To Be Honest, Otc Portfolio Manager's Candor Is Refreshing

"The first rule is not to lose. The second rule is not to forget the first rule."

- Warren Buffett

No law mandates that you like Binkley Shorts. But the truth is, his candor makes him downright arresting.

Ask a mutual-fund manager whose fund is struggling how the fund is doing, and he'll say something like:

"Relative to the universe of funds engaging in disciplines commensurate with our activities, we are at a performance percentile that while not in the first rank is at least on the mend. And we're delighted you asked."

Ask Binkley Shorts how his fund is doing and he'll say:

"Terrible."

Ask a sales-commission fund manager in an ever-increasing world of no-commission mutual funds how he can justify taking investors' money off the top, and he'll say something like:

"To begin with, in a good fund, investors will make as much or more, whether or not a commission is charged. For every good fund not charging a commission, I can show you one or more who do. And anyway, as any intelligent person already knows, so-called no-load funds have all sorts of internal fees that eat up an investors dollars just like ours do. So there."

Ask Binkley Shorts, manager of a fund with a load, why he likes a sales charge and he says:

"I don't. I dislike it."

So why devote more than an iota of space to a mutual fund that not only charges investors to get in but has lousy performance to boot?

Good question.

It's more than just that he is a nice guy. That helps. But while you find a lot of honesty and integrity in Bink's line of work, the candor is especially refreshing.

Then there is the Mercer Island connection. Although Shorts has spent most of his adult life working in Boston, he won't deny, nor has any intention to deny, that he grew up on Mercer Island.

Binkley Shorts, 47, for the past 11 years has been portfolio manager of the Over-the-Counter Securities Fund. The fund is owned by a large insurance company, USF&G, and the OTC Fund's daily listing appears under USF&G. The fund's adviser - Shorts' boss - is Wellington Management Co. in Boston.

Many funds concentrate on smaller companies. Those funds underperformed larger-company funds throughout the 1980s.

"Small-capitalization stocks have been terrible," Shorts said by telephone from Boston the other day. "To tell you the truth, my fund is focused on very, very small stocks. I am a small-stock manager in the true sense of the word."

A conventional small-stocks manager looks at companies with market values in the $200 million to $500 million range. Big to Binkley is $100 million.

Since 1983, "There has been a perfect correlation between size and performance," Shorts said, faxing charts to prove it. "The smaller you are, the worst you've done."

A glance at the mutual funds listing in the Standard & Poor's Stock Guide shows that $10,000 for most funds at the start of 1986 grew to $18,000 or $20,000 by the end of September. The OTC Fund investment grew to $14,509.

"The sophisticated investor recognizes the phenomenon and recognizes that when it turns, it is worth having exposure," Shorts said.

In 1991, the kernel of a turn appears to be sprouting. Although there has been more than one false alarm, it seems that the small-stock heyday, which last was at a zenith in 1975-1983, may be emerging again.

"As we speak, I sit here and see it turning," Shorts said, only partially whimsical. October, Shorts said, was the first really sensational month in which small-stock performance outdistanced other stocks in about a decade.

"This is only the tip of the iceberg," Shorts said, adding that bigger-name smaller stocks make the first move.

Small would equate to volatile. Yet Shorts said his 185 companies have a combined price-to-earnings ratio of about 15. The general market would be more like a 20 PE.

Over the years, Shorts has been an early investor in such companies as Nordstrom, Costco and scores of others that have since grown too large for his OTC Fund. He likes a small company such as Quality Food Centers, but "everybody loves it," so the price is too expensive.

Among Northwest issues he owns are Egghead, the software retailer, and BMC West, a building-materials company. Shorts enjoys discovering companies that are virtually private. For a long time, and at great profit, he had a tiny percentage of Simpson Timber. But a Washington state law permitting companies to repurchase stock when public ownership is less than 5 percent took those shares away.

He is one of the few outside shareholders of Fisher Companies, the broadcast, flour-mill and real estate company that owns KOMO-TV and radio. As we spoke, he was negotiating for another tiny piece of a largely private company.

Like the 1975-83 move, small stocks surge over relatively lengthy time periods. Since 1925, those periods have spanned 14, 11 and 10 years.

"This market will broaden, from the high visibility names to the rest of the market," Shorts said. "Potentially a huge amount of money" can be made.

So why does OTC charge a commission? For one thing, it has since its inception in 1955, when virtually all funds charged loads, usually 8.5 percent. The OTC load now is 4.5 percent.

Although Binks is on record as opposing commissions, he said he recognizes that to recreate his fund, with all of its tiny stocks and careful research, would take "an enormous expense." The fact is, the fund is owned by a mutual-fund family that is sold through nearly every brokerage in the land. Brokers sup on that 4.5 percent, and hold a lot of hands simultaneously.

Because small stocks have been so big for Shorts, and because they could be in their ascendancy again, we asked him for small-stock tips, assuming one or both of our readers don't want to buy a fund. He suggested:

-- Don't buy fewer than a dozen stocks, and diversify across industries to protect yourself.

-- Don't chase miracles. If it sounds too good to be true, it is.

-- Never buy a stock with a high price-to-earnings ratio.

Shorts endorsed this method:

Determine the past five years of sales growth, compounded, on a per-share basis. Then don't pay more than that times the past 12 months profits a share. For example, if the average growth rate is 20 percent, and the past year's profits were $1 a share, your upper limit on the stock would be $20.

Good advice at a time when, for some, salesmanship has a higher premium than advice.

The Dow Jones industrial average of 30 blue-chip stocks flirted again with its all-time high of 3,077.15, settling at 3,055.90, up 50.98 points for the week.

The Murphey Favre Northwest 50, 50 stocks weighted by their regional economic impact, gained 77.72 points to 2,146.83.

U.S. Treasury bonds leaped $15 per $1,000, to about $1,022. That was priced to yield 7.93 percent, said Bob McCorkle, Seattle Northwest Securities vice president.

The advancement came after the Federal Reserve took steps to make borrowing among its customers cheaper. McCorkle said he believes it still may be a while before the Fed cuts its benchmark discount rate again, but he said Democrats are using the sluggish economy to pressure President Bush.

Tax-exempt municipal bonds traded more narrowly, reported Judith Cochrane, Security Pacific first vice president. With forward supply at a relatively high $4 billion, the pressure on interest rates may not be as keen.

On portfolios: Here are percentage gains since the start of the year for two sets of stocks:

Readers' Portfolio (10 NW stocks preferred by readers) - Alaska Air +15.7 percent, Boeing +9.4, Costco +87.6, Immunex +31.5, Intermec +60.0, Microsoft +84.6, Nike +38.5, Nordstrom +61.8, QFC +64.6, Washington Federal S&L +44.1. Average: +49.8 percent. What $1,000 invested in those stocks would be today: $1,498.

Readers' Non-Portfolio (10 NW stocks picked randomly, excluding the readers' top 10) - Arctic Alaska Fisheries +66.7 percent, Bohemia +117.0, Data I/O +127.8, Hecla Mining +32.4, McCaw Cellular +68.1, Momentum Distribution -10.7, Plum Creek Timber L.P. +55.2, ProCyte +57.1, Puget Power +23.3, U.S. Bancorp +41.7. Average: +57.9 percent. What $1,000 invested in those stocks would be today: $1,579.

Wall Street Recap appears Sundays in the Business section.