{"id":319,"date":"2012-12-22T21:41:41","date_gmt":"2012-12-22T21:41:41","guid":{"rendered":"http:\/\/www.wallstreetandkstreet.com\/?p=319"},"modified":"2012-12-30T04:15:37","modified_gmt":"2012-12-30T04:15:37","slug":"s-a-c-stock-avoidance-syndrome-is-supporting-the-stealth-bull-market","status":"publish","type":"post","link":"https:\/\/www.wallstreetandkstreet.com\/?p=319","title":{"rendered":"Stock Avoidance Syndrome: Positive for Disciplined Individual Investors"},"content":{"rendered":"

100% in Equities?<\/strong><\/p>\n

In February 2012 one of the very few Wall Street executives whose stature actually increased during the financial crisis, Blackrock CEO Larry Fink, told Bloomberg why he liked stocks:<\/p>\n

“I have been pretty consistent on this since last August. \u00a0I would be 100% in equities. \u00a0\u00a0I think Chairman Bernanke is telling you I am going to keep bonds down so low you can\u2019t make a return that\u2019s going to meet your needs owning bonds.\u00a0 It is not that bonds are bad.\u00a0 Bonds are priced so high that the return on bonds is just so minimal.\u00a0 I don\u2019t have a view the world is going to fall apart.\u00a0 You need to take on more risk, you have to overcome all this noise, and there are great values in equities.\u00a0 Equities are at a 20 or 30 year low in valuation.\u00a0 When you look at dividend returns on equities versus bond yields, to me it is a pretty easy decision to be heavily in equities.”<\/p>\n

Scared Stockless<\/strong><\/p>\n

We agree with Larry and would add that, in addition to attractive valuations, stocks\u2019 fundamentals have rarely been better.\u00a0 Companies are efficient, shareholder friendly, and uncommonly disciplined in their use of capital.\u00a0 Nevertheless we expect the Stock Avoidance Syndrome to continue.<\/b>\u00a0 Investors have been so traumatized by recent bear markets, ongoing turmoil in Washington, and Federal Reserve over-reach that they are not going to quickly rotate from bonds into stocks.\u00a0 Over the past three years investors pulled $291 billion out of equity funds and invested $476 billion in bond funds.\u00a0 In the past two years there were only five months with positive flows into stock funds and two months with negative flows out of bond funds.<\/p>\n

This is not a case of Main Street ignoring the sage advice of Wall Street.\u00a0 Unlike Mr. Fink, Street strategists are still sufficiently risk averse that they are willing to accept the \u201cminimal\u201d returns available in the bond market.\u00a0 Goldman Sachs is telling clients of its private bank to have 54.5% of their money in bonds, just 25% in stocks, and 20.5% in a range of \u201calternative investments\u201d including hedge funds, private equity, and real estate.\u00a0 Another major wealth management company is similarly cautious on stocks, recommending that wealthy individuals put 44% in stocks, 37% in bonds, 17% in alternative investments, and 2% in cash.<\/p>\n

Alternative Alternatives<\/strong><\/p>\n

Aside from risk aversion, a second reason why investors are not following Larry Fink toward \u201c100% equities\u201d is that the alternative is not just bonds; they can also buy a panoply of \u201calternative\u201d investments such as hedge funds and private equity.\u00a0 Portfolio managers can strive for equity-like returns without touching publicly traded stocks.\u00a0 Consider the endowments of Princeton, Harvard, and Yale, which tend to be \u201cthought leaders\u201d in the non-profit world (see tables).\u00a0 They agree with Larry that bonds are overpriced and have on average just 5.9% of assets in fixed income.\u00a0 But their allocation to stocks is also pretty limited, averaging just 21.6%: 16.3% for Princeton (including 7.3% in domestic equity), 33% for Harvard (11% domestic), and 15.7% for Yale (6.7% domestic).\u00a0 Even though these folks hate bonds, only 8% of their assets are in domestic equity.\u00a0 Their big bet is on alternative assets, which claim 72% of total assets, on average.<\/p>\n

Individual investors are following the Ivy League money into these \u201calternative investments,\u201d but will they really deliver attractive returns as money pours in?\u00a0 We\u2019re skeptical.\u00a0 According to Merrill Lynch, hedge fund assets have climbed from $539 billion in 2001 to $2 trillion in 2011.\u00a0 Most of it is in market-neutral strategies (long \/ short equity, macro, risk arb, etc.) to capture market inefficiencies, but the flood of money chasing these strategies will reduce returns. Wall Street research is increasingly focused on short-term events; unlike in the 1990s, there are fewer lumbering \u201clong-only\u201d funds for hedge funds to trade against. \u00a0Reg FD (requiring broad disclosure of material information) leveled the playing field in the stock market, and it turns out that illegal inside information was a significant source of hedge fund outperformance.\u00a0 Hedge funds offer investors an unappealing combination of high fees and low liquidity. In bear markets a la 2008 withdrawals by panicked investors may force funds to sell stocks at the bottom.<\/p>\n

Given all these problems, it is not surprising that\u00a0recent hedge fund returns have been poor.\u00a0 The Financial Times’<\/strong> Gillian Tett quotes a hedge fund expert who advuses J.P. Morgan: “the vast majority of all hedge funds worldwide have well underperformed virtually every major stock or bond index for some four years.”\u00a0 Their performance versus stocks looks pretty good during equity bear markets, but \u2013 believe it or not \u2013 stocks do<\/b> tend to rise over time; after 12 years of poor performance stocks may well outperform the over-crowded hedge fund space.<\/p>\n

As for private equity, its prospective performance is harder to figure because it is, well, private.\u00a0 But, like hedge funds, this arena is far more crowded than a few years ago.\u00a0 One indication: no less than 27 individuals on the Forbes 400 list made their billions in private equity.\u00a0 In the future the copious capital committed to private equity may exceed the available attractive investments, depressing returns.<\/p>\n

The Stock Avoidance Syndrome Is Far from Over<\/strong><\/p>\n

For these two reasons, S.A.C. will be with us for a while.\u00a0 This could dampen stock market returns but is far from bearish.\u00a0 After all, stock prices have already climbed 75% since March 2009, and stocks soared in the 1980s (up 218% between 1982 and 1989) even though individuals avoided stocks because of high volatility (think program trading and the 1987 crash) and \u2013 in contrast to now \u2013 high returns from money funds and bonds.\u00a0 What SAS does<\/b> mean is that the stock market will be less frothy than in the late 1990s, when lots of dumb money crowded into equities.<\/p>\n

Individual Investors Should Exploit Their Unfair Advantage<\/strong><\/p>\n

We often hear that the market is \u201crigged\u201d against individual investors.\u00a0 This may be true for traders, but the opposite is true for patient individual investors who can build a diversified, tax-efficient, long-term portfolio of high quality stocks with growing dividends and then hang onto them through an economic cycle, selling only those stocks whose fundamentals really deteriorate.\u00a0 (For example, individuals didn\u2019t need to sell their industrial and material names when China\u2019s economy slowed in 2012.)\u00a0 Individuals who follow that strategy should not only do better than bond investors, but also better than supposedly sophisticated investors in hedge funds and private equity\u2014particularly after taxes and fees.<\/p>\n

Individuals actually have an unfair advantage over professionals<\/b>, who are compelled to play the short-term performance derby by trading in and out of stocks based on their Wall Street popularity. That\u2019s a loser\u2019s game; for example, no one could have predicted AAPL\u2019s 57% rise, 17% decline, 32% rise, and 27% decline over the course of 2012.\u00a0 Playing the risk on \/ risk off game is similarly futile. Professional traders are constantly looking for story stocks with a short-term “catalyst” while overlooking boring high-quality companies whose earnings will grow over time.<\/p>\n

Harvard Endowment Policy Portfolio<\/strong><\/p>\n

\"Harvard<\/a><\/p>\n

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Yale Endowment Asset Allocation<\/strong>\"Yale<\/a><\/p>\n

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Princeton Endowment Asset Allocation<\/strong><\/p>\n

\"Princeton<\/a><\/p>\n

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Copyright Thomas Doerflinger 2012\u00a0\u00a0 All Rights Reserved<\/p>\n

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100% in Equities? In February 2012 one of the very few Wall Street executives whose stature actually increased during the financial crisis, Blackrock CEO Larry Fink, told Bloomberg why he liked stocks: “I have been pretty consistent on this since … Continue reading →<\/span><\/a><\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"closed","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[1],"tags":[71,72,8],"class_list":["post-319","post","type-post","status-publish","format-standard","hentry","category-uncategorized","tag-asseet-allocation","tag-hedge-funds","tag-stock-market"],"_links":{"self":[{"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=\/wp\/v2\/posts\/319","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=%2Fwp%2Fv2%2Fcomments&post=319"}],"version-history":[{"count":9,"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=\/wp\/v2\/posts\/319\/revisions"}],"predecessor-version":[{"id":496,"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=\/wp\/v2\/posts\/319\/revisions\/496"}],"wp:attachment":[{"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=%2Fwp%2Fv2%2Fmedia&parent=319"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=%2Fwp%2Fv2%2Fcategories&post=319"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.wallstreetandkstreet.com\/index.php?rest_route=%2Fwp%2Fv2%2Ftags&post=319"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}