my present market quandary
I’ve been really scratching my head about the US stock market over the past few weeks. Stocks have been going down all month, which is never pleasant. But what has struck me is how negative the tone of most commentators has been. Expert after expert (maybe I should put that word in quotes) appears in the financial press, or on radio or TV to deliver an unremittingly negative message. The factual or theoretical starting points may differ, but the conclusion is the same–stocks have no chance of going up (because the economy will fall back into recession, or because earnings won’t come through as strong as anticipated, or…) and stand a good chance of continuing to decline.
The negative message is not the issue–it’s better to find out you’re wrong before the bottom drops out of your portfolio, no matter what the source or how damaging to your ego. Invariably, the expert makes some totally insipid comment about stocks that suggests that he/she has no practical knowledge or experience in the equity market, and no particular desire to get any.
If you’ve been reading this blog for a while, you probably know my positive stance on stocks is based on several ground-level assumptsions:
–a large portion, maybe 50%, of the earnings of S&P 500 companies comes from foreign economies, virtually all of which are faring better than the US,
–of the US portion, maybe half is exposed to the overall economy. That’s trouble. But the other half is either focussed on servicing corporations, whose profits are booming, or the 90% of the American workforce still employed. Since the top 5% of wage earners do about a third of all discretionary purchasing, and the top 20% a bit less than two-thirds, the second half should have pretty solid profit underpinnings.
–S&P profits will be up in 2011, maybe by 10%. This would imply an index level of 1300+ sometime next year. Before 2010 is over, Wall Street will begin to discount this possibility.
My case, then, depends on investors believing that, say, three-quarters of S&P earnings and perhaps a larger part of its profit growth, are not closely tied to US nominal GDP. While 10%- unemployment is a terrible social problem, it will not prevent most US publicly traded companies from posting earnings increases.
I can’t find any recent evidence in communications media or in brokerage research that anyone else believes this. So I keep thinking to myself that in the land of the blind, the one-eyed man isn’t king, he’s must a guy with a bad sense of hearing. Or, if the game is backgammon but you think it’s checkers, you’re not going to win many games.
who Bill Miller is
Then I read an article in yesterday’s Financial Times by veteran portfolio manager Bill MIller. Who is Mr. Miller? –the chief investment officer for Legg Mason, and the manager who became famous a few years ago for beating the S&P 500 every year for over a decade. Although Mr. Mill has caught my eye for making extra-large, and very successful bets on internet stocks like Amazon, he bills himself as a value investor.
what he said
His point about stocks shows his value roots:
US stocks have underperformed US bonds for over twenty years. They’re now the cheapest they’ve been vs. bonds since 1951, almost sixty years ago. Even better, you can’t find a soul who has a good word to say about them. To Mr. Miller, stocks today are in the same position that bonds were in the early Volcker years–despised, misunderstood, and about to begin a huge run of outperformance.
When might that run begin? No one knows, but when it starts it will be something to behold. (Value investors typically believe that can get a good handle on what is likely to happen, but not on the when.)
The article, which is Legg Mason’s July letter to holders of its Value Fund with some stuff edited out, is worth reading, in my opinion. You can get the edited version by clicking the link above, or you can get the entire thing from the Legg Mason website.
a Pimco joke deleted?
I was amused to see that one of the sections the FT deleted was an apparent jibe at Bill Gross, another modern legend, who built the Pimco bond business. Miller’s points out that while Gross is talking down global economic prospects as part of building his positive case for bonds, he is quietly starting an equity business for Pimco. He seems to be saying that one should watch what people do, not what they say.
I was cheered up by realizing that in true value style, the MIller argument is all forest and no trees. It’s simple. Stocks are really cheap, so you should buy them and not worry about what happens in the next six months or so.
Bill’s recent investment performance–whoops
As one final matter, I figured I should report on the Legg Mason Value Fund’s recent record. So I clicked onto that section of the Legg Mason site.
The picture isn’t pretty, to my eyes. It appears that Mr. MIller followed his stunning streak (more on this topic in a couple of days) with a deep three-year slump in 2006-08. My guess, based admittedly on almost nothing, is that his fondness for financials did him in. After an above-average 2009, the Value Fund is underperforming again in 2010. The net result is that for almost any period over the last ten years, the fund lags the S&P.
It would have made a better story if Mr. Miller had returned to his old winning ways. It would also have been easier to figure out how to take the article/shareholder letter he published.
I have three reactions:
–would I give Mr. Miller my money to manage? No.
–do I think he has a good point? Yes.
–does he help solve my worry that I may be out of step with everyone else because I’m wrong, not because I’m ahead of the curve? No.
I’m not exactly back where I started, though. I have another good reason for thinking that stocks may do well. Yesterday’s sharp rise in the S&P, while gratifying to any holder of stocks, also makes me scratch my head a bit. All of the information that seems to have triggered the rally–ISM factory data and employers’ difficulty in finding workers to hire–was already available to the market for some time, both in reports from international transport companies and in bureau of Labor Statistics data (see my recent post on this topic).
Maybe we’ll get more clarity after Labor Day.