Monday, February 10, 2014

Themes for 2014: Comments on WORTH Magazine Article

Fyi….an investor asked for my thoughts on the themes mentioned in an article in WORTH Magazine. .
Below you'll find parts of the discussion and views on each point raised in the article, in turn.  Many global issues are addressed and currently form the backdrop into which our investment strategies are positioned.  But please note:  As always, the comments expressed here are for informational and entertainment purposes only and are not meant to be investment advice in any way!


Regarding the WORTH article “5 Key Investment Themes for 2014”, my opinion on each in turn:

“Emphasize stocks, especially non-US stocks, over bonds”:  I agree re overweighting stocks.  I disagree about not abandoning bonds.  I’m out of bonds and expect to stay that way for a while.  I also agree that int’l equities are looking better on a relative value basis vs US equities, but I still think that EM and other int’l markets need to show some signs of stability before I’d allocate heavily directly into that space.  As you know, I’ve chosen the more defensive approach to int’l exposure by owning large, multi-national US companies (or select Europeans, like Unilever (UN)) that have been substantial footprints in global markets.

“Complement core bond holdings with a multi-sector approach”:  I don’t like this whole section!  The comments about Tsys and investment grade bonds softening the blow should equities blow up hasn’t really shown itself to work very well.  Yes, historically, over longer periods of time, bonds were viewed as hedges for equities, but as I pointed out in a missive some time ago, the relationship is not rock solid and when it doesn’t work, then you’re hurt both in stocks and in bonds!  Cash is not a bad thing to own when you expect equities to face near- and mid-term headwinds, in an environment of generally rising interest rates (as we expect in the US, possibly soon in the UK, and in many EM countries that are using higher rates to defend their currencies and to fight inflation).  As for floating rate debt, while that might be good when rates finally do rise, at the moment, what’s the yield?  (I suspect asymptotically approaching zero!).  High yield bonds?  My correlation work shows that they often act like equities, so what kind of fixed income hedge would that be for a falling equity market?!  Distressed debt?  Maybe. But this space is very situation specific, real ‘alpha’.  If you have a distressed situation that you think could turn around even in a troubled global economy, then that is true alpha and uncorrelated w/other assets.  As for ‘hedge funds’, I believe that market commentators are too flip when bunching ‘hedge funds’ into  ‘alternative’ assets.  As you and I both know, saying ‘invest in a hedge fund’ is like saying ‘eat a restaurant’!  Each has its own menu, its own chef, its own prices, its own expertise, its own specific asset class or strategy of focus.  Bottom line, if you expect inflation, then I would not own bonds. I would select stocks that could benefit from a rising price environment.  And I’d add select commodity exposure, either directly, or as I’ve done, through companies that would benefit from higher commodity prices.

“Follow Europe out of its Dark Ages”:  on this we agree, though I’d be very selective and would not go too boldly into a region that is saddled still with suffocatingly high levels of debt and tragically high levels of unemployment, with a set of peripheral nations, though in less bad shape now than in recent past, are still time bombs ready to blow!  The “summer-2012-Draghi-I’ll save the Euro at all costs” effect is still helping Europe stabilize.  And each day that goes by when countries like Spain and Italy can enjoy 10yr yields below 4% is a day in the right direction.  But budget deficits are still a problem, and with this past year’s run-up in the Euro, global competitiveness is challenged.

“Emerging markets will re-emerge”:  I agree.  I do think that much of the timing of this depends on China and its effectiveness in rolling out the reforms that were outlined in late 2013 at their last Communist Party Plenum.  On this, I’m optimistic.  Also, for the past few years, I have focused on the Emerging Markets infrastructure build-up, investing in companies related to that effort, such as construction, machinery and other business services.  I’ve switched the central focus to one that will capture a growing middle-class in Emerging Market countries, who will likely have more and more discretionary spending habits over time.  Again, I’d tread carefully in terms of direct EM exposure at this time.  Many of the countries are experiencing great amounts of stress as Fed tapering has sparked capital flight out of EM, which has hurt their currencies, which in turn, has led many of the EM central banks to engage in counter-cyclical policies of raising rates in order to defend their currencies and to fight inflation.  There are many large multi-national US companies that have over 50% of their business in global markets.  I’d focus there first, and only slowly add to direct EM exposure.

“Global synchronized growth could be 2014’s big surprise”:  I think this is correct.  As I mentioned, I think China holds the key.  Success on their reforms will have a much larger domino effect on global markets than if the US GDP inches up. Europe too is important to watch.  Stability needs to reign there, or else we’ll have turbulence and fears of a global financial crisis.  Finally, the article only mentions ‘geopolitical events’ almost as a ‘by-the-way’.  I think geopolitical events could be pivotal.  If we have a major oil supply disruption from the tumult in the Middle East, that will especially impact Europe, China and Japan.  If we have any form of rogue sovereign action, such as North Korea striking South Korea, global markets will be unraveled.  I think the US holds one big geopolitical event this year, being the mid-term elections.  A big shift in either direction in terms of either house of Congress could have serious market impact.

Please let me know if you have any questions and if you’d like to hear more specifics about holdings and how they fit in with these global views.

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(Please note: This article is solely meant to be thought provoking and is not in any way meant to be personal investment advice. Each investor is obligated to opine and decide for themselves as to the appropriateness of anything said in this article to their unique financial profile, risk tolerances and portfolio goals).
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