Q:  How would you describe your investment philosophy? A : We look for total return, growth, and capital preservation in any market environment. Through the years, I have learned that opinions matter less than facts in achieving investing success. In this fund, we constantly search for what we call “bargain securities.” We prefer to buy those securities that are out of favor with investors, because that lack of demand causes prices to fall to bargain levels. So, we search for the listed securities with good, long records which, for some reason, are either unloved or neglected by Wall Street. The resulting abnormally low price levels let us “buy low.” Q:  How do you decide if a stock is a “bargain”? A : We look at traditional metrics for the value of the company’s earnings power and net assets. We look at relative strength and price momentum because, over the years, these metrics have proven to be statistically sound predictors of stock price appreciation. We also collect information on many other factors that we believe to be correlated to price appreciation. Ultimately, we look for securities that are attractive in as many of those factors as possible. My doctoral dissertation on the stock market and studying the market from 1926 through 1960, has been extremely useful. It was on the “Random Walk” hypothesis, and I was able to show that stocks with significant past price appreciation are more likely to appreciate in the future. This is not something people would easily believe to be true. After all, if a stock has already gone up, why should you invest in it? It is a common belief that you should look for something that has gone down, but that’s not the way the world works. The stocks go up for a reason and, because of that reason, they can continue to go up. I believe that this understanding gives us a bit of an edge. Q:  Since capital preservation is a prime tenant of your philosophy, how much attention do you pay to the downside potential of every stock in the portfolio? A : For us, capital preservation is related to two major factors. First, we buy stocks that are already depressed and low in price. That is how we define bargains. We buy stocks that we believe are underpriced and not selling at the very top of their orbits. They must have already lost some steam somewhere. Second, when we see high risks in the market, we invest heavily either in short-term or in long-term bonds. We are good at forecasting interest rates and we have generated significant turns from our ability to forecast them. We actively look to allocate funds between stocks and bonds and that’s how we benefit from the changing dynamics of the market. Q:  How do you select the individual securities? What is your research process? A : We do our own research as opposed to getting research from elsewhere, because we prefer to make our own mistakes, if you will. If, for some reason, things do not work out in the way we have expected, we can look back and learn. We can see how we made the wrong decision and correct it. This would not be possible with research we didn’t initially perform. In looking for individual securities, we use our database of more than 8,000 stocks, combined with the research that I have done over 37 years. We rank each of those 8,000 securities from 1 to 100, where 1 is the most desirable and likely to appreciate, and 100 is the least likely to appreciate. To do this, we use a number of factors that we know are well-correlated with rising stock prices. Once our macroeconomic research has led us to more heavily weight one sector over another, we will look for top-ranked (1 to 10) stocks in that sector. For example, with energy getting cheaper, we now favor some utilities, particularly gas utilities. Hopefully there will be some gas utility stocks ranked as bargain stocks by our model, upon which we will begin qualitative analysis to decide on buying or not. Overall, we always aim to buy the securities that are the greatest bargain and those that have the best chance for capital appreciation and, most important of all, the least opportunity to lose money. Q:  How do you analyze domestic and global events and relate them to specific investments? Is the global picture important for your decision making? A : We are interested in foreign economies because a significant part of profits here in the U. S. depend on exports. For many companies, 50% of the profits come from abroad. Our task would be simpler if we did not have to look overseas, but we would miss an important part of the picture. We have a portfolio manager who specializes in researching economies abroad, who helps select either the best US firms doing business there, or country-specific ETFs. We don’t claim to be experts on any particular foreign company, but for the macro picture, we gain very useful advice. For example, until six weeks ago, we focused on firms with significant export activity. The dollar was getting cheaper, which meant that returns from overseas were more valuable. We feel that trend has ended and now forecast inflation to go down and the value of the dollar to rise, so we focus more on companies that make their sales in the united States. Of course, we don’t exclude exports; we just don’t focus on them. Q:  Do you believe that the pattern of investors’ enthusiasm is predictable? Do you time the market? A : I hate to use the phrase “time the market” because it implies that every two or three weeks, you are whipping back and forth in the market. We don’t do that, but we can assess the risk as being very high or very low, and that has helped us tremendously. We use over 100 market risk indicators that have little to do with selecting individual securities. Through those indicators, which we update every Saturday, we validate the overall risk level of the market. We write a report that summarizes the indicators and the results, and we make it available to our clients through the Internet. For example, when Bear Stearns had the near failure in the middle of march, the resultant decline in share prices lowered risk levels in the market to an historically good buy level according to our research. We knew that although we remained in a long-term bear market, there was a good opportunity for a rally, and we raised equity levels. It turned out that stocks gained 15% in a bear rally that lasted a couple of months. If the long-term indicators tell us that the market is continuously a bear market, we are likely to see lower prices. Then we make a very intense effort to look for individual stocks, to find good ideas that correspond to the risk level of the overall market, and to take advantage of that trend for our clients. Q:  Could you explain what categories of indicators do you use? How they help you in deciphering the market? A : While we look at such indicators as the buying and selling activity of futures speculators, numbers calls versus numbers of puts traded in the options markets, trader sentiment, the odd-lot sentiment, and many others, the most important indicator is probably the sentiment of the investing public. When it is mostly neutral, we don’t get much of a signal. However, if there is a very strong opinion, then it is wise to be prepared to act in the opposite direction. When the public has formed a firm consensus and has already taken action, we ask ourselves what will happen next. The market typically reverses. We look at the momentum of the market, which tends to follow relative strengths until it turns. We look for extremes in valuation and for economic factors that might influence the earnings of corporations. In addition, we have a regular study that focuses on interest rates. Currently, we believe that the rate of inflation in the U. S. is declining not rising. Our bond indicators tell us that bonds are an excellent buy here. The interest rates are going down and with U.S. Treasury bonds, where you do not have to worry about default, you have a good opportunity for appreciation. With long-term treasuries, you can make about 13% on a year on 0.5% change in interest rates, even though the stock market is declining. Q:  What is your approach towards portfolio construction? A : We believe in diversification by sectors and by individual stocks within those sectors, because diversification the key factor in preserving capital for our clients. We can be certain when we select sectors or stocks, but we cannot be absolutely certain in the market, so diversification is important. Since a bargain can always become a better bargain in the short term, we typically take initial positions in new names at 0.5% or even 0.25% of the portfolio. Then, given favorable subsequent price action, we add to positions until they reaches 2% or 2.5% of the equity portion of the portfolio. We hold between 30 and 40 names and we make sure that we diversify into every sector. We are investors, not traders, so if the portfolio does well and continues to grow, we don’t sell our winners. Some positions may reach 5% or even 7%. Nevertheless, we believe that the risk is primarily in the initial price and level of investments made in the security. For us, the key to long-term investing success is to avoid short-term capital depreciation. We have run trials that demonstrate that, if you have a good sell discipline, you can buy stocks at random. We sell stocks when our model ranking begins to fall or when the relative strength of the stock begins to deteriorate. When one of our seven analysts sees something worrisome about the stock, we discuss it in the investment committee. If we decide that there could be a change in the value, we would sell the stock. In terms of bonds, we think that the shape of the yield curve is important to forecast. Although we build opinions and we follow them, we remain diversified across a number of different issues, and manage duration by blending short, medium and long-term bonds. The duration in our portfolio today is about six years and a half, but we built it with a combination of 30-year bonds, along with some short ones, rather than owning all bonds maturing in six and a half years. Our skill in forecasting changes in interest rates has been responsible, in part, for our very strong track record. Q:  What type of bonds do you invest in? Do you focus only on government securities or do you also invest in corporate bonds and international sovereign securities? A : We invest only in very high quality bonds, which typically would be very highly rated by the rating agencies. The vast majority of our debt holdings are U.S. Treasuries, but we would also buy sovereign bonds issued by friendly countries. We don’t try to speculate on which company will do better. The idea of our bond investing is to focus on and take advantage of the level of interest rates. That’s where we believe our edge for our clients is. Q:  What is your view on investment or market risk? A : Of course, there are risks in investing, and we believe in especially emphasizing the preserving of our clients’ assets. We have found that investors who do best over very long periods of time, look at the risks in the market and are willing to reduce equities to avoid extensive losses in bear markets. To us, that is very important, and risk control is a primary focus. Our firm started 36 years ago. Many employees have been here for twenty years or more. In fact, the average tenure of our seven portfolio managers is in excess of twenty years. The company strives to produce high returns but to preserve capital in down markets. The success of this philosophy is evident in our long track record and firm growth.