A true bottom-up investor, John Osterweis doesn't make big sector bets -- so it's not surprising that his winning stocks this year were a varied bunch, including garbage collector Republic Services (RSG), security software maker Websense (WBSN), and publisher McGraw-Hill (MHP).
The San Francisco-based manager's fund, which has about $700 million in assets, has returned about 10% annually since its 1993 inception, four points better than the S&P 500.
Like many value managers these days, Osterweis currently has a large chunk of his portfolio -- about 23% -- in health-care stocks. But while he likes drugmaker Valeant Pharmaceuticals (VRX) and hospital chain Healthsouth (HLS), he says those are individual bets, not a sector play.
Nevertheless, the manager does look for some themes. One of his favorite types of investments is a turnaround story, or a company whose low operating margins belie its growth potential. That's why he bought shares of American Water Works (AWK), an underperforming utility that has undergone management changes. "With the shift, this company should start growing and get back on track," Osterweis says.
Another turnaround bet is consumer foods giant Unilever (UL), whose 12% profit margin is four points lower than rival Nestle's. "They're a company with strong brands and a national presence," says Osterweis. "They brought in a new CEO last year to get the company's margins on par with its competitors'."
While Osterweis has picked up some deep values this year, he has also boosted his cash position to 23% of his portfolio from 10%. He is skeptical about the strength of the economic recovery, which he thinks will be "anemic" by historical standards. He expects profit growth to be slow, and he's wary of banking stocks, having written in July to shareholders that bank balance sheets "remain suspect."
Osterweis says the continued deleveraging of the consumer and financial sectors will slow a rebound. "In an environment like that, stock market returns will be less robust than what we've seen in prior cycles," he says.
He does see one area of opportunity. "Getting total returns from dividends makes a lot of sense," says Osterweis. He prefers high-yielding stocks not only because they have stable returns, but also because they tend to belong to companies with better balance sheets.
In pursuit of dividends, Osterweis has bought shares of pipelines like Energy Transfer Equity (ETE, Fortune 500), a master limited partnership that has a 7.7% yield. He also added spirits maker Diageo (DEO), which has a 4.6% yield.
"We don't go whole hog into any one theme, but dividends will be prominent in what we doing going forward," he says.
Disclosure: The Div Guy owns shares of Unilever (UN) at the time of this post.