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A Fund for Fickle Times

Founded in 1937, the George Putnam Fund of Boston (PGEOX) is designed to help investors ride out the downsides of challenging markets, says Jeanne Mockard, senior portfolio manager of the fund. Mockard and her team work to reduce the fund's volatility with a mix of

large-cap value stocks and mostly

investment-grade bonds.

Over the long haul, the $5.7 billion fund has met it goals. It rose an average annualized 8.7%, vs. 7.7% for the average balanced fund over the 10-year period through May. Mockard says the fund's record stems from consistently following a value strategy. Over the past 12 months through May, it fell 2.3%, a bit worse than the 1.7% decline for its peers but better than the 8% drop for the S&P 500-stock index.

Standard & Poor's has an overall rank of 3 Stars on the fund, based on its return and risk profile over the last three years. Bill Gerdes of S&P's Fund Advisor recently spoke with Mockard about the fund's strategy. Edited excerpts from their conversation follow:

Q: What are the fund's investment goals?

A: This fund is one of Putnam's most conservative products. It's especially suited for challenging markets. To dampen volatility, we hold large-cap value stocks and mostly investment-grade bonds with intermediate to long-term maturities.

Q: What's the fund's asset allocation among stocks and bonds?

A: Last week, we went back to about 60% stocks and about 40% bonds, which is our neutral position. We felt that a lot of indicators pointed to the market at middle ground. Each week, the fund's management team meets with Jeff Knight, Putnam's head of asset allocation, to determine the fund's allocation based on our view of the relative values of stocks and bonds.

Q: How has the fund's allocation changed over the last year?

A: Last June, we were underweight in equities by about 3%, and as the market declined, we moved to an equity overweighting of about 3% by last September. Last March, we shifted to a neutral position of 60% stocks and 40% bonds. These decisions have led to about 25 basis points to 35 basis points of performance.

Q: How do you manage the equity portion of the fund?

A: We look for undervalued companies with a catalyst. When selecting stocks, we consider their future

cash flows and

margins to project their upside potential.

Q: What areas of the equity markets are you focusing on?

A: Financials offer a lot of

yield and attractive valuations. We hold insurance companies, banks, and brokerage companies. We are also overweight in oil services as the natural gas shortage continues in North America. And with capital spending likely to improve, we hold some software companies and [computer] stocks that are likely to benefit from increased demand, such as Hewlett-Packard (HPQ).

Q: Do you own Freddie Mac (FRE)? What are your thoughts on the recent management shakeup and accounting questions?

A: Yes, we have a position. We feel they are a beneficiary of the strong mortgage cycle and are reasonably valued. We think there has been an overreaction to the questions raised, but it's not over until it's over. All of our research suggests that the market reaction has gotten out of hand.

Q: For the bond portion of the fund, what is the duration and credit quality?

A: Within the 40% bond allocation, we have a 4% allocation to BB-rated bonds, and we don't go below B-rated bonds. The duration is around four years. We have exposure to corporates, mortgage-backed, Treasuries, and some high-yield issues.

Q: Why are corporate and mortgage-backed bonds your largest fixed-income sectors?

A: Relative to the Lehman Aggregate Index, we overweight in corporate and mortgage-backed issues to dampen exposure to bonds as the equity markets become relatively stronger.

Q: Why has the fund outperformed the average balanced fund for the 10-year period through last month?

A: We've stayed very consistent to our value strategy. There has been some style drift by some of our competitors. We stay consistent because the relative performance of growth and value is difficult to predict perfectly.

Q: Why did the fund slightly underperform for the one-year period through May?

A: We've gained some ground in the last few months. February and March were strange periods when growth outperformed value in a down market. There was somewhat of a flight to lower-quality stocks.

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