Leading Investment Adviser Cautiously Optimistic About Stock Funds

- Alan Lavine and Gail Liberman

Don Cassidy, senior research analyst for Lipper Inc., a New York data service, says that the last three months have been one of the best in years for stock mutual funds.

"It's one of the seven best quarters since 1980 in terms ofaverage (stock)-fund performance," he says.

Cassidy says mutual funds that buy undervalued stocks did better than funds that invested in companies with fast-growing earnings.

This is unusual in a stock market rally, Cassidy says. Most of the time, growth stocks perform better because corporate earnings are rising. However, big-name growth companies, like Gillette, 3M, IBM, McDonald's, Home Depot, Wal-Mart, and the huge drug companies, all are selling at pretty generous stock prices in relation to their earnings. So investors in a flat economy are not really excited about bidding for those types of stocks.

In addition, investors still are cautious after being burned by the three- year-old bear market. They are buying low-priced stocks that pay dividends.

He also says that small company stocks are outperforming large blue-chip stocks. Small company stocks tend to perform well when the economy comes out of a recession because their stock prices are cheap. Plus small companies show faster earnings growth when business gets better.

So what's the outlook for the rest of the year?

Cassidy says he is cautiously optimistic. For the stock market to do well, the economy must keep growing. International events also must be peaceful. He is hopeful that the cut in tax-withholding rates and the upcoming child-credit checks from the Internal Revenue Service will help boost consumer spending.

"The great unknown is whether already-stretched consumers will take the extra money and pay down debt, or spend it," he says. "I think some halfway mix is a fair bet."

So what should you do?

"Well, diversification is never a bad starting point," he says. "You will not have all your money bet on any one outcome. If you are bullish on a firm economic expansion, then you should be in (stock) funds. But be careful of long-maturity bond funds since interest rates could rise. If you see continuing problems, remain comfortable with your bond funds and stay in conservative types of (stock) funds."

If you are investing money that has been on the sidelines,he advises doing it gradually rather than all in one chunk.

"I'd be very surprised if the third quarter is anywhere nearly as pleasant as the second was," he says.

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Alan Lavine and Gail Liberman are husband and wife columnist and authors of The Complete Idiot's Guide To Making Money With Mutual Funds, (Alpha Books).