Monday Morning: Reasonably priced growth a key to success story

There is a story, possibly apocryphal, of a well-known money manager who told a conference audience that his firm had a mutual fund that had beaten the Standard & Poor’s 500 stock index over a 22-year period.

He looked down at a famous professor of finance, a believer in the efficiency of the stock market, and asked: “When will you finally admit that’s good stock selection, not luck?”

Without missing a beat, the professor replied, “58 more years.”

The professor was referring to the concept that it would take 80 years of observations to be statistically certain that a money manager’s investment results were the result of skill, or lack thereof.

If asked the same question about the performance numbers of a firm headed by Derwood Chase, a veteran Charlottesville, Va.-based money manager, the professor would respond, “511/2 more years.” That is because Chase Investment Counsel Corp.’s composite of its five-largest tax-exempt accounts has beaten the S&P 500 over a 281/2-year period, net of commissions and management fees.

That may not be statistically significant, but it surely is impressive.

Chase Investment portfolio managers haven’t beaten the index every year. In fact, the composite beat the index in just 15 of the 28 full years.

But every year the S&P 500 was down, except for 2001, the Chase Investment composite beat it, and it had its share of wins in up years as well. The result is a compound annual total return for the 28.5 years of 13.4%, compared with 12.3% for the S&P 500.

Some of the accounts in the composite were balanced accounts. Excluding the cash positions of those accounts, Chase Investment’s stock purchases returned 15.2%.

For the 12 months through June 30, Chase Investment’s composite was down 7.84%, compared with a decline of 17.99% for the S&P 500.

Chase Investment’s secret is growth at a reasonable price. The firm buys quality growing companies when the stocks appear relatively attractive.

As of June 30, the stocks in its portfolios had an average price-earnings ratio of 22.8 times estimated 2002 earnings, versus a p/e of 30.1 for the S&P 500. Chase Investment bases its stock selection on a process-driven mix of fundamental, quantitative and technical analysis.

While many people scoff at technical analysis, Mr. Chase credits it with getting his firm out of technology stocks at the right time. He cites as an example its sale of Cisco Systems Inc. (CSCO) in three steps during 2000. The first sale, that February, was based simply on the fact that Cisco’s price appreciation had pushed it significantly above 5% of the average Chase Investment portfolio. The second and third sales, in September at a price of $61 and in November at $52, were triggered by technical relative-strength signals. “In November most analysts still had Cisco as a `buy’ or a `strong buy,”‘ Mr. Chase says.

Chase Investment manages about $1.4 billion, just over $1 billion of it in institutional accounts. But it also manages accounts for wealthy individuals and a $44 million no-load mutual fund, the Chase Growth Fund (CHASX), which gets five stars from Morningstar Inc., the Chicago fund-rating company.

The largest holdings in the fund as of June 30 were UnitedHealth Group Inc. (UNH), The Procter & Gamble Co. (PG), Lowe’s Cos. Inc. (LOW) and General Dynamics Corp. (GD).

Mr. Chase started his firm a few months before he got out of the U.S. Air Force in 1958. At the time, he was teaching investment courses at night and began advising Air Force colleagues on their investments.

As a veteran portfolio manager who managed through the 1973-74 bear market, the 1981-82 dip and the 1987 crash, Mr. Chase isn’t yet ready to declare that this bear market has bottomed.

“In our balanced accounts, we are close to the bottom of our equity ranges,” he says. “In individual accounts, where the minimum equity exposure is 40%, we are close to that. In institutional accounts, where the minimum is 50%, we are close to that. We are as conservative as we ever get.”

Mr. Chase says a catharsis hasn’t occurred yet. He hasn’t seen enough discrepancy between sellers and buyers, nor as much trading volume on bad days as he would like.

Given Mr. Chase’s experience, and his long-term results, his conservative investment stance deserves respect. The market may well have further to fall.

Mike Clowes is the editorial director of InvestmentNews and sister publication Pensions & Investments.