There are always ways to improve a model, but I really don't believe that the management would tell me anything different from their posted numbers. Company managers tend to be optimistically biased. Our process has the advantage of not having to sift through the optimistic bias that fundamental type of funds have to.

Q:  Let’s say we are the first quarter of 2000 and you are running your back testing. What would your model indicate?

A: I don't believe that there is any quantitative or fundamental model that could have predicted such a dramatic change in the market. In that first quarter of the market decline, we did trail the market. However, our stocks didn't go down as much because we still had solid companies in the portfolio. Also, when the market changed its focus, our stock selection model for the following quarter changed its focus and we started selling a lot of technology stocks and buying other types of stocks, such as healthcare and energy.

That is how our model adjusts. It will trail the benchmark in a quarter when the market absolutely turns on a dime and goes the other way. But over longer periods of time, typically there are protracted trends. When trends that continue for several quarters, our performance relative to the peer group and the benchmark tends to be significantly better.

Q:  Could you describe your sell discipline?

A: Many people can find stocks that can go up, but the trick is to know when to sell a stock. We came up with an effective sell discipline which is based on our buy discipline. In order for a stock to be sold, all it has to do is fail one of the three steps of our process. If it drops out of the high rankings of the risk/reward ratios, it is sold. If its fundamental characteristics start to deteriorate, it is sold. It is sold or trimmed back if it experiences extensive risk relative to the other stocks in the portfolio. Often we sell good stocks to buy better stocks.

Q:  What is the average stock holding period?

A: It varies. Our average turnover is 160%. During periods when the market is more focused and has a discernible trend, our portfolio turnover ratio will drop. Last year it was 96% as rated by Morningstar, normally it is about 125 – 150 percent.

A lot of people have the common misconception that high turnover means poor tax efficiency. Our turnover typically comes from short-term losses, so at the end of the year, after having a positive year, it is possible to have short-term losses combined with long-term gains.

The tax-efficiency is generally a byproduct of our process. However, we check if a stock is ranked as a sell and if we have a gain on it and the stock is a couple of weeks of becoming a longterm gain, we'll move on to capture that moment.

Q:  Could you give us an example of stock selections that worked out and such that didn't work out?

A: One of our longest-term holdings has worked really well for us. It is Coach, the maker of purses, handbags, etc, and they are branching out in other areas. Over an extended period of time, they have been able to produce high alpha with a reasonable volatility level. Coach is not the highest-ranking stock, but it has managed to stay in the portfolio for the longest time.

This is a company that continues to grow, increase its sales and manage margins. We have held the company since 2002 and their revenue growth at that time was 16.8%. Two years later it was 38.6%. Back in 2002, net margin was 11.9%, while for the 12 months ended December 2004, net margin was 21.3%. The significant increase in their sales and their margins obviously results in earnings per share growth. As of Dec 2004, their EPS growth was 16%.

This shows how a company gets into our model. If it produces the type of fundamental characteristics and the risk-adjusted market characteristics we are looking for, they can stay in our model for quite some time.

Q:  What do you do when a company like Coach falls significantly?

A: All throughout the holding period of Coach, we have trimmed it back from a heavier weight. Despite the fact that the company has pulled back significantly over the near term, so has the market. When we measure our alpha and our quantitative factors, they are all relative to the market.

Q:  What is your viewpoint on holding cash?

A : We want to keep as little amount of cash on hand as possible. In the long run markets go up, so any amount of cash in the portfolio would cause cash drag. We keep some cash to meet the liquidity requirements, and if there is a unique investment opportunity. We typically keep 5 percent or less in cash.