S&P's Mutual Selections

08/27/2004 12:00 am EST


In Part I of this report, we featured S&P's top stock picks. Here, we turn to Rosanne Pane, mutual fund strategist for Standard & Poor’s. She discusses the firm's fund strategy and highlights their top small-, mid-, and large-cap funds, and their top international picks.

"Mutual funds are great investment options for individuals. You get the opportunity to buy into a diversified portfolio with professional managers who are doing the buying and selling, and also watching performance. These days, with new rules and regulations, there is now more disclosures and tighter compliance. It’s a better environment now for mutual fund investors. Our fund research starts with performance and we then move beyond performance and understand the philosophy, process, and abilities of the management team.

"We look at three-year performance within their respective style category. What we’re looking for is consistently above average performance on both an absolute and risk adjusted basis. We then identify the funds that we want to know more about. We then conduct a management interview. We are interested in knowing is the depth and stability of the sponsor and the experience and expertise of the manager. We also look at the consistency of the fund’s style over time. Once we select fund, we then do constant monitoring of their performance, management, and style.

"I’ll start by talking about small cap funds. You have the options of looking at growth funds, blend funds, and value funds. Harris Insights Small Cap Opportunities (HSCVX) is a small cap growth fund that is quantitatively driven. They are looking for small growth companies that have growing earnings, positive earnings revision, positive price momentum, and they also look at valuation measures. This is a ‘growth at a reasonable price’ type of fund. They will typically have large weightings in health care and technology. The Lord Abbett Small Cap Blend Fund (LSBAX) is looking for mispriced securities with improving fundamentals. They will use the deep fundamental team at Lord Abbott to do in-depth research. They will talk to company managements. They will talk to customers, suppliers, and even competitors, to understand the operations of the company to determine if there will be continued improvement in the fundamentals. On the value side, Royce Pennsylvania Mutual Fund (PENNX) looks for high quality companies that are trading at a 50% discount to their true worth. The ideal candidate is a company that has hit a temporary problem, so market sentiment is against that company. What they will do in their fundamental research is to evaluate the company to make sure that it’s not a value trap, but a temporary problem.

"The next group is mid-cap funds. The mid-cap area is very interested. It’s often called the sweet spot of investing. Basically, mid cap companies have gotten passed the more risky, small cap stage and are now bigger, slightly more stable than smaller companies. But at the same time, they generally have higher growth rates than larger companies. On the growth side, the Goldman Sachs Growth Opportunities Fund (GGOAX) is looking for a good business franchise with good growth prospects that are trading at reasonable valuations. This is more of a conservative growth fund. On the value side, we have Ariel Appreciation (CAAPX) uses the motto, ‘Slow and steady wins the race.’ They take a very traditional value approach, looking for stocks trading at a p/e below 13 very cheap stocks. They are not looking for turnaround situations. They’re looking for companies that grew into the mid cap phase but haven’t been recognized yet by the general market and are still trading at low p/e multiples. They even hire investigative firms to do background checks on the executives of the companies that they are interested in investing in.

"Within domestic equities, large caps represent over 70% of the US stock market, so you should always have exposure to large cap stocks and funds. Harbor Capital Appreciation (HACAX) is an aggressive growth fund. What they are looking for is industries within the large cap space that are growing at higher than average rates. Once they’ve identified those high-growing industries, they’ll look for large companies that have strong franchises that have dominant market shares. They will also look at valuation levels, but it’s not the driving force in their stock selection. A blend stock fund is Thornburg Value (TVAFX), a blend fund with a value tilt. Bill Fries has been the manager of the fund for many years and has been winning manager of the year awards. He won the S&P/Business Week ‘Excellence in Fund Management’ award this year. He looks for three different types of stocks. The first group is basic valuetypically good growth opportunities trading at value prices due to some type of quarterly stumble or a turnaround situation. The second group is consistent earningsthe steady-eddy companies with moderate growth in earnings and dividends. The last group is emerging franchises large companies that are growing at larger than average growth rates. He puts those three together into this blend fund. On the value side, we have Selected American Shares (SLASX), which is run by Chris Davis, whose family has been running these funds for over 40 years. They are looking for high quality growth stocks that are trading at value prices. To find those stocks, they look for headline risk. They look for companies that have a big problem that show up in the business section every day and market sentiment has turned against the company. And if the price of the stock has dropped below what Davis considers the true value of the business, they will go in and build a position.

"Everyone should also have a small exposure to international markets. The Julius Baer International Equities Fund (BJBIX ) looks for blue-chip, large-cap companies around the world. They take two types of approaches. In developed markets, they take a bottom-up approach, looking for good companies with good fundamentals and good growth prospects. For emerging markets, it’s more important to get the country right. So they do a top down approach. Then they look for the best industries and the major companies within those industries. On the value side, we have Templeton Foreign (TEMFX). This is a fund that follows the Templeton value approach. They look for good companies at bargain prices. Most of the Templeton managers have said that they ‘come in early’ when market sentiment has moved against a company or even a country. If they feel there is good value and that company can reverse its temporary problems, then that’s a good candidate for their portfolio. Templeton managers also says they often sell too early. They sell when the growth managers and momentum managers start coming into those markets or stocks."

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