Business Week

Marcial: How Four Pros Played the Stock Meltdown

One waded into fallen bank stocks and shorted credit-card shares, another eyed health-care issues, a third bought countercyclicals—and a fourth sat tight

by Gene Marcial

What did investors do when the Dow Jones industrial average plunged 777.68 points, or 7%, on Sept. 29, to 10,365.45? Head for the nearest bar for a double? Or rush to double up, or down, on their stocks?

Either way, the Dow’s sharp response to the unexpected rejection by the House of Representatives of the Treasury’s buyout plan reminded investors yet again of how unpredictable and volatile the market can be.

“You’ve got to have a steel stomach to confront these types of markets—to survive or win,” says William Harnisch, president of hedge fund Peconic Partners, which manages some $1.5 billion in assets. And a winner he’s been at a time when most other hedge funds are struggling to avoid sinking. In 2007, Peconic posted a 64% gain, and this year is up 8% though Sept. 29, vs. a decline of more than 20% for the Standard & Poor’s 500-stock index. So Harnisch wasn’t one of those who scurried to the nearest tavern: He dared to buy stocks as the market plummeted.

William Rutherford, president of Rutherford Investment Management, is another courageous winner, mainly because he opted to bail out of financial stocks a year and a half ago when the first signs of problems in subprime mortgage lending surfaced. He turned his attention to what he called very defensive stocks—consumer staples, medical, and health-care issues. When the market cratered on Sept. 29, he was out buying, or “nibbling,” he says. His portfolio consists of growth stocks he holds for the long term.

Ample Cash Reserves
Douglas Peta, market strategist at investment firm J&W Seligman , which manages some $18 billion, recommends buying countercyclical stocks—those that aren’t affected much by the ups and downs of the economy.

On the other hand, Terry Morris, senior equity manager at National Penn Investors Trust , with assets under management of $1 billion, says he is “sitting tight” and staying on the sidelines while the storm is raging. “More banks may disappear,” he warns. What he would like to see is a rally in areas where he is invested “so I can cut back on them,” says Morris. He believes the “fundamentals have gone down more than the stocks have,” and so he expects stock prices to slide further.

As for Peconic’s Harnisch, savvy hedging in various stock groups delivered huge profits. He played the market’s volatility, armed with ample cash reserves to be able take advantage of opportunities. For instance, he was simultaneously short in certain stocks (i.e., betting that they would fall) and long in others within the commodities group. “Fortunately, I proved to be right on both my short and long choices, and came out on top,” he explains.

Harnisch snapped up shares of JPMorgan Chase (JPM) as it plunged to 41 a share on Sept. 29, down from 48.24 in the previous trading session on Sept. 26. At the same time he purchased shares of Bank of America (BAC), when that stock fell to 30 on Sept. 29, down from 36 the previous day. Simultaneously, Harnisch shorted shares of Martin Marietta Materials (MLM), which produces aggregates for the construction industry, when it was at 113. He also shorted shares of MasterCard (MA) at 168 and Visa (V) at 60.

Hunting for Growth Prospects
Harnisch’s strategy in the first half of 2008 was to protect his gains in 2007 by taking profits where he could from his winnings, then to hedge his way through with appropriate stock picks on the long and short side. On Sept. 30, he sold and took profits in some stocks where he has amassed gains. “At the end of the day, I still act very defensively, but [am] always alert to jump on opportunities on both the short and long side of the market,” he says.

Rutherford also assumes a defensive mode, but he too is on the hunt for stocks he believes have growth potential but whose prices have dropped mightily. Rutherford is one of the few who made huge profits 18 months ago when he abandoned financial shares. For instance, he sold Goldman Sachs (GS) when it was trading at 206 a share, Lehman Brothers at 70, and MetLife (MET) at 63.

Recently, Rutherford came back to some financial stocks, mainly JPMorgan Chase, Wells Fargo (WFC), and US Bancorp (USB). He bought more of the three stocks on Sept. 29, when they dove along with the rest of the market.

Lonely are the brave, but sometimes they prove that courage in the stock market can produce bountiful rewards.

Unless otherwise noted, neither the sources cited in Gene Marcial’s Stock Picks nor their firms hold positions in the stocks under discussion. Similarly, they have no investment banking or other financial relationships with them.

Marcial writes the Inside Wall Street column for BusinessWeek. In 2008, FT Press published the book Gene Marcial’s 7 Commandments of Stock Investing.