Private Screening: searching hot sectors for big gains.

TIAA-CREF's Martin hunts for big players in growth industries.

Pity the working portfolio manager. He or she is [doomed to butt heads with a two-headed demon. The first is the relentless Standard & Poor's 500 index, used to measure every year's performance. And, for an encore, the manager's competition and primary nemesis is none other than the index fund, a pesky rival that not only tracks the S&P 500, but has regularly trounced the returns posted by about 75% of the mutual funds over the past few years.

What's a bete noire for most professional investors has so far posed little problem for Carlton Martin, the Jamaican-born portfolio manager of TIAA-CREF's new Growth & Income Fund (800-223-1200; www.tiaa-cref.org). That's because New York-based TIAA-CREF, long noted for grow mg teachers' pension funds, last year launched Martin's and four other mutual funds with a strategic twist: a combination of an enhanced index portfolio with a jolt added from a group of select stocks. By that reasoning, the funds could keep fairly close tabs on the market's performance while beating the S&P 500 index whenever possible.

Since the fund's inception last September, Martin and company have delivered. At press time, it had posted a total return of 29.18%, compared to 27.72% for the S&P 500. Through the first half of this year, the fund logged a 19.19% total return, compared to 17.71% for the S&P 500, and far beyond the 11.62% average for mutual funds in the same category, according to Lipper Analytical Services.

As you might guess, the combo fund requires a dual investment approach. In general, roughly half of the Growth & Income Fund is managed by a team of quantitative analysts, or "quants," as they're called in the industry. Their job is to gauge the fluctuations of the S&P 500. Then, by sophisticated mathematical magic, quants park fund assets in many of the index's stocks, at the same time exchanging a few of the shares for companies that stand a good chance of adding a boost to the portfolio. The other 50% of the fund, the portion Martin actively manages, is sent looking for inviting stock opportunities that will juice up Growth & Income's overall return.

The job of providing a little extra octane to the fund's return invariably draws Martin to industry sectors he feels have the oomph to keep ahead of the market overall. That doesn't automatically mean he's carrying a bushel of glamorous technology stocks. "Because of problems in Asian markets and the fact that sub-$1,000 personal computers are squeezing profit margins, we're staying away from the traditional semiconductor or computer stocks for right now," he says.

Instead, Martin's currently gravitating toward both telecommunications companies and telecom equipment makers, where recent legislation has opened up a free-for-all in local markets. Other favorites include pharmaceutical companies, although Martin says a run-up in prices of companies like Pfizer (NYSE: PFE) over the past year makes him a bit cautious.

Within industry groups, Martin likes front-runners. "I'm looking for the No. 1, 2 or 3 company in the industry, and preferably one with a proprietary technology or approach that's under no threat internally or externally," he says. Like most portfolio managers, he's crunching numbers and grinding out multiples and ratios. Martin subscribes to a growth investment style with a tinge of value points added in. Martin says his primary focus is on cash flow and revenue growth on the order of at least 8%- 10% annually. He keeps the portfolio's average price-to-earnings (P/E) multiple, currently 22.4 times projected 1998 earnings, close to the S&P 500's 21.3. Average five-year earnings growth, meanwhile, is almost identical, at 14.5%.

One sure way the Growth & Income Fund stands apart from the competition is by virtue of its frugality. By looking to hold stocks as long as possible, and by having a large part of the fund's overall portfolio anchored in the index, Martin's fund has sheared its expense ratio (costs relative to assets) to a wee 0.43%. That's a rate industry experts normally attribute to index funds, and a far cry from the 1.20% the average fund racks up.

If there's one stock Martin's high on, it's Nokia (NYSE: NOK.A), the Finnish maker of cellular phone equipment and infrastructure. "They're clearly the class of the field," he says. "The company is cutting edge and more focused than rivals like Motorola." Martin sees Nokia "conservatively" growing earnings at a 15%-20% average annual clip.

Lucent (NYSE: LU) is another favorite. Martin says the company dominates the telecommunications equipment industry. "Lucent has so many facets, it has truly become the one-stop shop for telephone companies when they want to improve infrastructure."

While pharmaceutical stocks have become expensive over the last year, Martin says DuPont (NYSE: DD) remains a way to get in on industry growth at something of a discount. By undergoing a complete transformation, the company is focusing on the pharmaceutical and biotech industries, what Martin calls "value-added chemistry. Here's a company that at a P/E of 20 is trading at a 10% discount to the S&P 500 but could conceivably move to a 20% premium in the future."

WorldCom's (Nasdaq: WCOM) aggressive CEO, Bernie Ebbers, has also caught Martin's eye. "Here's a company that's shaping up a sleepy industry," he says.

His final pick, AT&T (NYSE: T), might come as something of a surprise, but deals like Ma Bell's proposed merger with cable television giant TCI show a change of corporate culture, Martin says. "AT&T won't suffer much downside at this point, and it really boils down to an execution story--if management can get more aggressive in local markets and build on the strength of its franchise, these shares will go up," he points out. "This company is no longer your grandfather's Buick."

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                                                 Est.5-Yr.
                                                 Annual
Company    Exchange: Symbol   Current Price(*)   Growth      P/E

Nokia      NYSE: NOK.A        $90.50             20%         24
Lucent     NYSE: LU            94.38             21          40
AT&T       NYSE: T             60.00             12          20
WorldCom   Nasdaq: WCOM        55.06             30          26
DuPont     NYSE: DD            66.13             11          20

(*) As of 7/27/98