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By Christine Benz | 09-07-2010 10:22 AM

Stock and Fund Picks from Our Fund and Stock Gurus

Morningstar's director of equity research Pat Dorsey swaps his fund recommendations with senior fund analyst Mike Breen's stock picks.

Christine Benz: Hi. I'm Christine Benz for Morningstar.com.

What stocks does one of Morningstar's head fund researchers recommend, and what mutual funds does one of Morningstar's top stock gurus recommend?

Here to discuss that question is Mike Breen. Mike is associate director of mutual fund analysis for Morningstar. And Pat Dorsey is also here with me. Pat is director of equity research at Morningstar.

Guys, thanks for being here.

Pat Dorsey: Thanks, Christine.

Mike Breen: Thanks for having us.

Benz: So we thought this would be kind of fun to mix things up a little bit. Pat, you pay attention to the fund universe, and Mike, you've been a stock-picker for as long as I've known you and even before then.

So, Mike, let's start with you. When you look at individual companies, what are the key criteria that you are looking for?

Breen: It took me a while to figure out that I needed to follow the KISS, "Keep It Simple Stupid," technique, possibly because of necessity, but also from watching top managers over the years and realizing the ones that kind of aggregated things back up to a higher level and didn't get lost in the weeds worked really well. And some of my best picks were done that way where, ironically, we were just trying to avoid losses and concentrate on avoiding the downside as opposed to depending on some sort of catalyst to occur.

We were fortunate to own Anheuser-Busch in 2007, just really as a place to park money. It wasn't going to go down, and then it got acquired at a big premium and it was a big winner. And so, I've sort of simplified over the years, and so really looking for quality characteristics at the fundamental level: cash flows and clean balance sheets primarily.

Benz: Okay. So, let's talk about one of your ideas. J&J you said has been hitting your radar as a high-quality name that you think is selling at a fair price?

Breen: I actually own it already. ... It's got lot of attributes that we look at when analyzing fund portfolios. In our software you can put column sets of fundamentals across free cash flow yield, P/E, net margin, ROA, and at sort of an absolute level debt-to-capital that I'd like to see, on a stock I would buy. And I noticed in looking at portfolios of fund managers that it was hitting on all of them at extremely good levels, on fair price, lots of free cash flow, no debt.

So a very defensive, safe pick kind of in that Anheuser-Busch mode from a couple of years ago. We're very confident that it's got protection on the downside. The risk is that maybe the profitability and some of the things are at peak levels, but I think that's baked into the price trading at 10, 11 times expected earnings. I mean, those are pretty trustworthy earnings.

Benz: So, Pat, I know that's one that your team likes quite a bit too.

Dorsey: Yeah, we're big fans. I mean, in fairness, I don't think J&J is going to get taken out like Budweiser would; that would be a bit of a big nut for anyone to swallow.

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