Jeffrey Vinik was a former manager of Fidelity’s Magellan Fund, the largest actively managed mutual fund in the US. Vinik managed the fund from 1992 to 1996, generating an average return of 17% per year. He launched his own hedge fund, Vinik Asset Management, after leaving Fidelity. Vinik’s performance was spectacular. In his first 11 months, he nearly doubled investors’ money. In the following three years, he made about 50% annually. In October 2000, Vinik announced that he would stop managing money for outsiders and returned $4.2 billion to his investors by the end of the year. He still manages money for friends and family though.
Recently Vinik reported his latest holdings to SEC in a 13F filing. Let’s take a closer look at his most bullish bets and decide whether investors should also purchase these stocks for their portfolios.
Cognizant Technology Solutions Corporation (CTSH): This is the second-largest non-ETF position in Vinik’s latest portfolio. The largest non-ETF position is Google Inc (GOOG) and we have already discussed GOOG in detail in our article about Roberto Mignone. During the fourth quarter last year, Vinik significantly boosted his CTSH stakes by 143%. As of December 31, 2011, Vinik had over $200 million invested in this stock. CTSH is quite popular among hedge funds. At the end of last year, there were 28 hedge funds with CTSH positions in their 13F portfolios. For example, Tiger cub Stephen Mandel’s Lone Pine Capital had $425 million invested in this position.
However, we are not very bullish about CTSH. We think it is a bit overvalued compared with its peers. Its current P/E ratio is 25.04, versus 19.36 for the average of IT services industry. On the other hand, the company managed to grow its revenue and earnings faster than its peers. For the fourth quarter of 2011, the company improved its EPS by 18% compared with the same quarter a year ago. Its revenue also rose by 27%, versus 0.1% revenue growth for the industry average. Going forward, we believe CTSH is still able to grow at faster pace than its peers as it has been moving into high-growth verticals. Despite its strong growth, its forward P/E ratio of 17.41 is still higher than the 16.84 for industry average. Over the longer term, analysts expect the company’s earnings to grow at an average of 17.6% per year. However, the increasing competition in the IT services industry, especially the competition from companies domiciled in India and in other foreign countries, may put pressure on CTSH’s growth. So we do not think it is a good time to purchase CTSH now. We would rather purchase other IT stocks with low valuations, such as GOOG and AAPL.
US Bancorp (USB): Vinik also largely increased his position in USB over the fourth quarter. He boosted his stakes by 407%. At the end of last year, Vinik had $185 million invested in USB. This financial stock is also popular among hedge funds tracked by us. As of December 31, 2011, there were 38 hedge funds with USB positions in their 13F portfolios. Warren Buffett is the most bullish hedge fund manager about USB. His Berkshire Hathaway reported owning $1.9 billion worth of USB shares at the end of 2011. Andreas Halvorsen and Ric Dillon were also bullish about USB.
USB reported solid fourth-quarter results for 2011. Its operating revenues were $4.8 billion, up 4% from the same quarter last year. The better-than-expected revenues were driven by strong fee income and spread income. Its operating fee income was $2.2 billion for the fourth quarter of 2011, up 2% from the same quarter a year ago. Its spread income was also up 7% from last year to $2.6 billion. Moreover, the company also experienced strong loan growth and robust deposit flows. Average loans increased by $4.9 billion, mainly contributed by strong growth of commercial loans, which was up by $2.9 billion. Residential loans also increased by 22% from the same quarter in 2010. Average deposits increased by $8 billion, or 13% from the same quarter last year. USB has a solid balance sheet. It has reached the Basel III Tier 1 common equity ratio of 8.2%. With regard to valuation, USB seems to be undervalued compared with the market. Its current P/E ratio is 12.08 and its forward P/E ratio is 10.17. However, most financial stocks are currently trading at low multiples because of the European debt crisis. Therefore, USB is trading at a valuation on par with its peers. The average P/E ratio for commercial banks is 12.53 and the average forward P/E ratio is 10.28. Overall we like USB.
A few other large positions in Vinik’s latest portfolio include Apple Inc (AAPL), Ulta Salon Cosmetics & Fragrances Inc (ULTA), and Schlumberger Ltd (SLB). Apple has been the most popular stock among hedge funds over the last year (see 10 most popular stocks). The stock returned over 50% in the past 52 weeks and it is still trading at low multiples. We think Apple will outperform the market over the next couple of years despite its huge increase over the past few years. SLB also looks undervalued. It is trading at a low forward P/E ratio of 13.7 with an expected growth of about 13% per year. We do not like ULTA though. It is a high P/E, high growth stock. We like to buy low PE high growth stocks which have a bigger margin of safety in case things don’t go as expected.