Wednesday, September 21, 2011
Grantham: ‘No market for young men’ (Buy EM, Japan, & Europe)
Hey, Young Turks on trading desks, up-and-coming money managers and Wall Street stock jockeys: You want the truth about the global markets today?Jeremy Grantham.
Listen to Jeremy Grantham, chairman of Boston-based investment manager GMO LLC: You can’t handle the truth.
“This is no market for young men,” Grantham said. “At least us old men remember what a real bear market is like, and the young men haven’t got a clue.”
Women, too, for that matter. And at 72, after 40-plus years in the investment business, Grantham can make this claim unchallenged, but his point is more about the lessons of experience than the limitations of age, and an investor’s ability to build on the former and overcome the latter.
With Greece on the verge of default, and economic growth in even the healthiest developed markets stuck in slow gear, Grantham reserves his harshest words for the leaders of central banks, big money-center banks and governments. The fittest global companies, meanwhile, are getting his firm’s client’s money.
Policymakers and politicians have acted like “children at play,” Grantham has said. As he sees it, they’ve created a tower of debt and an illusion of wealth, and have not been held responsible for their frivolous actions.
“No one has been prepared to make tough decisions,” Grantham said in a recent telephone interview. “Where have the Europeans been for 10 years? None of these things came out of the woodwork two weeks ago. No one attempted to blow the whistle and make tough decisions in a timely fashion.”
“Kicking the can” on deficits and spending delays the reckoning, but only makes it more painful when it comes. Had “grown-ups” been supervising the financial system, the problem might not have gotten out of hand, Grantham noted.
To put the debt crisis in perspective, Grantham suggested imagining multiple stacks of building blocks, “fairly precarious and fairly tall,” each set uncomfortably close to the other. If one falls, it could either take down several others or fall neatly between them. The trouble, Grantham said, is that there’s really no way to know.
Financial markets nowadays are faced with this hit-or-miss scenario, and buyers don’t like the odds. Said Grantham: “We have these basically distinct problems joined only by a general fragility of the financial system. So you can’t know for sure that if China stumbled it wouldn’t set off something else, or if the U.S. goes into a double-dip [recession], it won’t set off a European bank failure.”
Especially worrisome to Grantham is the gulf between wage earners in the U.S. The top 10% of U.S. workers currently receive about half of the nation’s total income, with half of that going to the top 1%. The last time this country saw a wage gap so extreme was just before the 1929 stock-market crash and the Great Depression. By comparison, in the late 1970s the top 1% garnered about 9% of all earnings.
“You can’t run the economy on BMWs alone,” Grantham said. “If the average person is in a pickle, how do you have a healthy economy?”
For starters, he said, you tax the richest more than they’re paying now. Said Grantham: “We have actually made the tax structure friendlier to the top 10%.”
Grantham contends that income inequality at these levels takes a real toll on ordinary workers and society as a whole. To bridge this gap and give average workers a bigger slice of the pie, Grantham advocates investing in education, training, and to “change the tax structure to make it equitable.”
Grantham also doesn’t approve of Federal Reserve Chairman Ben Bernanke taking steps that he said essentially have put savers in a box. Keeping interest rates low, and stating that rates will remain in the cellar for at least a couple of years, forces people to take more risk with their money if they want yield and capital appreciation.
“You’re transferring money away from retirees” who must either delve into stocks, gold or some other higher-stakes investment, or languish in savings accounts and low-yielding bonds, Grantham said. “They could use that money. They would spend every penny.”
Instead, Grantham said the Fed’s policy puts money “in the hands of people who aren’t spending it — people who only buy BMWs and don’t support Wal-Mart.” This creates a vicious cycle in which, Grantham said, individual savers are penalized and restrain spending, while the beneficiaries are “bankers and corporations that can build factories all over the place — except they won’t because consumption is too weak.”
Accordingly, Grantham sees this path coming to no good end over the short-term. He said he expects another leg down for the U.S. stock market, one where shares could stay low-priced for years while U.S. economic growth plods along at maybe 2% annually instead of the relatively more robust historical average of around 3.4%.
But Grantham is an investor, not a politician, so his job is to hunt down opportunities in bull or bear markets. Nowadays, he’s finding more stocks that fit GMO’s strict value-investing discipline.
“If we adjust earnings to normal and apply an average P/E, you can finally build a decent portfolio today of global equities at a respectable long-term return,” he said.
The potential for gains is “modestly higher” outside of the U.S., he added, other than “high-quality blue-chips.” Mostly, he said he prefers discounted plays that are surfacing in Europe and emerging markets.
“In stocks you will eventually do OK at these prices,” Grantham said.
“The real danger is one or two of these building blocks falling over,” Grantham said. “You can buy a whole portfolio of slightly cheap global stocks, and the risk you take is that you get sandbagged by some of these major problems.”
Indeed, Grantham said that since there’s a “decent chance” of stocks becoming even cheaper, GMO is positioned slightly below normal in equities “because the risk profile of the world is way over normal.”
At the same time, he’s not jumping on the long-term-bond bandwagon. “One day we will have more inflation and our bonds will bleed like a pig,” Grantham said. “The only reason for buying long bonds is short-term or as a desperate haven for terrorized investors. But the potential to make longer-term real money is naught.”
Grantham runs a personal, non-profit foundation dedicated to the protection of the environment. For the foundation he has invested heavily in agriculture, commodities and natural resources. Timber is a favorite, as are fertilizer companies. He’s not a big fan of gold. “I own some myself as a pure speculation,” Grantham said — “just enough to mute the irritation of watching gold [prices] rise.”
For others, Grantham advised taking a page from GMO and buying shares in companies with strong finances and which produce goods that people need, as opposed to luxury items. Look for dividend-paying opportunities in emerging markets especially. “I would own emerging and EAFE (the MSCI Europe, Australasia, and Far East Index), including Japan,” Grantham said.“In the end everything comes down to value, and they have suffered a lot more recently,” he said of non-U.S. markets. “Yes, it can get whacked in the next 18 months if the wheels come off, and the possibilities are likely, but if you hang in anyway you’ll make a respectable return.”
Posted by Bud Fox at 2:35 PM