Growth fund not afraid to take contrarian stance

According to his experience, once an issue starts showing up as a regular feature on the local news and appears in every newspaper across the country, there is probably already a trend moving in the other direction.

It is on that premise, among other factors, that Mr. Markman has recently turned bullish on real estate and homebuilder stocks.

“Now is the time to start building a position in real estate,” said Mr. Markman, who launched his mutual fund in its current form through the consolidation of three funds of funds in December 2002.

“I don’t think this is rocket science,” he added. “Anybody that has been around the business longer than a few months understands that full media coverage is a signal of the last 10% to 30% of the move.”

The $63 million fund is part of the $135 million in total assets under management at Markman Capital Management Inc. in Edina, Minn.

Mr. Markman, who acknowledges that his view of real estate is contrarian, has already built up a 2.3% position in Horsham, Pa.-based homebuilder Toll Brothers Inc. (TOL).

A company that concentrates in the high end of the housing market, Toll Brothers is uniquely suited to lead the sector out of the doldrums, he said.

Affluent housing

“The affluent end of the homebuilding market is always the most stable and the quickest to rebound,” Mr. Markman said. “The buyers of the more expensive homes are going to be less sensitive to economic cycles and rising interest rates.”

With the company’s stock trading at less than $30 a share, Mr. Markman said, the shares are attractively valued on historical terms.

Toll Brothers stock, which closed Friday at $29.51 a share, had declined by 8.4% year-to-date. This compares with a 6.2% gain by the Standard & Poor’s 500 stock index over the same period.

As reliable as Mr. Markman thinks the mainstream media is as a contraindicator, he also pays close attention to the mood of corporate executives in a particular sector.

“We are of the opinion that at extreme conditions, most top executives are remarkable contrarian indicators of their company and sector’s prospects,” he said. “You’d think they would know better, but even the sharpest top guns have a tendency to give up to giddy euphoria at the top and gloomy despair at the bottom.”

Mr. Markman has studied homebuilder company conference calls and annual reports from 2005 that indicate a “positive spin” for the industry at a time when it should have been pulling back to more cautious positions.

“The company executives can’t be stupid at the top and smart at the bottom,” he said.

It also helps, Mr. Markman added, that housing is one sector that will always be in demand on a pure lifestyle basis.

The portfolio of just 35 stocks typically holds weightings of between 1.5% and 5%. But in order to gain some quick exposure to homebuilders and the overall real estate market, Mr. Markman said, he would consider positions in such exchange traded funds as iShares Dow Jones U.S. Home Construction (ITB) and PowerShares Dynamic Building and Construction (PKB).

Timing is everything to Mr. Markman, who makes no apologies for the fund’s 500% average annual turnover rate.

High turnover

Part of the rapid-fire turnover, he said, is designed to burn through the nearly $55 million worth of tax loss carry-forward that came with the fund’s consolidation at the end of 2002.

Even at the current turnover rate, investors shouldn’t have to worry about the tax consequences until at least 2010, at which time, Mr. Markman said, the turnover will go down a bit.

“After 2010, I’ll tell the shareholders this is fund that’s probably best suited for a qualified account,” he said.

Turnover, Mr. Markman added, is a key component of the strategy.

“If you look at my top 10 portfolio positions, you’re going to see best-of-breed, healthy, solid companies,” he said. “In a large-cap fund like mine, it’s impossible to get an edge without trading.”

The fund, which has a four-star rating from Morningstar Inc. in Chicago, was up 6.22% this year through Thursday, compared with 6.73% for the average large-cap-growth fund.

Questions, observations, stock tips?

E-mail Jeff Benjamin at jbenjamin @crain.com.