Taking stock Featured

10:00am EDT July 22, 2002

Mutual funds have become one of the most popular investment tools available, and have contributed to the upsurge in the stock market. But is your conglomeration of stocks really maximizing your investment potential? Bill Staton, chairman of The Staton Institute, an investment training company, says no.

“The average money manager has been in the business for three and a half years,” says Staton. “They were all in high school during the crash of ’87. They haven’t seen the market in bad times. When I talk about 1973 and 1974, their eyes roll back and look at me like ‘what’s this old geezer talking about?’ Those were the worst two years since 1930.”

Staton recalls losing 75 percent of his portfolio value as stocks nosedived. McDonalds lost 89 percent of its value and companies such as Avon and Eastman Kodak never recovered all of their losses. The lack of bull market experience, along with results showing most mutual funds lagging behind the market even in good times, is why Staton recommends buying certain stocks outright, rather than shares in a mutual fund.

During the last 35 years, only 23 percent of stock mutual funds have equaled or beaten the market.

“Your odds of getting a fund that beats the market are less than one out of four,” says Staton. “Your next stumbling block is with more than 9,000 funds out there, how do you pick the best one? It’s intensely interesting that when mutual funds advertise, they rarely compare their record to a benchmark index—not because it’s illegal, but because their record isn’t as good.”

The hot mutual fund in one investing guide may be next month’s goat. The roles may reverse several times over the course of a few months. When you take a fund’s return, subtract management fees and expenses along with taxes, it has probably under performed the market by a fair margin.

“By looking at what stocks make up the Dow, you could create your own index fund,” says Staton. “Diversification through a mutual fund is a myth. You only own one security. Why do you need 200 companies when you really only need 10 good ones?”

Following his losses in the crash of ’73-’74, Staton started a massive research project to find which companies consistently outperformed the others on an annual basis.

“I wanted to come up with a universe of companies so good, it would be like having a team of Michael Jordans,” says Staton. “We isolated the companies that showed 10 years of higher dividends and/or earnings per share and called the group ‘America’s Finest Companies.’”

Today, out of 16,000 public companies in the United States, only 397 are listed in that group.

“My investing methodology is simple: Pick five companies in different industries off the list, and put the same dollar amount into each one. You end up with companies like Coca-Cola, Anheuser-Busch, Merck—but not AT&T.”

Before dumping your mutual funds and investing directly in stocks, Staton recommends examining the tax consequences carefully. If the tax hit would be excessive, stay in mutual funds and divert any new money directly into stocks. As many as half of all 401(k) plans now allow for the direct purchase of stocks rather than shares of a mutual fund, so that may be another option.

“Unless you have no other choice, forget about mutual funds and invest directly in stocks,” advises Staton. “I’ve never been in anything except U.S. stocks and you can make a lot of money.”

For more information, go to www.statoninstitute.com or call (800) 779-7175.