Article

Keith,

The article I mentioned.

Vince

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rashed By Tax Selling

But are there bargains among the discards?

By Michael Santoli

Here it is more than six months since even the most
intransigent last-minute
filers wrote checks to the IRS to render to the government
its due for their
financial good fortune in 1999. By rights, this should be a
season relatively
free of concerns about taxes, notwithstanding the
presidential candidates'
parrying over whose tax-cut math features more fuzz.

And yet, for anyone with a dollar in the stock market
(which in recent weeks
has likely been reduced to loose change), the looming
demands of this year's
levies on capital gains have helped to make this month yet
another taxing
October for investors.

The jump-and-stumble course
the
major stock indexes have
taken this
year is being blamed for a
particularly intense effort
among
mutual-fund managers and
other big
investors to sell their
losers. The
steep ramp-up in stocks that
persisted from the fall of
1999
through the first quarter of
this year
-- led by the technology
must-haves -- left funds
with ripe
profit-taking opportunities
when the
Nasdaq surge flagged in
April. This
sell-high activity generated heavy capital gains in many
portfolios -- tax
liabilities that managers have been rushing to offset with
realized losses by
selling stocks that have cratered.

The fact that so many funds are enduring a flat-to-down
year in this difficult
market has only added to the urgency. Investors aren't fond
of getting stuck
with taxable distributions in even the most flush years of
a bull market. So
managers are now trading in fear of how their shareholders
will react to funds'
kicking off gains distributions in a year when the value of
their holdings fails to
appreciate or, worse, falls outright. With the majority of
funds operating on an
October 31 fiscal year end, and given a trend toward
letting investors know
their estimated tax hit well before year's end, much of
this selling has been
concentrated in a brief period of weeks.

One fund executive attending a Fidelity mutual-fund
conference last week
reported that, oddly, some managers have resolved to be
contrary and
"overdo it" in selling even their winners. The theory, he
reports, is that if
they're going to have a capital-gains distribution anyway,
the most skittish
shareholders will sell the fund to avoid the payout and its
tax liability, whether
it's, say, either 10% or 12% of net asset value. So the
idea is to take profits
and "reload" for the benefit of those investors who will
stick around.

Now, with the Nasdaq off 22.7% since Labor Day and 8% so
far in
October, much talk is bubbling about suggesting that the
assault is ending.
This line of reasoning counsels that it's time to peek out
of the foxhole and
survey the wreckage for some badly damaged stocks to pick
up in
expectation of a late-year rally.

Not so fast. While it's true that in past years, these
hard-hit tax-selling victims
tend to recover in the early part of November, the move
often proves fleeting.
Like a ball being held under water, these stocks jump when
the downward
pressure is released, but that doesn't mean they escape
gravity's pull for long.
Soon enough, they're hit by a secondary wave of selling by
investors who tidy
up their tax situation closer to the end of the year.

The quantitative equity research team at Lehman Brothers
has studied recent
market history in search of patterns in tax-driven selling.
In the process, the
analysts came up with a list of 131 stocks that look
vulnerable to persistent
weakness through most of the fourth quarter. The study
scanned the Russell
3000 index -- basically the 3,000 largest U.S. stocks --
for those that had
fallen at least 40% this year through September, and had
lost at least 10% in
the prior six months. They also plucked only those stocks
that had seen rising
trading volume over that period. The idea was to find only
those names that
seem to be in the throes of a selling crescendo. In 1997,
there were just eight
such stocks. In 1998, there were 202 and last year 101, on
a par with this
year's tired crop.

Murali Ramaswami of Lehman says, "There's both a tax-loss
story and a
momentum story. Losers continue to be losers." At least
through the fourth
quarter they do.

The negative momentum of these stocks
tends to
gather speed from the first week of
November to
Christmas. In this period, from 1997 through last year, the
Losers Portfolio
dropped an average of 20% more than did the Russell 3000
index.
Bottom-fishers, beware.

The resulting list, which Lehman billed to its
institutional clients as a menu for
hungry short-sellers, features numerous stocks caught in
the major downside
themes of the year. Name a major telecom-services provider
and the odds
are good it's in this bunch, the result of a stampede away
from the group. Big
retailers also dot the down-on-their-luck roster, as the
slowing economy has
ravaged shares of Circuit City, Dillards, Saks and others.
And of course there
are plenty of dot.com names experiencing the ugly side of a
mania undone, in
a reversal that has made some mere flyspecks on the
market's windshield.
Witness Barnesandnoble.com and Razorfish.

An intrepid prospector surveying this list in a quest for
next year's Comeback
Stock of the Year will encounter no shortage of companies
that appear, for
the moment, broken and in need of an inspired strategic
revamping, some
slick investor-relations work and plenty of luck. Former
blue chips such as
Lucent Technologies, Bausch & Lomb and Dial seem to fall
into that club,
where for investors a love of dirt-cheap stocks and a
strong backbone is the
price of admission. DuPont, which recently ratcheted down
its 2001 growth
forecast and is beset by high raw-materials costs, is
arguably apt to remain in
the investors' time-out chair for a while as well. That its
shares failed to sell off
after a limp earnings report last week is perhaps the most
hopeful sign one can
seize on with regard to the chemicals giant.

Still, for the investor patient enough to endure what could
be a stormy
November and December, a few sizable companies with
temporary problems
but solid long-term growth stories are attracting some fund
managers looking
to buy. As detailed in Barron's last week ("Retailers on
Sale," October 23),
there is reason to expect better performance from selected
retail chains.
Federated Department Stores, the parent of Macy's and
Bloomingdale's,
merits attention both for its buoyant same-store sales
growth in a retail
headwind and for its repair of the addled Fingerhut
catalogue division, which
suffered a spike in delinquencies. The shares are off their
trough levels in the
low 20s, but a recent quote of 28 still seems a
better-than-fair price for a
company that some pros believe could earn more than $5 a
share next year.

The advertising business this year is being given the cold
shoulder by investors
after a torrid love affair through 1999. Fearing that the
dot.com washout and
resultant cash drought would wither the bottom line of ad
firms, investors
abandoned Interpublic, the third-largest owner of ad
agencies after WPP and
Omnicom.

But Mark Greenberg, manager of the Invesco Leisure fund,
saw a chance to
pick up a "good, solid company" inexpensively when
Interpublic hit the low
30s. Now at 39, Interpublic is still fetching just 22 times
forecast 2001
earnings, which are expected to grow 15%, faster than
profits for the overall
market.

"I bought some early this year and added to it just
recently. The bad news is
probably priced into the stock, and then some," he says.

Madison Avenue markdown

Interpublic, parent of McCann Erickson, among other firms,
has always
suffered a bit in comparison with Omnicom, a market darling
considered the
class operator in the industry. But Interpublic now trades
at a discounted
valuation, and is briskly expanding its direct-marketing
and public-relations
business, which are growing faster than the traditional
Madison Avenue game.
Add in the fact that only a sliver of its business comes
from dot.coms and that
half its revenues are collected overseas, and Interpublic
appears well insulated
from crippling economic forces.

In a more prosaic corner of the ad business sits Valassis
Communications, a
big coupon distributor, which produces the colorful inserts
that fall out of your
Sunday paper. A well-loved growth stock that pleased many a
small and
mid-cap fund manager in 1999, Valassis this year ran into a
nettlesome
combination of higher paper prices and stiffer price
competition in one of its
insert categories. Investors bailed out in droves, halving
the stock from a high
above 44 to just north of 20. Now at 25, the shares are
"absurdly cheap,"
says Greenberg, who also owns Valassis.

Another fund manager points out that the company has taken
control of its
troubles, with hedged paper prices and a move to cut supply
in products
where pricing declined. Even with its growth forecast
revised downward,
Valassis is still expected to increase profits at a 10%-15%
long-term rate, and
earnings next year should rise close to 12%, to $2.50 a
share. That leaves the
stock at a mere 10 times next year's profits. And it's
worth noting that in times
of slower economic growth, coupons are among the things
that companies
continue to offer to bargain-hunters.

With a new wave of tax selling due to bear down on haggard
stocks any
week now, it might feel as if the typical first-quarter
rebound in the year's
losers that's been documented by Lehman Brothers is
hopelessly distant.

If you're tempted nonetheless to plunge ahead and buy a
beaten-down mutual
fund, check first to see if it will be among those making a
capital-gains
distribution later this year. In that case, you'll be on
the hook for the tax even
though you didn't participate in the gain. (You can take
the plunge without
worrying about payouts if you're buying the fund for a
tax-deferred account
such as a 401(k) or an IRA.)

But at least in selected stocks, it seems the machinations
of tax-fearing
investors have created the stock market equivalent of a
25%-off sale, and you
don't need to redeem a manufacturer's coupon to take
advantage.