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TheStreet

Three winning investment strategies fund managers use Add to ...

Just as some European countries combine capitalism and socialism – called the third way – investors would do well to find a new strategy that combines long-term and short-term trading strategies.

This year has been marked by big stock-market moves – in both directions, sometimes on a daily basis. Last week alone, the Dow Jones industrial average moved almost 200 points each day in both directions. Watching the ups and downs has been an emotional roller-coaster ride for investors. Unfortunately, the craziness isn’t going to end any time soon, with the European credit crisis far from being over, a sputtering U.S. economy, and emerging markets that are slowing.

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It’s a challenging time to invest when company fundamentals are ignored. If the standard buy-and-hold strategy isn’t working, and the shorter-term risk-on/risk-off far too risky, what type of strategy would?

The answer is one that addresses long-term needs by managing short-term unpredictability. Like most rewarding things in life, it’s not an easy strategy. It involves actively managing your portfolio and keeping on a steady course even when there’s bad news all around.

Most, not all, money managers TheStreet spoke with are cautiously optimistic about 2012. Even though the U.S. economy is grinding along, it isn’t getting worse. Still, professional investors are being selective on bets in the market.

The UBS Investment Research team says “the greatest opportunities are between groups of stocks that have been mispriced by recent gyrations. Companies with high foreign sales and more volatile names appear undervalued.”

Among attractive companies are those at historically low values hurt by events such as worries over Europe but with consistent avenues of growth. Cisco Systems is a good example, trading at only 11 times its earnings estimates. Shares of the company, which reports quarterly earnings this week, are down 10 per cent this year, even as revenue has risen for the past four quarters.

Along the same line, money managers prefer to invest in stocks with what is known as an accidental yield. That occurs when the stock price declines enough to produce a higher-than-normal dividend yield (annual dividend divided by the stock price). A decent dividend yield is considered to be 3 per cent to 5 per cent, a much better return than what you get investing in U.S. Treasuries. Household-cleaning-products company Clorox , which has a stable business model, currently has about a 3.5 per cent dividend yield.

Over the past three years, dividend-paying stocks have outperformed the S&P 500 by 15 percentage points.

For most of this year, defensive stocks have led the market. But over the past month, cyclical names took charge. UBS expects the outperformance by this group to continue, saying: “The energy and material sectors are most sensitive to shifts in the economy and markets. Additionally, we continue to see opportunities in tech, industrials and financials.”

So far this earnings season, the materials sector has reported the largest revenue surprise. On top of that, it’s also the cheapest sector. Industrials have also reported solid third-quarter earnings, with strong sales to agriculture, mining and car companies. Additionally, many companies, such as Ford and DuPont , are reporting accelerating growth in U.S. sales as international sales slow. Those cyclical sectors will be among the first to emerge from a global recession, representing a great investment opportunity.

All told, corporate fundamentals are starting to show signs of improvement, with around 70 per cent of the S&P 500 beating third-quarter earnings estimates. Employing some of the strategies listed above may mean better-than-average returns when the world economy rebounds. Nevertheless, stock investing is still far better than leaving your cash in a savings account.

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