WINNING WITH STOCKS THE OLD-FASHIONED WAY Three investment advisory firms have outrun the slow-footed pack by hunting down undervalued companies.
By - Brian Dumaine

(FORTUNE Magazine) – TIMES HAVE BEEN cruel for professional stock pickers. The investment advisers who play the stock market with $215 billion in corporate and union pension funds collect cushy fees--as much as 1% of assets per year--to outperform the market. Except that lately they haven't done so. The total return on Standard & Poor's 500-stock index-- counting price appreciation and reinvested dividends--was 4.3% in the first nine months of 1984. But the median return on pension portfolios, according to the Wayne, Pennsylvania, consulting firm ! SEI Funds Evaluation Services, was a minus 0.8%. Only 20% of the U.S.'s 3,500 pension portfolios beat the S&P 500 in this period, the lowest percentage since the bear market of 1974. Two explanations for the poor performance stand out: Money managers who try to time the market, buying and selling with its ups and downs, found it tough to keep pace under 1984's unusually volatile conditions. Meanwhile, managers who favor high-growth, high-risk stocks have hung on to high-tech and hospital stocks that headed south in the summer of 1983. Trend-buckers whose portfolios performed best had no truck with such approaches. Among the independent investment firms that shepherd the most pension money--banks and insurance companies tend the rest--the three top performers all follow the principles of the late Benjamin Graham, who advocated buying undervalued stocks of sound companies without regard to market movements. The winning firms, as ranked by CDA Investment Technologies of Silver Spring, Maryland, a research company that tracks the performance of portfolio managers' equity holdings, were Pacific Financial (up 20.2% in the first nine months of 1984), Ruane Cunniff (up 16.4%), and Tukman Capital Management (up 16.2%). It's no fluke that longtime Grahamite William Ruane and his colleagues at Ruane Cunniff are top performers. The New York City-based firm has one of the best ten-year records in the business. The firm also manages a mutual fund, Sequoia, which outpaced all rivals in that category in the first 11 months of 1984. Chairman Ruane, 59, has long shunned high-tech companies in favor of those with price-earnings multiples of less than 10, strong cash flow, and a dominant market share. He says he's lucky if he finds one or two such stocks every quarter. Two years ago, when most portfolio managers came down with high-tech fever, Ruane filled his plate with food stocks that were out of fashion, all with low P/Es and strong balance sheets. Among them were Campbell Soup, H.J. Heinz, and Dart & Kraft. All have appreciated handsomely. On average, Ruane keeps a stock in his portfolio for five years. Pacific Financial Research posted the best nine-month record by following a slight variation on Ruane's theme. President Jim Gipson, author of the recently published Winning the Investment Game, owns lots of high-quality stocks like Philip Morris and Nabisco Brands. But Gipson, 42, often takes a contrarian tack. Last spring the Beverly Hills money manager bought a group of utilities with worrisome nuclear construction projects, among them Northeast Utilities and Cleveland Electric. Wall Street was avoiding these stocks even though they yielded 14% to 16% in dividends. Since then utility stocks, whose prices tend to rise with falling interest rates, have risen sharply. The two young stars who run four-year-old Tukman Capital Management hold solid stocks bought on Grahamite principles. But they also love to turn over their stocks aggressively. Says partner Dan Grossman, 32: ''We think of ourselves as a cross between the defensive ends of the Los Angeles Raiders and the Israeli Air Force.'' He and Mel Tukman, 42, believe that even if a stock takes a year to find, it must be sold the day after it's bought if the price is right. The Larkspur, California, firm doesn't always come out ahead by trading fast. Tukman bought Anheuser-Busch last March at $53 a share and sold it in May for $62. The stock soared to $71 right after the sale. Says Tukman: ''Our itchy trigger finger cost us.'' All three firms concentrate on a small number of companies. Though Ruane manages $900 million, he owns only 24 stocks, vs. an average of 100 in pension portfolios. Gipson holds only 30 and Tukman has only l2. Says Ruane, ''It makes life a lot simpler to concentrate on the stocks you like.'' And for these three firms, it has made a lot more money for clients too.