactor companies that took a hit on the DeepSeek AI news.
I also think Redfin, the online real estate site and brokerage, is interesting. It's a very disruptive company. Once home sales picks up, (Redfin will benefit). It's sold off the last four or five months, but of late, has rallied from $7.50 to $8.
We also own Alaska Air. Airlines have had an interesting run. It's a testament to the economy, obviously, and the strength of the consumer and if that persists, Alaska Air's chart is really interesting. It's hard to see what derails that in the short term.
Building A Winning Portfolio
IBD: Any construction stocks you like?
Wein: Herc Holdings. It's an equipment rental company. Herc is a play on them supplying companies with equipment, rather than the company itself investing the capital on their own. So, they're filling a niche. It's kind of a first derivative of a lot of these construction and engineering companies. They don't necessarily own the equipment. It's probably more efficient to rent when needed and not own.
IBD: Your fund data shows you capture a lot of a stock's upside but protect capital on the downside?
Wein: Obviously we're missing out on Nvidia, and that's OK, because we've had some great names in this fund over the years. But I think for what we miss out on the upside, we're also missing out on some of these, you know, bubbly names (that suffer large declines when conditions change).
IBD: What do think will drive stocks most this year?
Wein: At a very macro level, it's just getting more clarity on Fed rate cuts. If we can just kind of once and for all figure out that it's either one or two rate cuts this year or maybe none, then I think people can move on. Under the new administration, the onshoring trend could be an even bigger deal, which construction companies like Fluor, Herc, and Granite Construction (which the fund also owns) can benefit from. Bringing production on shore, whether it's semiconductors or medical supplies or just building data centers, whatever it might be is potentially very big.
