Despite Market Plunge, 4 Win Big in Game of Concentration This Year

It may seem awfully nasty out there in the financial markets, but through it all, some people are actually making money--big money.

With the help of number crunchers at CDA/Wiesenberger, a Rockville, Md., mutual fund tracking firm, I found a dozen mutual funds that were up more than 20% for the year, four of them up more than 30%--even after Thursday’s 357-point decline in the Dow Jones industrial average. The average domestic equity mutual fund was down 2.4% at the end of Thursday.

I also found a bunch of funds that were down more than 30%, and the two groups have something in common: They are all “concentrated funds” with a small number of holdings.

The idea behind the strategy of concentration is simple: A smaller portfolio allows managers to “concentrate” their brainpower on only a few stocks, so they’ll make better judgments.

These funds make big money using the old-fashioned method still taught to millions of individual investors: Find a few great companies, buy their stock and hold on.

The four concentrated general equity funds that had returned more than 30% for the year through Thursday were: Janus Twenty, up 36.4%; Rydex OTC, up 34.0%; Transamerica Premier Aggressive Growth, up 33.6%; and Idex Growth, up 31.3%.

The Transamerica fund ([800] 892-7587) is a newcomer, launched just a year ago. According to its most recent report, manager Treick Phillip has a portfolio of just 18 stocks, compared with about 100 for the average fund and 285 for Fidelity Growth & Income. At the start of the year, Phillip had more than one-fourth of his assets in just three stocks, all huge winners: Dell Computer (DELL), the computer retailer, up 198% in 1998; Amazon.com (AMZN), online bookseller, up 295%; and Pixar (PIXR), maker of animated feature films, up 55%.

The Rydex fund ([800] 820-0888) is concentrated according to a formula. It tries to mimic the Nasdaq 100, a capitalization-weighted index comprising the 100 largest over-the-counter stocks. But it may be the most concentrated fund in the nation, because the Nasdaq is dominated by three stocks, which account for 43% of the total index and which have done very well this year: Microsoft (MSFT), software, up 69%; Intel (INTC), semiconductors, up 14%; and Cisco Systems(CSCO), networking products, up 78%.

Microsoft alone represents one-fourth of Rydex’s assets. However, the fund has an expense ratio last year of 1.27%, too high for a fund that’s managed by a computer formula, and it requires a minimum investment of $25,000. And Friday’s drop in those stocks obviously trimmed those gains.

The other two members of the 30-plus club--Janus Twenty ([800] 525-3713) and Idex Growth ([800] 851-9777)--have the same manager and roughly the same portfolio. The manager is Scott Schoelzel, based in Denver, who is following in the tradition of Tom Marsico, who used the same strategy of concentration from 1988 to 1997 to build Janus Twenty from a $7-million dwarf to an $8-billion giant.

As of Schoelzel’s last report, on June 30, Janus Twenty was headed by Dell, 9%; Microsoft, 9%; Pfizer (PFE), 7%; America Online (AOL), 6%; Warner-Lambert (WLA), 6%; Cisco, 5%; and General Electric (GE), 5%.

When I talked to him Friday, Schoelzel said he was taking advantage of the downturn in the market to put some of his cash and short-term bonds (about 15% of his assets) to work. “There are some really great franchises out there that have been blitzed,” he said, citing SAP (SAP), the German software company, and Nokia, (NOK/A), the Finnish cellular phone maker. “I’m buying selectively,” he said. “These insane times give you opportunities.”

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Is concentration really such a good strategy in practice? Josh Charlson of Chicago-based fund tracker Morningstar Inc. wrote recently that his firm’s research found that “concentrated funds tend to have higher risk and lower returns than the average fund.” Still, he said these findings do not “negate the value of concentrated funds for individual investors.”

Past records of success are not helpful guides for investors. Stock pickers who have done well in the past have later crashed with concentrated portfolios.

Look at what has happened this year to Crabbe Huson Special, managed by Jim Crabbe. Between 1992 and 1994, the concentrated style was a huge winner for Crabbe, as he whipped the market by an average of 20 percentage points a year. But, so far in 1998, the fund, with half its assets in just nine stocks, is down a shocking 44%.

The other huge loser among general equity funds this year, Dreyfus Aggressive Growth, also has a concentrated portfolio, but unlike Janus Twenty, Michael Schonberg (replaced in April by Paul LaRocco) picked the wrong stocks--such as Chromatics Color Sciences (CCSI), which is down 64% this year.