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Taking Stock

Q&A Part 3

Entrepreneur: We've been talking about large-company stocks so far. Do you expect small- and medium-company stocks to rise?

Wachtel: They have. When people say the market has been all big caps, they're missing the fact that the Dow has been all big caps because it's a big-cap index. But there have been movements in midcap stocks; there have been movements in small-cap stocks. I have been on Wall Street many, many years. If you build a better mousetrap, Wall Street will find a way to your door. There have been great stories in small-cap mutual funds. So it's foolhardy to believe this is a big-cap market. There are 9,000 stocks out there, and if you find one that's exciting with an authentic growth story, you'll be rewarded.

Entrepreneur: You mentioned that if interest rates go up, people might move money out of markets into other things. Is this a good time to buy bonds?

Wachtel: I think it's marginal. I'm not a big fan of bonds. On one hand, given the vigor of the economy, it's hard for me to believe that bond yields are going to come down dramatically from the current low bond level of around 6 percent. On the other hand, given the modest inflation involved and the reluctance of the Federal Reserve to tighten, I doubt a long bond yield is going to rally up and hurt bonds. So you have the coupon and a fairly safe investment, but it certainly isn't a very dramatic investment.

Entrepreneur: Would you recommend that people stay with a good- quality U.S. corporate or government bond as opposed to high-yield or junk bonds?

Wachtel: They call them "junk bonds," and that's a residue of the past, but these are usually fairly decent companies that the rating services don't rate on a quality standard. You often get returns 200 basis points above treasuries. I would certainly not turn away from this so-called junk bond market. I think there are excellent yield opportunities. The junk bond people call it the "high-yield market," and it is a high-yield market. Only if you get into a recessionary environment can you make the case that high-yield bonds, or junk bonds, could be dangerous. But we're far from that.

Entrepreneur: Why would a recession make junk bonds dangerous?

Wachtel: Well, the reason they didn't get the high ratings from the rating services is that they have marginal balance sheets. If the economy falls away, those balance sheets would look worse. If the economy remains vigorous, however, there would be no problem investing there. These are economically vulnerable corporations; that's why the rating services don't rank them too high.

Entrepreneur: Do you think interest rates are going to stay put?

Wachtel: I think so. I see a very narrow range for rates. Maybe on the long bond yield down to 5.85 to 5.9, maximum 6.15 to 6.2 on the upside. I think the trading range will remain narrow, as it has been for most of the year.

Entrepreneur: A lot of people invest in mutual funds instead of buying individual stocks. Is that generally a good thing to do, or should people who have a certain amount of money look toward individual stocks?

Wachtel: The mutual fund technique is fine. There are 8,000 mutual funds. The problem is not appraising what you're after. There are all types of funds; you have to decide which ones suit you the best given your age, your conservative or aggressive nature and what you want in the future.

Of course, funds have professional managers. When you deal with individual stocks, there are so many surprises that come along on a corporate level. If you plan to invest time and energy to try to anticipate or adjust to those surprises, fine. But if you're buying individual stocks without a warm body helping you, surprises come along and suddenly you're down to 10 points.

The money manager in charge of each mutual fund has a staff to address those problems and avoid those surprises. Hypothetically, all investments look great, but in the real world where you actually put your money on the line and you get emotionally involved, it's not so easy.

Entrepreneur: It seems as though you can get all the information you need on the Web.

Wachtel: Before there was a Web, there was a library, you know. You could have gone to the library and gotten all the information you wanted, right? Maybe you can get the information more easily now, but you still have to assimilate it and decide what investment conclusions to draw. You can read an annual report and say "this is a great company" and not be aware of the potential danger in terms of competition or obsolescence.

What you really need is someone who has been doing this for a while. That's why the advice of individual brokers is so important. Here at Prudential, we spend approximately $70 million on research. And this has not just been thrown to the winds. It means I have someone I can turn to who can assimilate all this material and come to an investment conclusion and warn me if things are going sour.

Entrepreneur: Tell us a little bit about load vs. no-load funds. The chairman of the Securities and Exchange Commission has said that load funds aren't a good investment, yet many no-load funds are coming out with load fund alternatives. Which are better?

Wachtel: You know, you're talking here about commissions. You're not talking about investments. The most important things are the manager of the fund and whether or not his or her outlook correlates with what you're thinking. How has his or her track record been through the bad times as well as the good times? How have his or her investments resonated with your philosophy? You've got to identify with the performance and the manager, and then whether you pay a little more for the commission is immaterial as far as I'm concerned.

Entrepreneur: People often invest in index funds because they think the S&P 500 Index is the standard to beat. What's the upside or downside of investing in an index fund?

Wachtel: When you invest in the index, it's like betting on all the horses in a race, and it's worked for the last several years. The reason these funds can charge such low commissions and low loads is that they really don't have to have anyone monitoring these stocks. You simply buy the 30 stocks in the Dow or the 500 stocks in the S&P, and that's it. The day will come, however, when the market will turn down-and suddenly you'll be sitting there with all these particular market stocks, vulnerable to the overall market trend.

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This article was originally published in the September 1998 print edition of Entrepreneur with the headline: Taking Stock.

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