(FORTUNE Magazine) – Logically enough, most successful income-oriented equity funds hold high-yield stocks. Things aren't so simple at the $1.1 billion Financial Industrial Income fund of Denver, managed by John Kaweske. He uses what he calls a barbell approach, balancing high-growth stocks that have rising dividends with a more defensive stock and bond portfolio. Over the past three years Kaweske, 50, has outmuscled every other equity-income fund tracked by Morningstar Inc., a Chicago rating service, to return an average of 20.55% annually (four percentage points more than Standard & Poor's 500-stock index). He often steals growth-stock ideas from another fund he runs, Financial Strategic Health Sciences. With an average annual return of 43.92%, it has the best three-year record of any fund. Kaweske recently explained his method and some recent stock picks to Fortune's Susan Kuhn.

How do you decide which stocks to put in your portfolio? My strategy is very eclectic. I'm not married to any one style. In the income fund, I always keep one-third of the assets in defensive securities, including convertible bonds, that I believe will outperform the market when stocks are falling. That leaves me free to go for aggressive growth in the remainder of the fund. Half of my total assets are split equally between the health care sector and financial services.

Aren't health care stocks going to come under increasing pressure? I think we have an interesting dilemma before us. Yes, we are seeing a tremendous attempt to rein in costs, but demand for good medicine is exploding. We know the U.S. population is aging: People 65 and over will probably represent about 17% of the total in the year 2020, up from 12% last year. But did you know that the growth will be greater overseas? In Japan and Germany, the percentage should rise from 12% and 15% respectively today to around 25% in 30 years. On average, those 65 and older spend five times as much on health care as younger people. Also, consumers are becoming increasingly aware of new medical breakthroughs, so demand for new products is growing. Altogether, health care spending, now 12% of GNP, is predicted to hit 15% in the year 2000.

Do you favor any special area of health care? No. I own the stocks of pharmaceutical, medical technology, biotechnology, hospital supply, and health care provider companies. I think Novo Nordisk is very interesting. This Danish company is the largest producer of insulin in the world, with a 43% share of the market. It is also the largest maker of industrial enzymes for use in detergents. At a recent price of $73, the American Depositary Receipts are trading at 16 times my 1991 earnings estimate of $4.40 per share. That is a 19% discount to the market. Most health care stocks sell at about a 15% premium. The stock is cheap because it is underfollowed. Over the next several years, I believe the company's earnings per share will grow 15% annually.

Have you bought any stocks that will benefit from the drive to cut health care costs? One way to contain costs is to reduce the amount of time people spend recovering in hospitals. Many patients who go home early still need to get food or drugs intravenously. The stocks of companies that provide this kind of therapy should do well. Also, many of the new biotechnology products coming out have to be taken intravenously. That's a whole new market for at-home care. I like HealthInfusion of Miami for this reason. The industry is growing 30% annually, and this company's earnings should rise 35% a year through 1994. The stock sold recently for $18. (For more on HealthInfusion, see Corporate Performance.)

What do you like in the financial sector? First Financial Management is a data-processing service not unlike General Motors' Electronic Data Systems. First Financial should grow its earnings from my estimate of $2.90 this year to $3.40 next. Another stock I like is Conseco, a life insurance holding company whose subsidiaries primarily sell annuities. It is a favorite of short sellers because it took on a lot of debt to finance growth by acquisition. But Conseco has no significant exposure to junk bonds or real estate, and we believe it is well managed. I think debt will be reduced significantly now as the business relies more on internal growth. At $43.50, the stock is cheap based on earnings estimates of $4.20 this year and $5.25 next.

Tell me about a safe, defensive bet. One of my unusual holdings is Kansas City Southern Industries. Half its profits are from financial services. I hate to recommend the competition here, but it owns Janus Capital, also in Denver, whose mutual funds have had explosive asset growth. The other half come from the Kansas City Southern railroad. In the next six to 12 months management may be able to reduce the size of its train crews from three or four men to just two, which would cut costs significantly. The stock is trading at 13.5 times my 1991 earnings estimate of $4.

CHART: NOT AVAILABLE CREDIT: FORTUNE CHART CAPTION: Novo Nordisk ADRs