Funds' Hot Streak Could Be Cooling

Daftary is now seeking bargain growth stocks across all sectors. "We needed to diversify and not take such big sector bets, which is what hurt us last year," he says. "So we're more diversified now into more kinds of stocks. I'm looking for more defensive companies, where we think they can grow their earnings across the economic cycle."

In particular, he's looking for companies using the GARP approach, or "growth at a reasonable price." This is the strategy of investing in companies that have growth potential and are relative bargains.

"When the economy slows, we try to buy companies with great free cash flow," he says. His biggest holdings now are defense contractors General Dynamics (GD Quote) and Lockheed-Martin (LMT Quote), hospital giant United HealthCare (UNH Quote) and General Electric (GE Quote). In total, stocks related to the health care industry now make up 12% of his portfolio. He also likes Rupert Murdoch's News Corp. (NWS Quote), which he calls "a back way to play the Internet" because of its stake in MySpace.

"We've got a balanced portfolio because we just don't know where the winners are," Daftary says. One big growth story he sees for 2007 is in the biotech industry. He says the sector was neglected last year because money flowed out of growth funds and into value. "These stocks look so inexpensive," he says. "People have ignored them."

His favorite biotech stocks include Amgen (AMGN Quote) and Wyeth(WYE Quote). "Suddenly people are waking up to the fact that Amgen is going to create $18 billion in free cash flow over the next few years," he argues.

In retrospect, Daftary admits he got drawn into riding the commodities boom for so long that it started taking over strategy, and hopes to learn from his mistakes. "Last year was disappointing for me," he says. "We stepped out of our level of competence, and we're going back to what we do best: We're stock-pickers."