Top Fund Manager Eyes Small-Caps

John E. Deysher, whose Pinnacle Value Fund has outperformed 99% of its peers year-to-date and over the past year, three years, and five years, tells Barron’s that he’s been putting more cash to work, and says to look for a big bounce from small-cap stocks as the economy recovers.

“Current stock prices reflect pretty dire economic circumstances,” Deysher said. “But, in general, businesses have been very responsible. They are bringing down inventories. They are paying off debt. U.S. corporations are going to be well-prepared for the ultimate uptick in consumer demand, whether it is six months from now or 18 months from now. A lot of those profits are going to flow right to the bottom line, and common stocks are going to do pretty well.”

Deysher’s fund focuses on small- and mid-caps, and he explained why smaller stocks are especially appealing right now: “Going into recession, small-caps lag because customers and vendors concentrate their business on larger firms that are more likely to survive. Going into recovery, however, small-caps generally do better than big-caps because customers and vendors feel they might get a better deal with more companies in the mix. Depending on the strength of their conviction that the recovery is real, stock prices can pop almost immediately. Any whiff of good news could trigger a rally.”

Deysher says that coming out of a recession, stock returns can be “phenomenal”. His fund was 50% in cash at the end of 2008, but that figure has dipped to 35% now. While the fund’s strength is small- and micro-cap stocks, it has also added some mid-caps recently, he says. He also details the specific qualities he looks for in stocks in the article.

Deysher adds that he thinks now is the time to dip into bank stocks. “The financial index was down 85% at its low,” he said. “The financial system as we know it will always be around. So, when an index is marked down that much, you have to stop, take notice and say: ‘What are the companies we want to own here?'” Right now, he likes Preferred Bank (PFBC), Wesco Financial (WSC), and First Acceptance (FAC).

The economy will eventually get better, Deysher says, and he thinks investors shouldn’t get scared away from equities. He advises investors to “stay conservative and look for signs that maybe the economy is firming and, at some point, tip-toe back into equities. The Russell 2000, over a 30-year period, has earned about 11% per year. That’s pretty good, and it includes years like 2008 when it was down 34%. The good years more than offset the bad years.”

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