Barrrons, The Q To Expensive?>
May 10, 1999
The Pragmatist
Putnam's Beth Cotner knows what to buy ... and when to
sell
By BARRY HENDERSON
Beth Cotner's first ambition was to see the world as a foreign-service officer.
She imagined herself shuttling around among places like Cairo, Nairobi and
Ankara, wheeling and dealing with hard-nosed dignitaries from all over the
world. Fanciful as this might sound, it was no pipe dream. Everything seemed
to be falling into place when, during her senior year in college, she was
admitted to the Johns Hopkins School for Advanced International Studies. It
was, she hoped, the first step toward a fast-track career in the State
Department.
But a few months before the would-be
diplomat set off for grad school, she
began to have second thoughts. What
if she wasn't accepted into the
diplomatic corps? She realized that
she didn't have much of a fallback
position. "We were in the middle of a
recession and it just seemed like an
MBA was going to be more
marketable than an MA in
international studies," she recalls. So
within a matter of weeks, she changed
her tack and secured a spot in
business school.
Two decades later, Cotner still exudes the cool-headed pragmatism that
helped to shape her decision. She invests in growth stocks, but she doesn't
swing for the fences. Sure, she wants to beat the S&P 500 with her $8.8
billion Putnam Investors fund, but she wants to do it without taking outsized
risks. "We try to use quantitative tools and common sense" to keep the fund
from getting too high-octane, she says.
This approach has paid off nicely for Cotner, who has been lead manager on
Investors since November 1995, and for the fund's shareholders. The fund
has beaten the S&P 500 in three of the past four years, although so far in
1999, its hot hand has cooled a bit as investors have rotated out of growth
stocks into value names. Through Thursday, the fund was up 4%, compared
with the S&P's 8.8% return.
The first step in Cotner's investment process is to
conduct a rigorous quantitative screening. At a
minimum, Cotner insists that any company she invests in has a market
capitalization of at least $3 billion and a 10% five-year profit growth rate.
(Putnam's system uses I/B/E/S earnings estimates -- similar to those that
appear in stock tables in Barron's statistics section -- to come up with that
five-year number.) That narrows the list of candidates down to 600. From
there, the stocks are ranked in on a scale of one to five, based on factors such
as valuation, financial strength, earnings revisions and earnings strength.
Putnam has back-tested this ranking system and has found that the stocks that
finish No. 1 or 2 under it have outperformed the market.
Not surprisingly, Cotner spends most of her time looking at just these
top-rated companies. That further narrows her list of potential buys down to
240 stocks. "This is where the fundamental analysis starts," she says. At this
point, she and the Putnam analysts start trying to gauge the company's
prospects. Once they believe they have a credible idea, they meet with the
company's top managers and quiz them about the assumptions underlying the
analysis.
There's nothing new or even particularly unusual about a portfolio manager
and her analysts grilling management, but the drill still can produce illuminating
results. Recent case in point: Cotner's meeting with Qualcomm, which makes
handsets for cellular phones.
"This was really a capacity-constraint story," she says. "When we talked with
them, they said that they had more manufacturing capacity coming on line, and
that the price for the phones had stabilized," she observes. Armed with that
information, Cotner and her crew calculated that Qualcomm could earn at
least $3.10 per share in 1999. (They made this prediction back in November
when the consensus estimate was $2.60.) So, Cotner loaded up on
Qualcomm at $50 per share. The stock recently was around $219 and the
consensus earnings estimate for fiscal 1999 has since moved up to $3.70; for
2000, analysts think Qualcomm can earn $5.25 a share. However, in spite of
the upwards earnings revisions, the stock got too expensive to remain as one
of the fund's major holdings. Cotner began reducing her position as the stock
ran up to $225, or 61 times expected 1999 earnings.
This illustrates the principal difference between Cotner and most growth stock
aficionados. She adheres to a strict sell discipline. In contrast, the rest of the
growth crowd tends to ride winners until they stumble. Fund managers in this
camp detest the idea of unloading a stock just because it's had a big runup.
Cotner will hold highflyers, but only up to a point. She uses a rule of thumb to
trim a position if it moves quickly in a short period of time: If a stock moves
10% in 10 days, or more than twice the rate of the overall market, it's time to
start selling. There's also the matter of diversification; she doesn't like any one
position to get too large.
And she's not shy about bailing out for other reasons, either. She has
absolutely no tolerance for a company that misses a quarterly earnings
estimate or does a dilutive acquisition. When that happens, Cotner simply
jettisons her whole position. A sell alert also sounds loudly if a stock starts
getting poor marks on the fund's quantitative ranking system. This doesn't
necessarily merit blowing away the entire position, but it's a good indicator
that Cotner is likely to shave her holding.
Since the fund remains fully invested at all times-cash makes up 2% or less of
its portfolio -- she can't sit on the money she raises from these sales for very
long.
In the past several weeks, she's been buying shares
of American Express and Citigroup. This seems like
a somewhat bold move, given the recent upward
move in interest rates. Nonetheless, the portfolio
chief is confident that most people are
underestimating the staying power of both franchise
companies.
She contends that American Express isn't getting
enough credit for its money-management arm, IDS.
The improving Asian economies are also likely to
give the company's international operations a boost
as consumer spending in that region makes a
comeback. For 1999, the consensus earnings estimate for the company is
$5.40 per share. However, Cotner is betting that Amex will come in with
profits that are least 3%-4% better than that, which would push 1999 net to
$5.56 a share or better. For 2000, she's even more bullish. She thinks the
consensus estimate, currently $6.12, is way too timid. Her forecast: at least
$6.98. The way she figures it, the stock should hit $153 per share sometime
during the next year.
She's similarly enthusiastic about Citigroup, which has slowly crept into her
top 10 holdings. As the results of the Citibank/Travelers merger really begin to
become apparent, she thinks investors are going to be pleasantly surprised.
"The cost savings from the merger are going to start coming through faster
than people expected," she asserts. She expects the company to cross-sell
financial products among its different customer groups much faster than it has
so far. Of course, this was a key part of the rationale behind the merger in the
first place.
Her confidence leads her to predict that Citigroup will post profits at least 3%
better than the consensus estimate for both 1999 -- currently $3.92 -- and
2000, which is $4.42. She thinks the stock will hit $100 over the next 12
months. It is currently trading around 70. |
