Six Stocks Activists May Rock in 2006

This column was originally published on RealMoney on Jan. 19 at 1:00 p.m. EST. It's being republished as a bonus for TheStreet.com readers.

Not many strategies worked last year. Many tried and true hedge fund tricks failed miserably. Convertible arbitrage was down more than 5% on most of the hedge fund indices, and merger arbitrage was flat. What worked was picking stocks that were down and out but had potential, and rocking the boat until an entrenched management turned around.

Naysayers can point to individual cases like Time Warner (TWX) and say, "That stock has gone nowhere, so activism doesn't work," but it's best to look at the funds that are doing this type of investing and see how they've performed as a group. (Fortunately, there is no index following this group, so it hasn't been inundated with dollars to the point at which it becomes a useless strategy.)

Jolly Roger, which had activist plays over the past year in Walter Industries (WLT), Cornell Companies (CRN), Cutter & Buck (CBUK) and GenCorp (GY), rose 20% in 2005, with a 5.9% gain in November and a flat December. It logged a 30% return in 2004, and 41% in 2003.

Barington Capital, run by Jim Mitaronda, is coming off of a successful multiyear battle with privately held Register.com, and recently started to tangle with Pep Boys(PBY). Barington gained 14.9% in 2005. Interestingly, in the bear market years (2000-02), Barington posted gains of 10%, 50% and 13%, respectively. Activism appears to be uncorrelated with the broader large-cap indices.

Jana Partners, an activist fund whose dealings with Sitel(SWW) I recently wrote about in my Internet Review newsletter, was up 11.4% in 2005. From 2001 to 2004, it respectively logged yearly returns of 27%, 10%, 45% and 26%. Not so bad. None of these guys are making big macro bets on the markets. That's never been the way to make a lot of money (compare with John Henry, who does make such bets, and who is coming off of a 60% drawdown this year). What these guys do is find hard-luck stocks that haven't performed to their potential, and then they try to unlock it.