SmartMoney.com - Fund Insight
Heard About That Hot Czech Stock?
By Dawn Smith
BY MOST ACCOUNTS, Central Europe isn't considered a hotbed of investor opportunity.
But don't tell that to Rudolph-Riad Younes, co-manager of the $536 million Julius Baer
International Equity fund (NASDAQ:BJBIX - news). He, along with co-manager Richard Pell, believes investments in Poland,
Hungary and the Czech Republic are going to pay off big — that is, if the European Union decides to add these countries to the
club in 2004, as is tentatively planned.
Sound risky? Well, it is. But these international-investing contrarians have
proved themselves wiser than most. Like many other foreign-stock fund
managers, they place the majority of their assets in Western Europe and
Japan. But it's the small distinctions that have made a difference for the
fund since the duo took the reins in the spring of 1995. It's gained 16%
over the past five years annualized, placing it among the top 3% of all
foreign-stock funds for that period, according to Morningstar. (This
no-load portfolio has an expense ratio of 1.37%, compared with its
average peer at 1.67%.)
Ironically, it's the more conventional investments, namely some tech and
telecom holdings, that have caused the fund some trouble recently. In
2000, it lost 8% — although it still out ran its category average and beat
the S&P 500's loss of 9.1%. This year, however, it's down more than
16%, compared to a 14% loss for the foreign-stock fund group. The problem, says Younes, is that the fund began reducing its
exposure to these groups in spring 2000, but not aggressively enough. The managers expected these stocks, including
Vodafone (NYSE:VOD - news) and Nokia (NYSE:NOK - news), to trade sideways for two years or so — not plummet as
they did — in order for their valuations to come into line.
And while Central European stocks may comprise only 7% of the portfolio, Younes and Pell believe the area holds more
promise than other emerging markets, such as Asia and Latin America. (Eventually, they hope to have a 10% stake in the
region.) While the market tends to overestimate certain stocks (case in point: Internet stocks back in their heyday), says
Younes, it can just as easily underestimate them, as it's doing in the former communist bloc.
Poland, Hungary and the Czech Republic certainly have plenty of room for growth. That could come thanks to the region's
proximity to Western Europe. German manufacturers, for example, could save money by opening plants in these nearby,
less-expensive labor markets. ``It could become a replacement for Asia,'' says Younes. That could help boost the region's low
levels of per capita income — now around $5,000 a year, on average — and improve the fortunes of domestic Central
European companies.
Younes and Pell try to minimize the risk of investing in this volatile corner of the world by focusing on the largest companies in
Central Europe, such as Bank Pekao, the largest retail-bank network in Poland, and Komercni Banka, the No. 2 bank in the
Czech Republic. ``We're very confident that that region will be the best-performing market in the first decade of the century,''
he says. Still, he concedes, ``It's a quantum leap. You're going from communist economies to first-world economies as far as
currency and industry are concerned.''
Unusual investments such as these are a result, in part, of an international investing strategy that's more flexible than most.
Depending on the region, the managers focus on individual stock characteristics or take their cues from the economic climate.
In emerging markets, macroeconomic conditions come first, especially currency issues. This usually leads them to the country's
four or five largest companies. But in developed nations like Germany, their stock picking is based on companies and sectors.
(An exception to the rule is Japan, where the dire need for government reforms gives macroeconomics unusual weight.) Most
recently, the fund's top holdings were Italian oil-and-gas concern ENI (NYSE:E - news), the United Kingdom's Vodafone and
France's Vivendi (NYSE:V - news).
Lately, the managers are seizing buying opportunities in hopes of improving recent returns. This has meant decreasing their cash
level, which has reached 20% at various times in recent years. In the past week, German-born Michael Testorf, who next year
officially becomes the third portfolio manager at this fund, has been leading a charge into Germany, where they've been buying
up likely acquisition targets — though the managers won't name names. The strategy is to be well-positioned as the country
prepares for a takeover-easing law that's expected to be approved this year and should take effect at the beginning of 2002.
The fund has also recently set its sights on Japan, where its stake is up to 14% from about 8% earlier this year. Although
Younes says he wishes he had invested more in the country before Japanese Prime Minister Junichiro Koizumi took office in
April — in order to enjoy the subsequent rally — he believes domestic stocks in Japan could benefit significantly from expected
reforms. As a result, more than two-thirds of his investment in Japan is in retailers, banks and telecom companies, which all
depend on domestic improvement, not export demand. Younes admits that betting on real reform in Japan is a high-risk
strategy, and says he will sell quickly if he doesn't see improvement.
``There's very little tolerance in this market,'' he stresses. ``Sell first, ask questions later. In the bull market, you bought first and
asked questions later.''
Despite recent bumps, this fund is a solid foreign-stock holding, says Bill Rocco, fund analyst at Morningstar, noting its
long-term returns and diversification across more than 180 stocks and most developed markets. Investors should note,
however, that it scarcely invests in Southeast Asia (China, Hong Kong, Taiwan, etc.) or Latin America. Shareholders who are
looking for exposure to those regions could pair this fund with a specialized emerging-markets portfolio, he suggests. Oh, and
those Czech stocks? While investing in Central Europe is obviously risky, Rocco agrees that the region is likely to begin to
behave more like a developed nation, rather than an emerging market.
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