The $100,000 Question: What Stocks Would The Pros Buy?
What stocks would you choose if you had to invest $100,000? That's the question BUSINESS WEEK asks four top investors every December. The challenge: Pick 10 stocks for the coming year and see how you stack up against your rivals.
The results for 1997 showed that U.S. corporate favorites were great to own. In first place was William H. Miller III, who runs the Legg Mason Value Trust mutual fund. His picks were up 73%, besting the Standard & Poor's 500-stock index' 31.1%. Miller's returns were fueled by home runs such as Home Shopping Network Inc., up 355% because of Barry Diller's revamping; America Online Inc., up 169%; and Philips Electronics, the big Dutch company, up 65%. Citicorp, Federal National Mortgage Assn., and IBM were other strong performers. His only loser was Circus Circus Enterprises Inc. Miller's mutual fund was up 35%.
Another lesson: Despite the devastation in emerging markets, a nimble stockpicker like Marianne Hay could avoid the damage. She was the 1997 runner-up, with an increase of 54% from her portfolio of Brazilian, Indian, Pakistani, Turkish, and Egyptian stocks. Her biggest winners were big Russian energy companies such as Surgutneftegaz, up 119%, and Unified Energy Systems, up 188%. But her smartest call was avoiding Asia. The Morgan Stanley Emerging Market Fund she manages did less well: It was down 5%.
Next came William Jurika, who runs a mini-cap fund called Jurika & Voyles out of Oakland, Calif. His 10 stocks were up 21%, while his mutual fund was up 22.5%. Jurika's biggest winner was Octel Communications Corp., up 77%, and Living Centers of America, which rose 57%. He had two losers: home medical-equipment company Apria Healthcare Group Inc. and System Software Associates Inc., which makes software for manufacturers.
The bearish Eric Ryback, who runs Lindner Growth Fund, eked out a 6.5% gain, actually not bad given the fund's orientation. He had five winners and five losers, including Uranium Resources, down 64%. Rybacks' mutual fund was up 7.3%.
Now, good luck to the new--and very youthful--contenders.
WADING BACK INTO ASIA
At 36, David Herro manages the $1.4 billion Oakmark International Fund, up 1.7% this year, and Oakmark International Small Cap Fund, down 18.3%. Herro is best known for getting Maurice Saatchi ousted from Saatchi & Saatchi Advertising Worldwide in 1994 after he protested Saatchi's overblown pay package. Herro still is plugging Cordiant Communications Group PLC, the former parent of Saatchi & Saatchi and now the owner of just Bates Worldwide Inc. Even though the stock is trading at a 50% discount to its peer group, he says, Cordiant is over its management "disharmony" and getting lots of new business. Another British pick is Tomkins PLC, a conglomerate with holdings in lawn mowers, bicycles, handcuffs, and, in the U.S., gunmaker Smith & Wesson.
Herro also is wading into troubled Asia. He likes Amway Corp. Japan, which has tanked because of the bad Japanese market. "It's a cash-flow machine," says Herro. Another pick is Woongjin Publishing, a Korean company that publishes children's books, reference guides, and business books. He describes it as "a good solid business in an extremely beaten-down market." Another good company, which is down 60% because of local market turmoil, is JCG Holdings Ltd., a consumer-finance company in Hong Kong. It offers short-term loans to lower-income people and has a healthy loan-loss rate of under 2%. Herro likes Singapore-based Mandarin Oriental International. Tourism, he says, will increase in Asia because of the devalued local currencies. The stock has lost over half its value, and Herro believes it is undervalued for a "household name in Asia."
To round out the group, Herro likes Fernz, a New Zealand agrochemical company; Danzas Management Ltd., a Swiss trucker; Solution 6 Holdings Ltd., an Australian business-software company; and Unibanco, a Brazilian financial institution that provides retail and wholesale banking, credit, insurance, and asset-management products.
TECH IS STILL TICKING
One brave soul who still likes technology stocks despite the group's dramatic decline in recent weeks is Christine M. Baxter. The upbeat 28-year-old portfolio manager of the PBHG Emerging Growth Fund, down 11%, and PBHG Limited Fund, up 7.8%, manages $1.6 billion. Her favorite tech stocks have limited exposure to Asia and stand to benefit from helping U.S. corporations manage and expand their technology. The stocks in her portfolio have an average growth rate of 40%.
Take Aris Corp., which helps large corporations install software. For example, its programmers might customize Oracle and SAP software for a client and also provide technical training for its employees. Another technology outsourcing play is ABR Information Services Inc., which provides administration and compliance with Cobra health-care benefits for corporate clients. ABR's forte is the administration of large databases, as well as voice-response systems. ABR is expanding into handling flexible spending and 401(k) accounts. Baxter predicts that per-share earnings will climb from 50 cents in 1997 to 83 cents in 1999.
Another technology play is Davox Corp., which makes the software that helps companies manage their telephone calls. Davox has partnered with Lucent Technologies Inc., which will be reselling its call-center offerings. Per-share earnings, Baxter says, should reach $1.62 in 1999 from $1 in 1997. Her most controversial pick is Splash Technology, which recently reported disappointing earnings. Splash produces and markets color servers that link desktop computers to digital color-laser printers. Its big clients are Xerox and Fuji Xerox Co. Baxter still sees strong 35% annual growth due to upcoming new products and a strong management team.
Outside of technology, Baxter likes PJ America Inc., a franchisee of Papa John's International Inc. and competitor of Domino's Pizza Inc. It boasts 78 stores and plans to open 18 more in 1998. Baxter says the Birmingham, Ala., company is "among the best operators" in the business. She estimates earnings at 82 cents in 1998 and $1.04 in 1999. Another pick is NBTY Inc., formerly Nature's Bounty, which manufactures, sells, and distributes vitamins wholesale, through catalogues, and in Vitamin World stores in the U.S. Baxter sees more than 50% growth, which partly will come from its July acquisition of Britain's Holland & Barrett, a chain of 400 vitamin stores. She expects that the deal will add $170 million in revenues. Medicis Pharmaceutical Corp., which also is expanding rapidly, acquires and licenses drugs for acne and other skin-ailments and uses its own sales force to market to dermatologists. Baxter expects to see growth due to new cosmetic drugs Medicis has just licensed.
AWAITING THE BEARS
David W. Tice set up the Prudent Bear Fund at the beginning of 1996 because he believes a bear market is imminent. "It's not a question of if, it's a question of when," says Tice. "Greed governs this market." The 43-year-old fund manager heads a 10-person firm in Dallas that recommends stocks to institutional clients to sell short. He believes there will be a dramatic slowdown in the economy because of increasing wages and costs and declining prices in a number of industries. "U.S. executives had trouble raising prices before the Asian contagion. Now, it will get even harder," says Tice. His fund is down 0.4% this year.
Tice is especially bearish on technology stocks. Take Micron Technology Inc. Prices for its product, memory chips, are falling because of global overcapacity. Micron competes heavily with Korean manufacturers, whose currency has fallen dramatically. "This is the poster child of the high-tech industry in terms of a problem we see: slowing demand and dramatically excessive supply," says Tice. CDW Computer Centers, which markets through a catalog, is overvalued at six times book value and 23 times earnings, says Tice, and vulnerable to a slowdown in personal-computer sales.
Intel Corp. will be sideswiped by the advent of the $1,000 personal computer, "the most important development in high technology," says Tice. "The days of consumers and businesses willing to pay Intel $500 for a chip are ending," says Tice. "Intel's glory days are behind it for a while."
Yahoo! Inc., the Internet search-engine company, also is poised to disappoint, Tice believes. With only $17 million in quarterly sales, it still commands a market capitalization of more than $2 billion. But he doubts the company can make much money through advertising. And its search engine is widely recognized as not being the best on the market, says Tice.
Tice's other area of focus is financial firms. He thinks United Companies Financial Corp. and The Money Store, which do second-mortgage lending, are shorts. With the dramatic increase in consumer lending, delinquencies and personal bankruptcies are going through the roof. "Every time the banking industry lends hand-over-fist to one area of the economy, it results in disaster," says Tice. His feeling is that far too much money has been lent to people who are spending more than they earn and are living from paycheck to paycheck. "There will be a dramatic decline in these stock prices as defaults increase," says Tice. In fact, one of his long picks, Union Corp., is a debt-collection company that "will have to do better in hard economic times." His other short is Golden Star Resources, a gold and diamond exploration company.
SHOW ME THE CASH
Brian S. Posner is only 36, but during his tenure running the Fidelity Equity Income II fund, from 1992 to 1996, its assets grew from $850 million to $15 billion. In January, 1997, Posner started managing Warburg Pincus Growth & Income Fund, which is up 28.5% this year. He is a value investor who looks for stocks that generate lots of free cash flow.
Polaroid Corp. is a Posner favorite. "Amid all of the trouble it has gone through, it is incapable of destroying the company's incredible cash-flow capabilities," he says. A new management team, new product introductions in 1998, and strong cash flow from dominating the instant-film market will fuel a takeoff, he says. "It's not a Kodak story," says Posner, referring to the troubled film-industry leader.
Posner also looks for a turnaround in health-maintenance organizations. "They have to raise prices," says Posner. He likes Trigon Healthcare, a regional HMO in Virginia and Maryland that plans to do just that. Another pick is USG Corp., a wallboard maker that came out of bankruptcy in 1993. While still tainted by its past, USG has a bright future, says Posner, since it has been able to pay down its debt and generates lots of cash. Another turnaround play is Gulfstream Aerospace Corp., because of its rapid debt paydown and strong earnings from its G-4 and new G-5 model jets.
In the financial sector, Posner likes PMI Group Inc., a mortgage insurance company spun off from Allstate Corp. He says the company is very conservative, with four times the level of reserves for defaults in California than its competitors.