Financial
INVESTING
Some Funds Were Unscathed by Slide
James K. Glassman
08/30/98
The Washington Post
FINAL
Page H01
It's getting awfully nasty out there, but through it all, some people are actually making money -- big money.
With the help of the number crunchers at CDA/Wiesenberger, the Rockville mutual fund tracking firm, I found a dozen funds that were up more than 20 percent for the year, four of them up more than 30 percent -- even after Thursday's 357-point decline in the Dow Jones industrial average.
I also found a bunch of funds that were down more than 30 percent, and, remarkably, the two groups have something in common. I'll compare them below, but first, the nastiness and what you should do about it.
Keep in mind that, despite the 13 percent drop in the Dow since its high of 9337.97 on July 17, the index of 30 giant companies is still ahead for 1998 (as of Thursday) by 3 percent. The Standard & Poor's 500-stock index, a broader measure of stocks with large capitalizations, is up 7 percent. At this point in the year, the S&P is performing precisely at the pace of its annual average (11 percent) since 1926.
Still, the large-cap indexes are hiding a lot of devastation. Four out of five stocks on the Nasdaq Stock Market are down 30 percent or more from their 12-month highs. Nineteen out of 20 stocks on the New York Stock Exchange are down 10 percent or more. The Russell 2000 index of small-cap stocks is down 32 percent since April.
According to Lipper Analytical Services Inc., as trading began Friday, the average growth stock fund still had its head above water, with a gain for the year of 5 percent, but growth and income funds (usually a safer bet) were down by 1 percent, and small-cap funds were down 14 percent.
On Thursday, the devastation was broad and deep. Citicorp (CCI) fell $11.87 1/2, J.P. Morgan & Co. (JPM) $13.18 3/4. U.S.A. Floral Products Inc. (ROSI), the year-old roll-up of flower distributors assembled by Washington entrepreneur Jonathan Ledecky, fell 36 percent in a single day. Even such a fast-growing company as Paychex Inc. (PAYX), a domestic firm that provides payroll services to small companies, fell.
The good news is that the little guy isn't selling -- at least not yet. This could turn out to be the People's Market after all, with small investors holding while panicky professionals unload.
The other good news is that, while they've had a tough week, some mutual funds are making good money this year. And not by selling short. (ProFunds UltraBear, 1-888-776-3637, which makes money when markets drop, rose 9 percent on Thursday, but it's still down 8 percent for the year.)
No, the funds that are making big money do it the old-fashioned way -- by finding a few great companies, buying their stock and holding it.
The four general equity funds that had returned more than 30 percent for the year through the closing bell on Thursday were Janus Twenty, up 36.4 percent; Rydex OTC, up 34.0 percent; Transamerica Premier Aggressive Growth, up 33.6 percent; and Idex Growth, up 31.3 percent.
What these funds have in common is concentration. They put most of their assets in relatively few stocks.
The Transamerica fund (1-800-892-7587) is a newcomer, launched just a year ago. According to its most recent report, manager Treick Phillip has a portfolio of just 18 stocks, compared with about 100 for the average fund and 285 for Fidelity Growth & Income. At the start of the year, Phillip had more than one-fourth of his assets in just three stocks, all huge winners: Dell Computer Corp. (DELL), the computer retailer, up 198 percent in 1998; Amazon.com Inc. (AMZN), online bookseller, up 295 percent; and Pixar Inc. (PIXR), maker of animated feature films, up 55 percent.
The Rydex fund (1-800-820-0888) also is concentrated, but according to a formula. It tries to mimic the Nasdaq 100, a capitalization-weighted index comprising the 100 largest over-the-counter stocks. As luck (if that's the word) would have it, the Nasdaq is dominated by three stocks, which account for 43 percent of the total index and which have done very well this year: Microsoft Corp. (MSFT), software, up 69 percent; Intel Corp. (INTC), semiconductors, up 14 percent; and Cisco Systems Inc. (CSCO), n etworking products, up 78 percent.
In fact, Rydex OTC, which is based in Rockville, may be the most concentrated fund in the nation. Microsoft alone represents one-fourth of its assets. Two problems: OTC had an expense ratio last year of 1.27 percent, far too high for a fund that's managed by a computer formula, and it requires a minimum investment of $25,000.
The other two members of the 30-plus club -- Janus Twenty (1-800-525-3713) and Idex Growth (1-800-851-9777) -- have the same manager and roughly the same portfolio. The manager is Scott Schoelzel, based in Denver, who is following in the tradition of Tom Marsico, who used the same strategy of concentration from 1988 to 1997 to build Janus Twenty from a $7 million dwarf to an $8 billion giant.
Marsico isn't doing badly himself. After what Morningstar Inc., the mutual fund research service, called a "somewhat acrimonious departure" from Janus last year, he set up his own fund, Marsico Focus (1-888-860-8686), also based in Denver. His top six holdings -- Ford Motor Co. (F), Dell, Pfizer Inc. (PFE), Warner-Lambert Co. (WLA), Citicorp and Merrill Lynch & Co. (MER) -- represent an incredible 45 percent of his portfolio. So far this year, Marsico Focus has returned 25 percent -- down from a 39 percent return as recently as Aug. 1.
But back to the amazing Scott Schoelzel, who turned 40 yesterday. As of his last report (June 30), Janus Twenty was headed by Dell, 9 percent; Microsoft, 9 percent; Pfizer, the pharmaceutical company that makes Viagra , 7 percent; America Online Inc. (AOL), 6 percent; Warner-Lambert, 6 percent; Cisco, 5 percent; and General Electric Co. (GE), 5 percent.
When I talked to him on Friday, Schoelzel said he was taking advantage of the downturn in the market to put some of his cash and short-term bonds (about 15 percent of his assets) to work. "There are some really great franchises out there that have been blitzed," he said, citing SAP AG (symbol: SAP), the German software company, and Nokia Corp. (NOK/A), the Finnish maker of cellular telephones. "I'm buying selectively," he said. "These insane times give you opportunities."
Schoelzel, who says he has "100 percent of my own money in the fund," remains high on the financial stocks he owns, including Merrill Lynch, Citicorp and U.S. Bancorp (USB). He continues to love Dell and Dulles-based AOL.
Schoelzel also founded the Janus Olympus fund in 1996, which applies the concentration strategy to a mid- and small-cap stocks as well as the large-caps that make up Janus Twenty. That fund, now run by Claire Young, age 34, has returned 23 percent this year.
The idea behind the strategy of concentration is simple: A smaller portfolio allows managers to concentrate their brainpower on only a few stocks, so they'll make better judgments. Academic research shows that only 10 to 20 stocks are needed to reduce risk through diversification.
Most of my favorite managers use this approach: Robert Torray of the Torray Fund (1-800-443-3036), who has a spectacular long-term record; Donald Yacktman of Yacktman (1-800-525-8258), who has 14 percent of his assets in Reuters Holdings PLC (RTRSY) and 9 percent in Philip Morris Cos. (MO); value-hunter James Gipson at Clipper (1-800-776-5033), who owned just 13 stocks at the start of this year; and Bill Ruane and Rick Cuniff at Sequoia (closed to new investors), who have 26 percent of their assets inWarren Buffett's Berkshire Hathaway Inc. (BRK) and 16 percent in mortgage maker Freddie Mac (FRE).
But is concentration really such a good strategy in practice? Josh Charlson of Morningstar wrote recently that his firm's research found that, "contrary to the conventional wisdom . . . concentrated funds tend to have higher risk and lower returns than the average fund." Still, he said that these findings do not "negate the value of concentrated funds for individual investors."
These funds, he writes, are "a stage for stock-pickers," and, he warns, "most stock-pickers just don't have the talent to achieve the consistently superior performance that creates stardom."
Remember that even stock pickers who have done well in the past can crash and burn with concentrated portfolios while, with large portfolios, they won't stray far from the market averages.
Look at what has happened this year to Crabbe Huson Special, managed by Jim Crabbe. Between 1992 and 1994, the concentrated style was a huge winner for Crabbe, as he whipped the market by an average of 20 percentage points a year. But so far in 1998, the fund, which has half its assets in just nine stocks, is down a shocking 44 percent.
The other huge loser among general equity funds this year, Dreyfus Aggressive Growth, also has a concentrated portfolio, but, unlike Janus Twenty, Michael Schonberg (replaced in April by Paul LaRocco) picked the wrong stocks -- dogs such as Chromatics Color Sciences International Inc. (CCSI), which is down 64 percent this year.
Bob Carlson, editor of the Retirement Watch newsletter (1-800-552-1152), was right to tell readers recently to own concentrated funds in a "narrow" market such as this one. But there's a big risk, too. With such funds, you need a great manager. Otherwise, as Crabbe Special shareholders know, you can lose a very large bundle.
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