Many experts are uncertain about the economy's direction. Orders for durable goods are declining along with housing prices, prompting some experts to conclude that the economy is slowing. Others think that stabilizing energy prices will boost retail sales, fueling growth in gross domestic product (GDP).
One fund manager who spreads his bets is John Osterweis of the Osterweis Fund. He holds a mix of large-, mid- and small-company stocks from the growth and value camps. That approach enabled the fund to outpace the S&P 500 stock index for seven years straight, from 1999 through 2005. (Of course, beating the S&P every year is not guaranteed. As of late December, the fund had returned 11.4% for 2006, versus 15.8% for the S&).) Bottom Line/Personal asked Osterweis how he selects stocks ...
What to Look For
Safety. I prefer companies that have solid business niches and competitive advantages. Some of my holdings have long-term contracts with the government. Others have strong relations with customers and long track records of repeat orders. Such businesses are not likely to suddenly tank.
Bargain prices. Even strong companies periodically lose favor with investors, and that's the best time to buy them. Look for stocks that sell for less than the average price-to-earnings ratio (P/E) and/or price-to-cash flow ratio of the S&P 500 Index. The index currently has a P/E of 18 and a price-to-cash flow ratio of 6.5. Among these cheaper stocks, look for shares that sell below their historic price ranges.
Turnarounds. Don't buy a stock just because it is cheap. Look for companies that are posed to show stronger earnings in the future. I often buy companies when they fall into Morningstar's "value" classification. (Go to http://www.morningstar.com, and search by the stock's ticker symbol, then slick "Data Interpreter.") Then I hold them until they become growth stocks.
Beware: Many troubled companies stay that way for years. To avoid a long-term loser, buy only companies with records of delivering solid cash flows and earnings, and with problems that seem temporary, such as those typically associated with mergers and product introductions. They are distinct from such long-term problems as obsolete factories or a business niche that has been superseded by new technology.
Stock Picks
Annaly Capital Management, Inc. (NLY) holds high-quality mortgage securities and makes money by collecting interest payments. Its earnings should rise as mortgage rates climb in the next few years and/or Annaly's cost of holding mortgages declines when long-term interest rates rise in relation to short-term rates. Recent share price: $13.91.
Charles River Laboratories International, Inc. (CRL) breeds rats and other animals for medical research. Some investors worry that drug companies will cut their research budgets and use fewer lab animals, but in competitive drug markets, research budgets will remain large. CRL should record double-digit earnings gains for the next several years. Recent share price: $43.25.
Pitney Bowes Inc. (PBI), the maker of postage meters, has fallen out of favor as investors worry that new competition from the Internet will reduce mail volume, but the company dominates its field and is likely to hold its leadership position. Its long-term agreement with the US Postal Service is an advantage. Recent share price: $46.19.
R. H. Donnelley Corporation (RHD) publishes yellow page directories. The share price has dipped because investors worry that publications will be replaced by the Internet, but the company's revenues are stable and its cash flow should grow steadily. Recent share price: $52.73.
SLM Corporation (SLM), also known as "Sallie Mae," is a provider of student loans. Most of the loans are solid because they are backed by the government. Investors fear that Congress will trim SLM's profits as a by-product of efforts to make student loans more affordable, but that is unlikely and SLM's earning should climb at double-digit rates for the next two years. Recent share price: $48.77.
Websense, Inc. (WBSN) provides Internet security software. Clients include companies that want to prevent employees from accessing malicious sites and wasting time on non-work-related sites. Sales should climb as the company expands its distribution channels and introduces Web-filtering software that can be used on cell phone. Recent share price: $22.83.
--------------------------------------------------------------------------------
Bottom Line/Personal
website: www.BottomLineSecrets.com
Bottom Line/Personal interviewed John S. Osterweis, president of Osterweis Capital Management, San Francisco. He is portfolio manager of Osterweis Fund (OSTFX). For the five years through December 31, 2006, the fund had an annualized rate of return of 10.9% vs. 6.2% for the S&P 500 Index.
Bottom Line Publications publishes the opinions of leading authorities in many fields. But the use of these opinions is no substitute for legal, accounting, investment, medical and other professional services to suit your specific personal needs. Always consult a competent professional for answers to your specific questions.