As of September 30, 2022, the net asset value ("NAV") of the Parnassus Endeavor Fund (Trades, Portfolio) – Investor Shares was $40.97, so the total return for the third quarter was a loss of -7.52%. This compares to a loss of -5.62% for the Russell 1000 Value Index ("Russell 1000 Value"). For the year-to-date period, the Parnassus Endeavor Fund (Trades, Portfolio) – Investor Shares has recorded a loss of -24.17% compared to the Russell 1000 Value’s loss of -17.75%.
2022 has been a brutal stretch for stocks, and the Parnassus Endeavor Fund (Trades, Portfolio) was not immune. Our economically sensitive stocks tumbled as both interest rates and the risk of recession marched higher. The Fund’s performance also suffered due to our zero allocation to energy, the only sector with a positive real return this year.
On the left is a table that summarizes the performances of the Parnassus Endeavor Fund (Trades, Portfolio), the Russell 1000 Value and the S&P 500 Index. The returns are for the one-, three-, five- and ten-year periods.
Third Quarter Review
For the quarter, the Parnassus Endeavor Fund (Trades, Portfolio) – Investor Shares trailed our benchmark by 1.9%. Negative stock selection accounted for approximately a quarter of our year-to-date underperformance, with the remaining three-fourths due to sector allocation. Our overweight positioning in technology was the biggest detractor, followed by our underweight positioning in the energy sector. For the second quarter in a row, health care was our biggest contributor within stock selection.
FedEx (FDX, Financial) was our biggest loser this quarter. Its shares plummeted -34.2% and detracted -0.7%* from the Fund’s return. Package volumes declined significantly, particularly in the company’s Express segment, due to the economic slowdown in Asia and service challenges in Europe. Additionally, fears of a recession are weighing on investor sentiment, resulting in the stock trading near a historic low valuation. We maintained our position since we believe that expectations are low, and that FedEx has a large opportunity to improve efficiency and margins over the next few years.
Shares of Verizon (VZ, Financial), the country’s largest wireless carrier, sank -24.2% in the quarter, detracting -0.5% from the Fund’s return. Competition within the U.S. telecommunications industry has intensified recently, and the need to invest in next generation 5G technologies is deflating profits for Verizon. Despite these near-term headwinds, we believe the stock offers an attractive risk-reward with a 7% dividend yield. We expect profitability to recover after this investment phase, and the benefits from consolidation of competitors T-Mobile and Sprint should accrue to all wireless players, including Verizon.
Western Digital (WDC, Financial), a leading memory semiconductor company, fell -27.4%, cutting -0.4% from the Fund’s return. A sharp global slowdown in spending on consumer electronics undercut the company’s revenue and margin targets, which came in below street expectations. Management is taking appropriate steps to diversify the company’s revenue and capture faster growth in the enterprise cloud segment. Given the balance of risks, the stock’s low below-book valuation presents significant upside potential as longer-term demand drivers for memory semiconductors remain favorable.
Turning to our winners, investment brokerage company Charles Schwab (SCHW, Financial) was the Fund’s best performer in the quarter, gaining 14.1% and adding 0.6% to the Fund’s total return. Schwab’s share price rebounded after its poor performance last quarter as investors’ expectations for earnings through 2023 improved. Schwab earns interest on cash held in brokerage accounts and so benefits from rising interest rates. Last quarter, investors focused on the downside of rising interest rates: declining cash balances in brokerage accounts. This quarter, with an aggressive Federal Reserve rapidly hiking rates, investors shifted their attention to the positive impacts on Schwab of higher yields and the higher earnings that should follow.
Biogen (BIIB, Financial) contributed 0.5% to the Fund’s return, as its stock surged 30.9%. The biopharmaceutical company develops drugs that treat neurological and neurogenerative disease, including multiple sclerosis and spinal muscular atrophy. Its stock soared 40% in July after the FDA granted Priority Review status to the company’s application for its latest experimental Alzheimer’s treatment. The positive trial data surprised investors, who had abandoned the stock after prior clinical failures that led to management turnover.
We significantly trimmed our stake on the news but maintained a core position in Biogen, as upcoming milestones should drive the stock higher in ways uncorrelated with the broader market.
Shares of farm and construction-equipment provider John Deere (DE, Financial) jumped 11.9%, contributing 0.3% to the Fund’s return. The company reported a decent quarter despite significant cost and supply-chain headwinds. Importantly, Deere noted strong momentum in their early order program for next year’s products. We bought into Deere last quarter when the stock price sank due to supply-chain concerns and are delighted to include it in our list of winners so soon. We continue to like Deere’s near-term positioning and believe the long-term secular story remains underappreciated.
Outlook and Strategy
In 2022, the U.S. stock market has experienced one if its steepest drops in history as measured by the S&P 500 Index. At the same time, the Federal Reserve has embarked on one of the fastest periods of monetary tightening in its history. These two phenomena are clearly connected to the unexpected emergence of persistent inflation. In general, inflation is a symptom of an overheated economy, and the medicine is fiscal and monetary restraint. With infrastructure in need of investment, competitive threats from China, Russia waging war in Ukraine and environmental disaster at home, the U.S. government can hardly stem spending, so the Fed must do double duty by aggressively hiking interest rates.
Monetary tightening takes time to work its way through to the real economy. But interest rates have risen so far and so fast this time that no one really knows what the eventual outcome will be. Already there are signs of a slowdown in rate-sensitive sectors like housing and cyclical sectors like semiconductors and in the rapid decline in prices of several commodities. This cooling off should bode well for inflation coming down and for the Fed to take a less restrictive stance, but the timing for such a pivot remains highly uncertain. Recent volatility in the markets is an expression of that uncertainty.
We took advantage of the market’s volatility to upgrade the portfolio in the third quarter. We sold semiconductor companies Applied Materials (AMAT, Financial) and Intel (INTC, Financial) and exited Pepsi (PEP, Financial) and Novartis (NVS, Financial). Semiconductor companies face a difficult road ahead, given the steep drop off in demand for consumer electronics following the boom in spending during the pandemic. We liquidated Pepsi and Novartis because of their relative outperformance.
The Fund initiated positions in Oracle (ORCL, Financial), Ball Corporation (BALL, Financial) and Signature Bank (SBNY, Financial). Oracle sells mission-critical database and enterprise application software and earns recurring revenue from its cloud-based business model. We purchased Ball Corp., the world’s largest maker of aluminum beverage cans, at a favorable valuation to benefit from long-term secular trends in sustainable packaging. Finally, we bought shares of Signature Bank, which serves its privately-owned business clients by attracting and retaining bankers through better-aligned incentives.
The current investing environment is one of the most challenging in recent history, but it also presents opportunities for patient investors to buy good companies at bargain prices. Every day, we bring our steadfast investment philosophy, dedicated people and time-tested process to identify such opportunities with the aim of generating attractive long-term returns for our shareholders.
Thank you for your investment in the Parnassus Endeavor Fund (Trades, Portfolio).
Sincerely,
Billy Hwan
Portfolio Manager
Performance data quoted represent past performance and are no guarantee of future returns. Current performance may be lower or higher than the performance data quoted. Current performance information to the most recent month end is available on the Parnassus website (www.parnassus.com). Investment return and principal value will fluctuate, so an investor’s shares, when redeemed, may be worth more or less than their original principal cost. Returns would have been lower if certain of the Fund’s fees and expenses had not been waived.
