An Old Fund Takes a Long View

Companies that benefit from capital spending stand to gain as consumer spending dwindles, says Putnam Investments' Jeanne Mockard

The oldest mutual fund at Boston's venerable Putnam Investments hasn't weathered almost 70 years of market turbulence by taking foolish chances. Lead manager Jeanne Mockard steers the $4.8 billion George Putnam Fund of Boston (PGEOX) between stocks and bonds. And she spreads the equity portion across 105 to 140 stocks, which are mostly considered large-cap value. The balanced fund can point to a 9.4% average annualized return since 1937.

This risk-averse portfolio has a stellar record, but typically doesn't beat the market and rivals by large amounts in bullish years. Through Feb. 28, George Putnam had a one-year return of 5.55%, compared with 2.38% for its style peers and 2.93% for the S&P 500 index. The three-year picture looks similar. Its five-year return of 4.44% beats a gain of 3.66% for its peers and 2.36% for the broader index. George Putnam also tops its category average, but not the benchmark, over a 10-year span.

Mockard expects 2006 to be a lackluster year for the markets. But "There will be pockets of opportunity," she says. The fund's top holdings include Exxon Mobil (XOM), Chevron (CVX), Bank of America (BAC), Citigroup (C), and Hewlett-Packard (HPQ).

Although the spate of mergers has helped lift stocks, the recent megadeal involving AT&T (T) and BellSouth (BLS) has Mockard skeptical. Times have changed since Ma Bell's heyday, and so has the competition. "Everything they do is going to be at a lower margin than the original monopoly," she says.

Mockard, who has helmed the fund since March, 2000, after joining Putnam in 1985, recently spoke with BusinessWeek Online reporter Marc Hogan about her research process, the rising interest rate environment, and her select picks. Edited excerpts from their conversation follow:

What's your investing philosophy?

We're looking for stocks that are inexpensive relative to their own history, the market, and their sectors. Usually they're cheap for a reason. And then we do the fundamental work: interviewing management onsite, seeing their facilities, talking to customers and suppliers, and putting together a portfolio of stocks where we think the management is addressing the issue that has made them cheap.

We [also] do a lot of quantitative work to look at factors that we think have driven good stock performance in the past as predictors of future movements in stock prices.

What's your decision-making process?

I'm the lead manager on the equity portion, working closely with a quantitative portfolio manager, so that we meld the process of fundamental and quantitative together. Then we have the bond portfolio manager. This is an actively managed bond portfolio. It's benchmarked against the Lehman Aggregate Index, so it has corporates, mortgage-backed, asset-backed, Treasuries -- it's more spread out across the sectors.

We also have one of our asset-allocation managers as part of the fund, because we move between bonds and stocks. It's the third moving piece of this story. Sometimes when we think stocks are cheap relative to bonds, we would overweight the stock portion and vice versa.

How are the fund's assets allocated now?

We're at 60-40 right now. We spent most of the last year at 35% bonds, a little underweight in a rising interest rate environment.

Last time you spoke to us, you were overweight insurance and energy stocks (see BW Online, 9/6/05, "A Conservative Fund's Careful Picks"). Is that still the case?

We've actually moved to an underweight in energy. When Burlington Resources (BR) was purchased, we used that [development] to liquidate that position, and that took us to an underweight in the sector.

Gas prices were really out of sync relative to their normal relationship to oil prices, and it was our assumption that they would come down as opposed to oil going up any higher than it already was. You've seen the commodity prices actually come in a lot since then, and I'm certainly looking at that decision.

In insurance, we're slightly overweight. That was on the premise that pricing would continue to appreciate post-Hurricane Katrina. When you have big disasters, it gives the insurance companies a chance to raise prices, and so it tends to be a good time to own the stocks.

Have you made any recent noteworthy additions to the portfolio?

We're tilted less toward consumers continuing to spend at high rates and more toward capital spending. I'm worried about the consumer being pretty extended from a debt standpoint. They've also been able to access capital easily through their real estate, and as that starts to slow down, then you start to see more of a reaction to higher gas and heating prices and rising interest rates.

Since we've come out of recession, balance sheets are in good shape. Corporate profits are actually decent, as you've seen in the quarterly reports again this last round. You'll see more M&A, more share repurchases and dividend increases -- plus, potentially, spending on computers and printers and equipment. We like Hewlett-Packard for that reason. And we like Office Depot (ODP), where you get your supplies.

What do you look at as buy and sell criteria on the bond side?

It's more about the tilt of the curve and interest-rate directions. We look to see where we think spreads look like you're getting paid to take some positions, when they look cheap relative to their own history.

We make sure we spread out the risk name-wise, so that we don't take huge positions in single names. The idea is to be able to position it the way you want it, and even in a rising interest rate environment, look for cheap parts in the bond market and help returns.

What's your outlook given the rising interest rate environment?

With a very flat, inverted yield curve, we've been underweight banks that benefit from that spread. So that has led us to an underweight in financials.

One of the things that I worry about with consumers is that adjustable-rate mortgage resetting for them at higher rates. Our outlook is that we expect another rate hike or two. We're all getting to know a new chairman of the Fed and his style, but that's the prediction at this time.

Have you been seeing any other trends this year?

On the bond side, there have been years when you've had some pretty extreme valuation opportunities to take advantage of. This isn't one of them at the moment, so we aren't drastically leaning toward a sector. Right now, we're closer to our benchmark weight on the bond side. We're slightly short-duration still.

On the stock side, this overarching presence of consumer vs. corporate is something that goes into the discussion sector by sector, as a broad theme. The economy really has weathered an amazing amount of blows in the last year. We feel that it's in good health, but we're very much looking case by case, stock by stock. You'll want to start thinking about financials again when you're getting closer to the end of interest-rate increases.

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