December 2009/January 2010 Picks

Exchange-Traded Fund: SPDR DB Int'l Gov't Infl-Protected Bond WIP
For investors in government bonds, inflation has always presented one of the few major risks to maintaining purchasing power. This has driven a large market in U.S. Treasury Inflation-Protected Securities, which are now available in countless mutual funds and ETFs for investors concerned about maintaining their real wealth. Other countries have also begun issuing similar inflation-protected securities for their local investors and pension funds, but U.S. bondholders could benefit from the currency diversification as well as further insurance against potential widespread inflation.

This ETF invests in the broad variety of inflation-protected government bonds issued outside the U.S. The two largest currencies represented by the portfolio are the British pound and the euro, but it also holds approxi­mately 5% stakes in higher-yielding bonds such as those from Canada, Brazil, Mexico, and Sweden. The portfolio as a whole no longer yields more than U.S. TIPS, but the currency and issuer diversification should still help improve the risk-adjusted returns for investors who own mostly U.S. bonds.

This fund still carries some strong risks-diversification cuts both ways. If the dollar appreciates, this fund will underperform U.S. bonds. Also, most inflation-protected bonds tend to be long-term, which gives this fund a hefty 10-year duration. Although it will not be affected by rates rising due to inflation, real rates are likely to go up as global growth resumes and could cause this fund (along with U.S. TIPS) to fall in value. (Bradley Kay)

Separate Account: Chase Investment Counsel Tax-Exempt Large-Cap Growth
This separate account is a great core holding. Managers David Scott and Derwood Chase practice a prudent style of growth invest­ing. They steadfastly buy high-quality firms with solid earnings growth but won't overpay for them. The portfolio's return on equity, net margin, Morningstar Profitability grade, debt/capital ratio, and free cash-flow yield are all better than the S&P 500 Index's. Yet its P/E is in line with the benchmark's. Early in 2009 the managers were adding to such industry leaders as Cisco Systems CSCO, Oracle ORCL, Walt Disney DIS, and Brazilian energy firm Petroleum Brasileiro PBR. This top-quality portfolio has performed as expected lately. It lost 33.4% in 2008's brutal market, but that was much less than the S&P 500 and nearly all its large-growth rivals. And with low-quality stocks leading 2009's rally, the fund hasn't kept pace with racier rivals. That's fine. The same thing has happened in prior markets where the sort of speculative fare the separate account eschews did best, such as 2003. The fund lagged 93% of its peers that year but still delivered a solid 21.2% return for the year. That's the sort of risk most investors can handle. Over time, this separate account has generated one of the best risk/reward profiles in its group. (Michael Breen)PAGEBREAK

Stock: Covidien COV
After a few years of investing in research and development, bolstering its salesforce, and pruning its product lineup, Covidien has returned to prominence in the medical-device arena. The company's strong product pipeline, a management team dedicated to maximizing returns on investment, and the favorable secular trends bode well for its prospects. We think the company represents an appealing long-term investment opportunity despite the uncertainty surrounding the health-care reform.

Our fair value estimate is $65 per share. We forecast overall revenue will grow in excess of 6% annually through 2013, driven largely by rapid growth in the medical-device segment. Our model assumes steady margin expansion from now on, driven by improved product mix and leverage on the operating line. We project the gross margin will expand as high-margin surgical instruments become a greater part of the overall revenue. We project increasing investment in R&D through 2013, until this expense reaches 5% of sales, typical to most device makers. (Haywood Kelly)

Mutual Fund: Matrix Advisors Value MAVFX
Longtime manager David Katz likes to purchase great business at cheap prices. He only buys companies trading at a 30% discount to his estimate of their fair value, and he doesn't buy many of them. Turnover is low, and the portfolio typically holds just 30-40 stocks. In 2008 and early 2009, high-quality companies were pummeled alongside riskier fare, so Katz had a bigger-than-normal universe of stocks to work with, and he upgraded the portfolio's quality.

For example, he sold longtime holding Time Warner TWX, a media firm, when Walt Disney DIS, another media business he liked even better, dropped to an attractive price. He also added small stakes in dominant market leaders like Coca-Cola KO and Procter & Gamble PG. Katz will repurchase favorites when their prices become appealing again, as he did late last year with Western Union WU. A concentrated portfolio means this fund can stumble if a few picks miss the mark, as happened with financials last year. The fund lost more than most large-blend funds in 2008, but its long-term performance is solid. Its 10-year record handily tops the S&P 500 and is in the category's top decile. Since July 1996, when Katz took over management duties, the fund has returned an annualized 6.8%, versus a 4.4% gain for its category rivals and a 5.3% return for the index. Katz's strategy has some built-in risks, but this is a strong choice for the long haul. (Courtney Goethals Dobrow)

Hindsight: Summer 2008 á la Carte
Our picks from the Summer 2008 issue have been solid. First, the bad: Stock pick Allied Capital ALD went off the rails. The business-development firm made bad investments and had to restructure its debt on unfavorable terms. We thought it would survive the credit crunch and thrive. We were wrong. It's shed 62% of its value since we recommended it, and we've abandoned it. ETF iPath Dow Jones-AIG Commodity DJP and Thornburg International ADR Strategy have struggled a bit, but we stand by them and believe short-term pain will still yield long-term gain.

(View the related graphic here.)