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Last week, I attended Morningstar’s annual Investment Conference. Attended primarily by financial advisers, the conference is notable for both its size and its mutual fund focus (as many of the speakers work for mutual fund companies). This week, I’ll share some of my notes and observations. In future issues of the AAII Journal, there will be transcripts of interviews with managers of a top-performing large-cap fund and of a frontier markets fund.
While I can’t point to any prominent theme at the conference, one thing I did observe was the lack of discussion about either Greece or the Federal Reserve. Perhaps it was the sessions I attended, but I do not recall hearing much about either. The only monetary policy forecast I did hear was from two of PIMCO’s chief executives, Douglas Hodge and Daniel Ivascyn. They expect interest rates to “remain relatively range-bound.” Given the PIMCO’s prominence in the bond industry—even with Bill Gross’ departure last year—it was expected that Hodge and Ivascyn would have an opinion on the matter.
Jeremy Grantham of asset manager GMO made some headlines when he said that U.S. stocks are very overvalued based on his analysis of long-term valuation ratios. He does not think domestic stocks are at a “two-sigma [two standard deviation] bubble,” however. Once domestic stock valuations do cross over into this unusually high range, Grantham says a “trigger” will still be needed to pop it. He further added that no bubble has ever been broken "without excess buying from individuals.” When asked by a conference attendee how he’s allocating in the current environment, Grantham wittily replied, “With great difficulty.”
There was an interesting workshop on exchange-traded funds (ETFs). Right off the bat, the panelists could not agree on the naming terminology of smart beta funds. Some panelists stuck with the “smart beta” name, while Morningstar is using the moniker “strategic beta” to describe index funds that do not weight their holdings by market capitalization. Doug Yones of Vanguard pointed out that strategies that look good in backtests don’t always work well as actual funds—something to consider before allocating money to any ETF with a short trading history. Michael Arone of State Street Global Advisors followed up by pointing out the existence of only about a half dozen factors of stock returns shown to work over the long term: value, small size, momentum, yield and low volatility. As far as active ETFs, the panelists were in consensus about the industry still being in the “early days” of such funds. Jones noted the lack of comfort many active fund managers have with disclosing their holdings on a daily basis.
Speaking of active ETFs, I met separately with representatives of NextShares. They are attempting to launch hybrid ETFs. These will be actively managed like mutual funds, but can be bought and sold throughout the day like a stock. What’s unique about these funds is the lack of transparency: The funds’ managers will only have to disclose their holdings once per quarter, following similar rules as mutual funds. (Traditional ETFs reveal their holdings daily.) The net asset value for each fund will be set daily, after the close of trading like a mutual fund. The Securities and Exchange Commission (SEC) has given an exemption from the regulatory rules covering funds to NextShares and some mutual fund companies have signed on to the concept, but a launch date still remains uncertain.
Sallie Krawcheck (whose experience includes serving as CEO of Sanford Bernstein and CEO of Citi Global Wealth Management) asked the audience—which was predominantly male—to change how they interact with women. She claimed that it is quite common for widows to pull their money from their husbands’ long-term financial advisers and to put the money into bank accounts. The primary underlying theme to her presentation was that the financial services industry is too focused on reaching out to men and not doing enough to address to the needs of women. At a Q&A with the media afterward, I and one of the executive editors for a well-known personal financial magazine had no success in getting Krawcheck to give specifics about how she thinks the financial industry—and particularly the financial media—should reach out to women. Krawcheck did express her belief that women are more concerned with risk than outperforming the market. She also wants husbands to have a “courageous conversation” with their wives about where the couple’s money is invested and what will happen should the husband die first.
Fund managers Bill Nygren of Oakmark Funds and Steve Romick of First Pacific Advisors shared some of their insights about stock selection and asset allocation. Nygren believes many investors underestimate what a tough competitor passive (index) investing is. He thinks good managers have a process that allows them to continue to do well. Nygren also discussed the importance of a low valuation. My notes quote him as saying “a cheap price can solve a lot a problems, and an expensive price can create a lot of problems.” (You’ll hear more from Nygren in a forthcoming issue of the AAII Journal.) Romick described returns as not just being “driven by what you own, but also from what you don’t own…what you avoid.” Known for not being afraid to allocate to cash [his FPA Crescent Fund (FPACX) had a 38% allocation to cash at the end of the first quarter], Romick says he buys when he finds something attractive.
Neither viewed stocks as being expensive right now. Nygren thinks the tight distribution among current price-earnings ratios is discounting quality companies by limiting their premium over weaker companies. Romick followed up by saying that many assets are reasonably priced right now because of the low-interest-rate environment.
I’ll end with a few additional insights. A panel on retirement outcomes described target date funds as not being appropriate for anyone, but still good for preventing behavioral errors. (In other words, the allocation used by target date funds is a compromised solution, but they may prevent investors from making even worse allocation decisions.) A different panel on robo-advisers was in agreement that there are too many firms providing online advisory services. Given the number of companies and high business costs, they expect both a “shake out” and acquisitions to occur.
- What Exactly Do Online Investment Advisory Services Offer? – Earlier this year, Jaclyn McClellan took a close look at robo-advisers and the exact services they offer.
- Surviving a Loss: Smart Steps for Coping with Widowhood – Steps widows should take to ensure their financial security following the loss of a husband.
- How Involved Is Your Spouse in Your Investment Decisions? – Tell us on the AAII.com Discussion Boards.
Second-quarter earnings season will “officially” start on Wednesday when Alcoa (AA) reports. PepsiCo (PEP) and Walgreens Boots Alliance (WBA) will report on Thursday.
It will be a quiet week for monthly economic data. The ISM’s June non-manufacturing index will be released on Monday. Tuesday will feature May international trade and the May Job Openings and Labor Turnover Survey (JOLTS). The minutes from the June Federal Open Market Committee meeting will be released Wednesday.
Several Federal Reserve officials will make public appearances. San Francisco president John Williams will speak on Wednesday. Minneapolis president Narayana Kocherlakota and Federal Reserve governor Lael Brainard will speak on Thursday. Federal Reserve Chair Janet Yellen and Boston president Eric Rosengren will speak on Friday.
- Major Rule Change Made to the Model Shadow Stock Portfolio
- 16 Financial Ratios for Analyzing a Company’s Strengths and Weaknesses
- Being a Contrarian Means Thinking Differently
Pessimism rebounded strongly, reaching a new high for the year, in the latest AAII Sentiment Survey. At the same time bullish sentiment plunged back to an unusually low level, while neutral sentiment remained above 40%.
Bullish sentiment, expectations that stock prices will rise over the next six months, fell 12.9 percentage points to 22.6%, a three-week low. The large drop puts optimism at an unusually low level for the eighth time in nine weeks. This is also the 17th consecutive week with a bullish sentiment reading below its historical average of 39.0%.
Neutral sentiment, expectations that stock prices will stay essentially unchanged over the next six months, slipped 0.5 percentage points to 42.3%. Even with the modest decline, neutral sentiment remains above its historical average of 31.0% for the 26th consecutive week and at an unusually high level for a 13th consecutive week.
Bearish sentiment, expectations that stock prices will fall over the next six months, rebounded by 13.4 percentage points to 35.1%. The jump puts pessimism at its highest level since August 7, 2014 (38.2%). The historical average is 30.0%.
Even with this week’s jump, pessimism remains well within its typical historical range. Bearish sentiment was last at an unusually high level (above 40.1%) on August 22, 2013 (42.9%).
Monday’s large drop in the large-cap indexes occurred at the same time we sent out a weekly reminder email to take the survey. (We send out a reminder to a rotating group of AAII members each week.) The ongoing crisis in Greece is also having an impact, as can be seen in the responses to this week’s special question. This week’s events follow ongoing concerns some AAII members have had about the possibility of a bigger decline in stock prices occurring, the pace of economic growth, the lack of wage growth, valuations, the impact of the stronger dollar on earnings and geopolitical events. Keeping other AAII members encouraged are the ongoing bull market, sustained economic expansion, earnings growth and still-accommodative monetary policy.
The current 13-week streak of neutral sentiment readings at or above 40% is the longest since 1988. Neutral sentiment readings above 39.6% are unusually high (more than one standard deviation above average). As noted above, optimism is back at an unusually low level. Both such occurrences have typically been followed by better-than-average six- and 12-month returns for the S&P 500. For more information, see my May 21 AAII Investor Update, Unusually High Neutral Sentiment Often Followed by Good Returns. (There is no guarantee, however, that history will repeat.)
This week’s special question asked AAII members what they thought would most influence the direction of stock prices over the second of half this year. Responses were mixed, with many AAII members listing more than one factor or event. Nearly one out of every three respondents (32%) cited a potential change in U.S. monetary policy or a corresponding change in interest rates. Greece and the eurozone was a close second, named by about 28% of respondents. Nearly 15% of respondents said economic growth while more than 13% said corporate earnings.
Here is a sampling of the responses:
- “The Federal Reserve’s position on raising interest rates and global economic events.”
- “If/when the Fed tightens and the Greek situation.”
- “Earnings always seem to be the main driver.”
- “The improving economic outlook in the United States.”
- “Downturn in China, the Greece-euro crisis and unrest in the Middle East.”
Bullish: 22.6%, down 12.9 points
Neutral: 42.3%, down 0.5 points
Bearish: 35.1%, up 13.4 points
AAII Asset Allocation Survey
The June AAII Asset Allocation Survey reveals that individual investors increased their cash allocations for the third consecutive month. The rise in cash levels occurred as equity allocations fell to their lowest level since January.
Stock and stock fund allocations declined 0.5 percentage points to 67.2%. June tied January for having the smallest allocation to equities in 2015. Nonetheless, stock and stock fund allocations remained above their historical average of 60% for the 27th consecutive month.
Bond and bond fund allocations were unchanged at 15.5%. Technically bond fund allocations declined and bond allocations rose, but the changes were very minor. June was the second consecutive month with fixed-income allocations below their historical average of 16.0%.
Cash allocations edged up 0.5%, to 17.3%. This third consecutive monthly increase kept cash allocations at their highest level since October 2014 (18.7%). The increase was not large enough to keep cash allocations from being below their historical average of 24% for the 43rd consecutive month, however.
The rising level of cash corresponds with trends we’ve been seeing in our weekly Sentiment Survey. Neutral sentiment has been at an unusually high level for 12 consecutive weeks. Neutral sentiment’s record streak of consecutive weekly readings at or above 45% for 10 consecutive weeks lasted through much of last month. At the same time, many individual investors continue to be frustrated by the ongoing low-interest-rate environment.
June’s special question asked AAII members if any portion of their portfolio is allocated to alternative investments (something we do not track in our monthly survey). Almost half of all respondents (49%) said no, they do not hold any alternative investments. Some said they have no interest in owning them, while others suggested they needed to learn more about these types of investments before deciding to allocate to them. A small group of members asked us to define what counts as an alternative investment.
Slightly more than a third (35%) said they own alternative investments. Many described their allocations to “alts” as accounting for 10% or less of their total portfolio. Real estate was most common, with 15% of all respondents saying they had exposure to it either through real estate investment trusts (REITs) or via a direct ownership. One member has ownership in a vineyard.
Here is a sampling of the responses:
- “I do not and will not consider ‘alternative investments.’”
- “No, because I do not have enough information about ‘alternative investments’ for evaluation.”
- “Not much…I tried silver, gold, stamps, and convertible bonds; no returns are as good as stocks.”
- “Yes, about 8% to 10% of my portfolio is in ‘alternative investments.’”
- Stocks and Stock Funds: 67.2%, down 0. 5 percentage points
- Bonds and Bond Funds: 15.5%, unchanged
- Cash: 17.3%, up 0.5 percentage points
- Stock Funds: 33.5%, down 1.1 percentage points
- Stocks: 33.6%, up 0.6 percentage points
- Bond Funds: 11.8%, down 0.1 percentage points
- Bonds: 3.8%, up 0.1 percentage points
Take the Asset Allocation Survey.
Local Chapter Meetings
June 25, 2015 I’m Creating a New Stock Strategy
June 18, 2015 401(K) Plan Outflows Exceed Contributions as Baby Boomers Retire
June 11, 2015 Apple Is Separating Your Mind From Your Wallet
June 4, 2015 Signs of a Sequel Playing Out for the Bond Market