Dear Hennessy Funds Shareholder:
The past six months in the stock market have been dramatic, even tumultuous, especially for certain sectors within the broader market. For the six month period ended April 30, 2023, the broader equity markets rose then dipped each month consistently until the last two months of the period: the S&P 500® Index was up 6% in November, down 6% in December, up 6% in January, down 2% in February, up 4% in March, and finally up again 2% in April, resulting in a positive total return of 8.63% for the entire period.1
These single digit moves in the broader market masked the more pronounced moves in specific sectors or industries, the worst of which was the Financial sector’s 10% drop in March 2023. Within the Financial sector, large cap banks plunged 25%, precipitated by the second and third largest bank failures in history, which occurred over one weekend in early March. Our long tenured and experienced Portfolio Manager, Dave Ellison, observed that March felt like ten years crammed into just a few weeks. Conversely, the Technology and Communication Services sectors performed exceptionally well during the six-month period ended April 30, 2023, with total returns of 19% and 23% respectively, rebounding from a dismal 2022.2
Interest Rate Hikes and Inflation
While various factors drove this disparity of returns, interest rate hikes and persistent inflation were the primary causes behind many of the movements, both positive and negative, in the market. High inflation and low unemployment drove the Federal Reserve to increase rates 10 consecutive times over 14 months from March 2022 through early May 2023, bringing its benchmark interest rate from 0.25% to 5.25%, its highest level in 16 years. As rates rose and debt security prices dropped, banks’ capital levels declined, and in a few extreme instances this caused depositors to rapidly withdraw funds from certain riskier banks, leading to solvency issues and failures. On the other hand, positive results for many Technology companies and continued strong consumer spending caused many investors to pivot back into Technology, one of the worst performing sectors of 2022 but one of the best so far in 2023. Finally, with a mild winter, reduction of geopolitical unease, and fears of softening demand globally, oil, natural gas, and other commodities saw a drop in prices, causing Energy company shares to retreat after an incredibly strong 2022.
Outlook for U.S. Stocks
We believe that the outlook for U.S. stocks remains positive, primarily because we believe that the Federal Reserve may be done, or close to done, raising rates. Inflation has shown signs of easing, creating a better environment for consumers as well as businesses. The unemployment rate remains near record lows, there are elevated levels of cash on the balance sheets of U.S. companies and in the pockets of many consumers and investors, and there is the prospect of a more dovish Federal Reserve in the second half of 2023. However, we are cautiously watching certain parts of the economy for continued signs of weakness, as the risk of recession remains a concern. While volatility and uncertainty may continue to impact the markets, we encourage investors to stay the course, maintain a diversified portfolio, and keep a long-term perspective.
High Conviction Strategies for Long-Term Results
Tumultuous times call for introspection, allowing us to reflect on who we are and on what makes a fund a Hennessy Fund. We are long-term investors in companies, not traders of stocks, and we strive for positive shareholder returns over a complete market cycle. Our funds are run by a talented group of Portfolio Managers, the vast majority of whom have over 20 years of investment experience and who bring their unique perspective and expertise. All our Portfolio Managers are professionals dedicated to running their portfolios with adherence to well-defined investment criteria and with a long-term focus in mind. We have five internal Portfolio Managers and sixteen external Portfolio Managers through five separate sub-advisors. Their expertise vary from Financials, Energy, and Utilities to Japanese companies to ESG (Environmental, Social, and Governance) companies. Some have invested through Black Monday and the Stock Market Crash of 1987, while a couple have entered the industry only after the Financial Crisis of 2007/2008.
We have 11 domestic equity funds, three domestic hybrid (equity and income) funds, two international equity funds, and one domestic ETF, which was added to our line-up in December 2022. We have eight funds that invest across all sectors, six that focus primarily on one sector (Energy, Financials, Utilities, and Technology), and one fund that invests exclusively in companies that fit its strict ESG criteria. Most of our portfolios are concentrated, differentiated from their benchmarks, and designed to mitigate downside risk. In fact, as of April 30, 2023, the number of stocks in each of our 17 funds ranged from 10 to 63, with a median of 30. Excluding our hybrid and index funds, the median average active share of our funds was an impressive 90%. Active share measures how different a fund is versus its benchmark, with 100% signifying that the fund and benchmark have no common investments. Finally, the downside capture ratio, which measures the relative performance of a fund versus its benchmark on negative performance days, averaged a respectable 89%, 95%, and 90% across our funds for the three year, five-year, and ten-year periods ended April 30, 2023.
We thank you for your continued interest in the Hennessy Funds, and we are grateful for your trust. While we prefer to post only positive returns for our shareholders, we are pleased that many of the Hennessy Funds did just that during the unpredictable past six months. If you have any questions or would like to speak with us directly, please call us at (800) 966-4354.