Morningstar Advisor - Fall 2007 - 66

Investments á la Carte 22000 16000 10000 for companies that have exhibited returns on equity of at least 15% in each of the past 10 13000 years. That’s quite a lofty hurdle and whittles the pool of candidates down to 100 to 125 11500 names. The managers don’t stop at that; they dig into each company’s future prospects and only buy those trading at discounts to what 10000 they think they’re worth. KD CapitalSource CSE $20K Manning & Napier Core Equity $22K KBW Bank ETF KBE $13K S&P 500 16 12 S&P 500 03 04 05 06 07 06 07 15 S&P 500 04 05 06 07 S This stock’s eye-popping yield—over 12% at last count—will attract its fair share of income-minded investors. But we think that’s just one part of the stock’s allure. A specialty lender, primarily to midsized companies in the health care, real estate, and leveraged buyout markets, CapitalSource is structured as a REIT. The tax benefits of the REIT structure allow CapitalSource to make some loans that other firms would not find profitable. What’s more, CapitalSource is conservatively capitalized. Its acquisition of Nebraska’s TierOne adds a cheap, Income durable source of bank deposit funding, and The fixed-income portion of a portfolio serves management’s exacting credit-screening and a double function for many investors. Not only judicious underwriting keep a lid on write-offs. 50000 does it provide an income stream, but it also By virtue of its underwriting acumen and niche 40000 Jan-06 Jan-07 Jan-04 Jan-05 serves as support during market downturns. focus, we believe CapitalSource will find itself That’s in Feb-04 anMay-04 Feb-05 Oct-05Apr-06Oct-06Apr-07 30000 why the bulk of a portfolio’s fixed-income enviable position—able Jun-06Dec-06Jun-07 toAug-06 Mar-07 command Jul-07 Mar-06 May-06 Dec-03 Jul-04 Mar-04 Aug-04 Apr-05 Oct-03Apr-04 Nov-03 Jun-04 Mar-05 Nov-05 May-05 Feb-06 Nov-06 May-07 allocation belongs in a quality bond fund. Still, loftier rates on the loans it makes and, thus, 20000 you needn’t limit your view to plain-vanilla pay higher depositJun-05 than rivals, attracting rates Jul-06 Jul-05 Aug-05 Dec-05 Feb-07 Nov-04 10000 bonds when it comes to income investing. Highbanking customers in the process. All told, we Dec-04 Oct-04 Sep-06 Sep-03 Sep-04 Sep-05 Aug-07 yielding equities and convertible securities think that management’s significant ownercan provide ways to goose a portfolio’s yield ship stake in CapitalSource coupled with the without throwing caution to the wind. Here company’s mandatory dividend policy should are some investment ideas that offer healthy continue to instill capital allocation discipline, payouts but that shouldn’t experience downside further burnishing the business’ attractive extremes. Overview by Sonya Morris attributes. JP E SA This offering does it all. Run by ManThis ETF is dominated by global banking ning & Napier, who we feature in this issue’s giants like Citigroup C, Bank of America BAC, Undiscovered Managers section (page 60), and J.P. Morgan Chase JPM. It also includes this strategy has a great risk/reward profile. a handful of large superregional banks like US It has outperformed in buoyant markets while Bank USB and Wachovia WB. Big banks have holding up exceptionally well in downturns. traditionally paid nice dividends. As a result, For example, the strategy returned 38.3% in this fund boasts one of the fattest payouts 1999’s frothy growth market, crushing most of among equity ETFs, and that healthy yield helps its rivals and the S&P 500 Index. It followed up provide some downside cushion. Big financially this performance with a 17.1% gain in 2000—a sturdy banks also serve as a foundation here, year when the benchmark lost nearly 10%. and many of them look attractively valued at The strategy nearly broke even during the bear the moment. Because of the recent subprime market from 2000 through 2002, while its typiimbroglio, financial stocks of all stripes have cal rival shed a fourth of its value. This all-cap been punished, regardless of actual exposure strategy uses a multi-pronged approach that to subprime loans. As a result, many of the Jan-06 Jan-07 combines growth and value elements. It’s not a banks in this ETF look attractively valued, and Jan-03 Jan-06 Jan-07 Jan-04 Jan-05 pure growth vehicle, but we think its approach the vast majority of the holdings have little or Dec-05 Dec-06 Aug-07 isJun-03 Feb-04Sep-04Apr-05Nov-05Jun-06a Mar-07 sensibleApr-04Nov-04Jun-05 Feb-06Sep-06Apr-07 and has tonsJul-05 Mar-06Oct-06May-07 no subprime loans on their books. Big blue-chip of appeal.Jul-06Feb-07 It is great Feb-03 Oct-03 Jun-04 Mar-05 Dec-05 Aug-06 Jun-07 Mar-03 Nov-03 Jul-04 May-05 Apr-03 May-03 Mar-04Oct-04 Aug-05 Apr-06 Dec-06Jul-07 Jul-03 May-04 Aug-03 Sep-03 Nov-06 Aug-04 Dec-04 Sep-05 May-06 Feb-06 May-06 Mar-06 Jun-06 Apr-06 Jul-06 Feb-07 May-07 Mar-07 Jun-07 Apr-07 Jul-07 core holding. MB Feb-05 Oct-05 banks don’t get really cheap all that often, so Dec-03 Aug-06Nov-06 this presents a rare opportunity for bargain Sep-06 Oct-06 hunters. SM Crosstex Energy, L.P. XTEX $50K 30 S&P 500 03 04 05 06 07 A master-limited-partnership, Crosstex distributes all of its available cash each quarter to unit holders. In doing so, the firm partially mitigates the reinvestment risk that shareholders would ordinarily court. That said, we think there’s more to the story than the stock’s 6%-plus dividend yield. In particular, we believe Crosstex has trenched out a moat by stringing together a large base of naturalS 66 Morningstar Advisor Fall 2007

Morningstar Advisor - Fall 2007

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