Morningstar Advisor - Winter 2008 - 71

Growth Growth managers aren’t known for sloshing around with big stakes in financial stocks. There are 1,593 financial companies in the domestic stock universe. Only 6% of those firms 34000 28000 22000 16000 10000 the long run, these relationships will drive future growth by both boosting the number of cardholders as well as improving the acceptance of Discover cards nationally. JF Baron Partners BPTRX $34K 28 22 S&P 500 03 04 05 06 07 land on the growth side of the Morningstar Style Box. Financial stocks make up less than 10% of other common growth benchmarks such as the Russell 3000 Growth. Needless to say, most investors get the lion’s share of their financial exposure from more value-leaning funds. That’s where the companies’ valuation metrics such as price/earnings, price/cash flow, and dividend yields tend to keep them. Yet the financial services industry has been one of the biggest growth engines of the past 20 years, and it has been full of innovation. Growth and innovation are the exact kinds of characteristics that growth managers tend to look for. We think there’s something to be said for a manager able to look at financials from a different perspective and willing to extend beyond the boundaries of a benchmark. Overview by Karen Dolan Discover Financial Services DFS $12K S&P 500 9 MF Manager Ron Baron buys companies that he thinks can double in price over four years, focusing on rapidly growing firms that are trading at prices that don't yet reflect their potential. His dislike of short product cycles keeps the fund out of the technology sector, and even with the fund's large financials stake, it still managed to stay ahead of its peers in 2007. so portfolio turnover is just a fraction of the typical growth offerings'. For most of 2007, this separate account has kept a fifth of its assets in financials, spread among a dozen or so small regional banks, securities firms, and money managers. Thomas Weisel Partners Group TWPG typifies the approach. Baron bought the boutique investment banker and research shop in mid-2007 after the subprime debacle tarred nearly all financials. The firm specializes in small growth firms; its nimbleness and specialized focus give it an edge. Not surprisingly, Baron's financials have had mixed performance lately in a tough environment, but his proven record of strong stock-picking gives us confidence for the long term. MB Income Always valuable, investment income takes on further significance during turbulent times. A security’s ability to pay a steady stream of income is indicative of its financial strength: Income is only valuable when it continues to be paid out. Mid-2007’s subprime debt debacle spawned a liquidity crunch that has raised questions over the sustainability of payouts by equities and bonds alike in the financials sector. Here are several securities that we think can continue to crank out solid income levels. Overview by Michael Breen Baron May-04 May-05 May-06 May-07 May-03 owns a handful of REITs that have had a tough year, but he also owned asset managers Jun-03Jan-04 Sep-04 Jun-05Jan-06Aug-06 Jun-07 Jul-03 Feb-04 Oct-04 Jul-05 Feb-06 Oct-06 Jul-07 Aug-03 Jun-04Jan-05 Sep-05Apr-06 Dec-06 Aug-07 Sep-03 Aug-04 Oct-03 Nov-03 Dec-03 Nov-04 Mar-05Oct-05 Jul-06 Feb-07 Oct-07 Nov-05 Sep-06 Dec-05 Mar-06 such as EatonDec-04 Aug-05 Jun-06Jan-07 Sep-07 Vance and Nuveen Nov-06 were (which Nov-07 Mar-04 Apr-04 Feb-05 Jul-04 Apr-05 Mar-07 Apr-07 bought out recently), as well as Jeffries Group, a mid-market investment bank. Baron has also owned Chicago Mercantile Exchange CME since mid-2003; it has been a huge winner, and Baron recognized its growth early on. KD Baron Small Cap Equity 22000 19000 4000 0500 7000 3500 10000 July 07 Oct 07 $22K 19 16 S&P 500 16000 $24K Discover has a 13000brand name and a solid network that, despite its disadvantages, would 10000 be hard to duplicate. The firm also boasts low attrition rates compared with other card issuers, because cardholders tend to keep using their Discover cards once they get used to paying with them at certain merchant locations. In addition, the Pulse network makes Discover a force to reckon with in the debit card market, which is growing much faster than the mature credit card market. We also like Oct-07 the strategy of Jul-07 Aug-07 Sep-07 Nov-07 teaming up with third-party issuers and expect more partnerships of this sort. We think that in S 17 S&P 500 03 04 05 06 07 03 04 05 06 07 S Allied Capital ALD SA Ron Baron’s skills extend to separate accounts and small caps. Unlike many growth managers, Baron and his team will buy and hold out-of-favor sectors. That's because they are bottom-up investors who focus on firms with strong management and competitive advantages. They also have a long time horizon, One of the largest feathers in Allied Capital’s ALD cap is that it has maintained or increased its regular dividend for more than 40 years in a row. The dividend currently yields more than 8%. The total return Allied has generated for shareholders has averaged 17.5% annually from 1996 to 2006, compared with only 8.4% for the S&P 500 over the same period. Because Jan-03 Sep-03 May-04 Jan-05 Sep-05 May-06 Jan-07 Feb-03 Oct-03 Jun-04 Feb-05 Oct-05 Jun-06 Feb-07 Mar-03 Nov-03 Jul-04 Mar-05 Nov-05 Jul-06 Mar-07 Apr-03 Dec-03 Aug-04 Apr-05 Dec-05 Aug-06 Apr-07 May-03 Jan-04 Sep-04 May-05 Jan-06 Sep-06 May-07 Jun-03 Feb-04 Oct-04 Jun-05 Feb-06 Oct-06 Jun-07 Jul-03 Mar-04 Nov-04 Jul-05 Mar-06 Nov-06 Jul-07 Aug-03 Apr-04 Dec-04 Aug-05 Apr-06 Dec-06 Aug-07 MorningstarAdvisor.com 71

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Morningstar Advisor - Winter 2008

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