When Warren Buffett offers investment advice, it pays to listen. The same is true of David Swensen -- arguably the world's second-best investor. In Swensen's Pioneering Portfolio Management, he discusses the qualities he looks for in a portfolio manager.

If you own mutual funds or are looking to buy one, you'll want to hear what Swensen has to say.

Yale's alchemist
David Swensen oversees Yale's endowment, which has grown to more than $22 billion during his nearly 20-year tenure. During that period, he has delivered annualized returns of 16.3%, which is the highest amount among major university endowments over the past two decades. With a record like that, it shouldn't be surprising that some folks have wondered if Swensen might be a possible successor to Buffett when he retires from Berkshire Hathaway.

Finding the right investment managers has been crucial to his success at Yale. He notes that "selecting the right people to manage assets poses the single biggest challenge to fiduciaries, since the integrity, intelligence, and energy with which the outside adviser approaches investing influence portfolio outcomes in the most fundamental manner."

Swensen subjects his investment managers to an exhaustive due-diligence process that involves both qualitative and quantitative evaluations. Throughout the intensive process, he looks for energetic, intelligent, and ethical professionals. Ultimately, he has learned that great investors work harder than their peers, "continuing to labor long after rational professionals would have concluded a job well done."

It's run by what's-his-name
When you consider the amount of time and attention that Swensen devotes to picking his investment managers, it's alarming to think that some investors don't even know who manages their funds. Ultimately, a fund is only as good as the manager who runs it, and Swensen recommends that you should feel completely confident in that person's ability to outperform the market.

If you don't feel he or she has a compelling strategy to beat the market, then you should put your money in an index fund.

How does Oakmark shape up?
I recently applied Swensen's advice to a fund that I've had my eye on. The fund is Oakmark Select I (OAKLX), and it's run by Bill Nygren and Henry Berghoef. Nygren has more than 25 years of investment experience, and has managed this fund since inception back in 1996. From my research on Nygren (our Champion Funds newsletter service has two fine interviews with him), he certainly appears to be a manager of great skill and integrity. I also like the fact that the fund pursues a focused strategy, as the table below indicates:

Oakmark Select I top 10 holdings


% of Net Assets

Washington Mutual (NYSE:WM)


Yum! Brands (NYSE:YUM)


McDonald's (NYSE:MCD)


H&R Block (NYSE:HRB)


Discovery Holding Company


Time Warner (NYSE:TWX)


IMS Health




Liberty Interactive


Viacom (NYSE:VIA.B)


Data from Morningstar; current as of 9/30/07.

As you can see, each of the top 10 holdings accounts for a relatively large percentage of net assets. That's not surprising -- the fund is currently only invested in 20 equity positions overall, far less than the typical fund.

This focus, it seems to me, improves the likelihood of outperformance, though it also involves additional volatility risk. The value approach that Nygren takes -- a strategy that Swensen finds very compelling -- makes it all the more attractive.

This above all ...
For mutual fund investors, identifying great investment managers is the first and most important step to finding the right fund. Swensen's skill in this area is evident when you look at his performance.

Our Champion Funds investment service takes a similar approach to identifying top managers, and it's been able to outperform the market by 17 percentage points since its debut back in April 2004. To see the funds and asset-allocation strategies we're recommending today, click here to try the service free for 30 days.

John Reeves does not own share in any of the companies mentioned in this article. Washington Mutual is an Income Investor recommendation. Time Warner is a Stock Advisor selection. Intel is an Inside Value pick. The Motley Fool has a disclosure policy.