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Financial Funds Come Bouncing Back

A relatively steady choice is Hennessy Small Cap Financial. Portfolio manager David Ellison can hold cash when markets collapse. A big cash stake helped him limit losses in the financial crisis. During the past 15 years, the fund returned 7.8% annually, ranking as the top performer in the category.

A Hennessy holding is Flagstar Bancorp (FBC), a Michigan institution that was saddled with nonperforming loans during the financial crisis. Ellison says the balance sheet is improving as housing markets recover. The stock sells for around $19, a cheap price for a company that should earn $4 a share in the next year, Ellison says.

Another holding is Encore Capital (ECPG), a debt collector. Ellison says the company buys unpaid debts from credit card operators, often paying 3 cents on the dollar.

Encore aims to earn healthy profits by contacting debtors and collecting 5 cents on the dollar or more. Ellison says that he has owned the stock a number of times over the years. He likes to buy when the shares are depressed because the economy is weak and borrowers are struggling to pay debts. He aims to hold as unemployment falls, and collection rates improve.

Akre Focus can hold stocks of all sectors, but the fund currently has 46% of assets in financials. Portfolio manager Chuck Akre looks for companies that can deliver high returns on equity for years. He aims to buy when the shares sell at modest prices. His high-quality strategy has been working lately. During the past three years, the fund returned 16.6% annually, outdoing 95% of competitors in the mid-cap growth category.

A holding is MasterCard (MA), which has rich profit margins of more than 30%. The company charges banks fees for facilitating transactions at millions of locations around the world. Because of its dominant position, MasterCard can continue increasing profits, says Akre.

"The economic characteristics of the business are almost without peer," he says.

Another holding is Moody's (MCO), the credit rater. The company's reputation suffered in the financial crisis when many top-rated mortgage securities collapsed. But Moody's maintains its dominant position, supplying ratings for issuers who want to sell bonds.

Akre says that many investors will not buy bonds without ratings. He says that Moody's should continue enjoying solid growth.

"The world will need to raise an increasing amount of debt," he says.

At the time of publication the author held no positions in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

Stan Luxenberg is a freelance writer specializing in mutual funds and investing. He was executive editor of Individual Investor magazine.
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