February 5, 2001
Mutual Funds
Eight Funds Manage to Shine In Very Different Markets
By JOHN HECHINGER
Staff Reporter of THE WALL STREET JOURNAL
Working as a part-time mail carrier in college, Saul Pannell liked to stop at the local Paine-Webber office and chat with the demoralized brokers sitting next to phones that never rang. It was 1970, the depth of a bear market when few people wanted to hear about a hot stock tip. But Mr. Pannell was different. He took a flier on General Cinema stock and watched it double in a few months.
Fast forward nearly 30 years. In 1999 Mr. Pannell, now the portfolio manager of Hartford Capital Appreciation Fund, rode tech stocks to dazzling returns. Then, showing his contrarian streak, he switched course in early 2000 and bought shares of stodgy, Old Economy companies that few people cared about. He watched those stocks soar as well.
For that two-year performance, Mr. Pannell joins a select group -- call it the Double-Up Club -- mutual-fund managers who compiled stellar portfolio returns in two very different investment years.
First, they beat the market in 1999 and early 2000 as Internet-related technology stocks soared. That was the easy part. Managers posting triple-digit returns then were as common as 25-year-old dot-com millionaires.
Second -- and here is where most others stumbled -- they got themselves out of many tech stocks ahead of the Internet plunge and made good money over the full-year 2000 by turning to companies with, of all things, earnings and rock-solid business prospects. That way, investors in these funds didn't suddenly open their year-end statements last month and scream about a 20% or 30% loss.
To find U.S. stock funds that could shine in both 1999 and 2000, The Wall Street Journal culled data from Morningstar Inc., the Chicago fund-tracking firm. The goal: find managers of diversified domestic stock funds that beat the Wilshire 5000 stock index, considered the broadest measure of the U.S. market, by a full 15 percentage points in 1999 and again in 2000. The index gained 23.6% in 1999 and lost 10.9% in 2000.
To make sure the results weren't too much of a fluke, we focused only on funds with $1 billion or more in assets at the end of 2000. We also screened out funds whose managers had been at the helm less than three years.
The result: an elite group of only eight funds. Most share flexible investment styles that are hard to pigeonhole. By and large, the eight funds shunned speculative fare, especially Internet stocks. Many of these managers -- like Paul Antico, skipper of Fidelity Small Cap Stock Fund -- are hard to characterize as either devotees of growth companies (those with fast-accelerating sales and earnings) or fans of value shares (those viewed as cheap based on low ratios of price to earnings, assets or other measures).
"These are funds that bought growth stocks -- but paid attention to earnings," says Russel Kinnel, Morningstar's director of fund analysis. "All of a sudden, when people started demanding earnings from Internet companies, they were in good shape."
By the end of 1999, for example, Mr. Pannell, a partner with Boston-based Wellington Management, which oversees the Hartford Capital Appreciation Fund, had bet 41% of the fund on technology shares, including highfliers such as Qualcomm. In 1999, the fund's class A shares (those sold with an upfront sales charge) soared 66.8%.
Then, in early 2000, he sold off tech shares and loaded up on unloved nontech but cash-rich companies like Philip Morris. His fund gained 8.4% in 2000. "We're not really a growth or value fund -- or big- or small-cap fund," he says. "Every position in the fund is a special-situation kind of investment."
Other funds on the Double-Up list also made some deft calls. Vanguard Capital Opportunity rode richly priced technology stocks like Nortel to return 97.8% in 1999. But, sharply reducing its tech exposure in 2000, the fund prospered with its big bet on more value-oriented fare, such as health-care giant Pharmacia, and finished last year with a gain of 18%. Primecap Management, Pasadena, Calif., oversees Capital Opportunity for Vanguard, as well as another fund on the winning list, Vanguard Primecap.
For the gutsiest call, look no further than Foster Friess, manager of Brandywine Fund. Mr. Friess made an infamous bet against the stock market in 1998 -- moving as much as 78% of his fund into cash and missing a year of the bull market.
Mr. Friess has apparently played it smart ever since. Brandywine gained 53.5% in 1999 on the strength of technology holdings, such as Nokia and Apple, which made up as much as two-thirds of the fund by early spring 2000.
Then Mr. Friess got a tip from a European cellphone distributor, warning of softening demand, which helped persuade him to sell most of those technology shares. By the end of 2000, tech shares made up only 14% of the fund. In their place, Mr. Friess snapped up health-care, energy and utility companies. Mr. Friess figures his fund would have dropped 17.9% last year if he hadn't made that bold move. Instead, it ended the year up 7.1%.
Mr. Friess says he simply tries to buy reasonably priced stocks with improving business fundamentals. When he can't find any -- and he says he couldn't in the first quarter of 1998 -- he raises cash. "If you stick to your discipline, eventually you're rewarded," he says.
To these managers, the success of such calls are a vindication of stock picking over the much-heralded virtues of buying and holding a basket of stocks in an index, such as the Standard & Poor's 500-stock index, to parallel market returns.
Defying the Current Convention
The Double-Up winners also defy the current convention of adhering closely to a specific investment style -- say, picking large companies with fast-growing earnings -- and accepting that some funds will shine in some markets and tank in others.
One of the Elite Eight, Growth Fund of America, part of American Funds group and managed by Capital Research and Management in Los Angeles, held some value-oriented stocks in 2000, such as Berkshire Hathaway, the insurer and investment vehicle of value legend Warren Buffett. Another of the winners, Excelsior Value & Restructuring Fund, owned hot growth favorites Nokia and Qualcomm in 1999.
William Dougherty, president of Kanon Bloch Carre, a Boston mutual-fund consultant who tracks fund performance, says the best managers are always opportunistic, shifting in and out of sectors and using different styles in different markets. He says Peter Lynch, the high-performing former manager of Fidelity Magellan Fund, acted this way. "Funds should adjust, they should shift with the times," Mr. Dougherty says. "There aren't many that do it, really."
But other analysts and many academics say making such good calls is a fluke, since so few managers beat the market over the long term. Managers who make bold calls "may look like geniuses some years," says Daniel Kahneman, a Princeton University professor who studies economics and psychology. "They just happen to be lucky in making some calls. They could be just as unlucky the next year."
So Prof. Kahneman believes in index funds, as does Harold Evensky, a Coral Gables, Fla., financial planner who oversees $350 million for clients, with about half those assets in index funds. With active managers, he prefers stock pickers who adhere closely to a specific style.
Strong Long-Term Records
In fact, when one of the funds he invests in suddenly does far better than its peers because of some unusual sector bets or style shifts, Mr. Evensky is apt to sell them. "Outperformance scares us as much as underperformance," he says.
But Mr. Kinnel and members of the Elite Eight managers club note that they generally have strong long-term records, suggesting more than luck. And Mr. Kinnel argues that something of a consistent stock-picking approach ties them together. That is, buying growth stocks but paring back when they get too expensive, based on earnings or other measures -- a strategy often called "growth at a reasonable price."
Or as Mr. Antico, manager of Fidelity Small Cap Stock Fund, says: "I don't box myself into one style. I don't consider myself a growth manager or a value manager." So, Mr. Antico bought technology and genomics stocks in 1999, gaining 42.7% for the year -- and shifted to insurance the next year, racking up an 11.8% return in 2000.
Acting Like a Value Manager
Richard Freeman, manager of Smith Barney Aggressive Growth Fund, often holds stocks for 10 years or more. In 1999, longtime holdings such as America Online helped power his strong return for the fund's class A shares of 63.7%. But last year, acting more like the manager of a value fund, Mr. Freeman added to holdings in cheap financial stocks such as Lehman Brothers and Neuberger Berman, moves that helped him gain 19.3%.
Only during the fourth quarter of 2000 did Mr. Freeman start increasing his holdings in technology stocks, buying Cirrus Logic and Micron Technology -- stocks he feels are attractively valued and positioned to prosper this year. "It looked like a lot of risk had been taken out of these stocks," he says.
Write to John Hechinger at john.hechinger@wsj.com5
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