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February/March 2009 Picks

A quartet of investments deemed to be right for right now.

Morningstar Analysts, 02/02/2009

Editor's Note: As Morningstar Advisor moves to a new bimonthly schedule, we've revised Investments á la Carte to give our analysts a chance to pick what they see are the best current opportunities.

Stock: Compass Minerals CMP
We love this mid-cap stock. It has strong competitive advantages as a result of its world-class rock salt and sulfate of potash resources. Compass' major offering is highway de-icing salt, so profitability is determined by snowy, icy winter weather. The firm also produces salt for consumer and industrial uses, such as water conditioning, livestock feed, food processing, and table salt. Compass also produces SOP, a fertilizer that improves the yield and quality of high-value crops. Compass is expanding its highway de-icing salt and SOP production capacity, which should result in profitable sales growth. In addition, SOP prices are increasing dramatically, thanks to strong global demand for fertilizers and tight supply. As the world's population grows, the amount of arable land per person decreases. Further, increasing personal income in developing countries is driving people to change their diets. Finally, high crude oil prices and political considerations have motivated countries to encourage biofuel production. All of these factors contribute to growing demand for fertilizers. (By Haywood Kelly)

Exchange-Traded Fund: ELEMENTS S&P CTI ETN LSC
This new ETN provides commodity exposure with brains: Its long-short strategy allows this fund to capture roll yields and provide positive returns in a number of economic environments. Each month, the index underlying this ETN takes long or short positions in each of six commodity sectors (energy, precious metals, industrial metals, grains, livestock, and more-exotic agricultural goods) based on whether the sector index's current price is above or below a weighted average of the previous seven months' prices. We think that this strategy has a solid theoretical base because the macroeconomic and supply trends that drive commodity prices tend to persist over multimonth periods. Even if commodity prices remain stable, this fund can benefit from changes in the futures price over time even for the few expensive-to-store commodities that provide negative roll yields. Years of data on this strategy suggest that it will provide the same diversification benefits as a traditional long-only commodities stake, but with higher long-term returns potential. As an ETN, this fund is backed by the debt of HSBC Bank instead of a portfolio of cash and futures. This eliminates tracking error against the index but also subjects investors to the bank's credit risk. Fortunately, HSBC has weathered the credit storm and currently has the highest market capitalization of any bank in the world. Trading volumes have improved in this fund, but it still can face liquidity problems because it is so new. We advise investors to check the net asset value and use limit orders to ensure they buy their shares at fair value. (By Paul Justice)

Separate Account: UMB Asset Management International Equity
UMB Asset Management International Equity is down but far from out. This proven winner is run by James Moffett, who has a stellar long-term record here and at mutual fund UMB Scout International UMBWX. Like all international offerings, this one hasn't been immune to the global downturn that has crushed stocks in all markets. This separate account was deep in the red in 2008 but lost less than the MSCI EAFE Index and the bulk of international-equity strategies. That will be of little consolation to those who bought in recently, but long-term holders are still in great shape and new prospects will be well positioned if they take the plunge. Moffett has long had success using a combination of macroeconomic forecasting and pure bottom-up stock-picking. In nutshell, he looks for countries and sectors with the strongest economic trends and then buys financially sound fi rms with stable businesses within those areas. He has executed this process with aplomb over time, and we expect the same going forward. We remain fully confident in Moffett and this strategy. (By Michael Breen)

Mutual Fund: PIMCO All Asset D PASDX
Our hesitation in recommending this fund of funds more forcefully involves the high relative costs of some of its share classes. Recently, however, PIMCO committed to dropping the administration and supervisory fees on the fund's no-load D share class by 20 basis points (0.20%), making it more competitive. It will still carry a levy likely to be above the comparable moderate-allocation category median 0.95% charge, but it's a step in the right direction and improves its appeal. Beyond improved costs, the approach taken at this fund, managed by Rob Arnott of subadvisor Research Affiliates, LLC, should hold considerable interest for investors struggling through the recent market downturn because of the fund's inflation-fighting focus and absolute-return orientation. Arnott seeks to best the Consumer Price Index by at least 5% and beat the Lehman Brothers U.S. TIPS: 1-10 Year Index over a full economic cycle. To accomplish this, he uses quantitative models that suggest rotations between asset classes, such as inflation-linked securities, commodities, emerging-markets debt, real estate, equities, and other fixed-income sectors, in search of the mix he thinks will effectively meet fund goals. In the wake of the worst stage of the subprime-mortgage meltdown and liquidity crisis, the fund saw results suffer as return correlations converged between almost all asset classes, with only Treasuries staying out of negative territory. The fund's positions in inflation-linked bonds and emerging-markets debt saw losses resulting from diminished inflation expectations and risk aversion, respectively. Still, a low level of equity exposure (7% of assets, compared with the category average 56%), insulated it from the worst damage. (By Lawrence Jones)

Hindsight: Spring 2007
A look back to picks made in the first issue of Morningstar Advisor.

Municipal Mortgage & Equity LLC MMAB (formerly MMA)
There's no sugarcoating it: We missed the boat on this pick. It has gone nearly to zero since we recommended it and has been delisted from the New York Stock Exchange. It now trades over the counter under the ticker MMAB. Unlike other mortgage-related business, Munie Mae, as it is referred to, didn't originate or hold any subprime debt. Rather, it was crushed when capital markets froze up, eliminating sources of funding for its financing activities to developers. Compounding matters has been the ongoing restatement of the firm's financial statements, a costly drain on human resources and a barrier to the firm's effort to access capital. Munie Mae relies on warehouse lines of credit from banks, and the lack of audited financials has caused funding to evaporate or to be reset at much higher rates: A killer combination in an illiquid credit market. The original appeal of Munie Mae was its strong and predictable dividend stream. That is long gone, and a lack of audited financial statements makes it impossible to asses the firm's value. (By Michael Breen)

Royce Special Equity Investor RYSEX
We're not surprised this small-value fund has handled a brutal market better than most. It's run by Charlie Dreifus, a veteran value hound with an eye for quality. While many managers are now putting firms' balance sheets under a microscope, Dreifus has always done so. He has always insisted on firms with low debt, piles of cash, and steady returns on invested capital. That's a recipe for success in any market but is especially valuable in an economic downturn. And like all Royce managers, Dreifus isn't afraid to sit on cash when bargains are scarce. The fund has benefitted from several holdings being acquired at premiums over the past year, and the proceeds have been mostly kept in cash, which now accounts for 22% of assets. This fund is in the red since we first recommended it, but it's down less than nearly all its rivals and the overall market. This fund has a stellar long-term risk/ reward profile, and we continue to recommend it. (By Michael Breen)

Contributors
Mutual Funds, Lawrence Jones
ETFs, Paul Justice, CFA
Stocks, Haywood Kelly, CFA
Separate Accounts, Michael Breen

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