Introduction
Learning experiences occur everyday for investors with an active, searching mindset. We can see their importance more clearly if we utilize a number of tools. At this point in the market’s evolution from a combination of volatility and no forward progress for many stocks, we should be searching for some guides for both our investment emotions and our considered actions. I am suggesting there may be some valuable insights being offered by looking through a microscope as to very recent investment performance for equities and fixed income.
Current Views through a Microscope – Equities
One of the basic beliefs supporting market analysis is that from time to time the ownership of stocks rotates from “strong” sound, long- term holders to short-term oriented momentum trading “weak” players. Strong and weak are applied loyally to their current holdings. In theory the market’s purpose for periodic meaningful declines is to shake out the weak holders selling at indiscriminate prices; e.g., offering bargain prices to strong buyers who foresee longer term value at these depressed prices. Historically, after a low price is followed by a rally, the question comes up whether the low price is actually the bottom of the move. Often a second or even a third down move “test” is required to convince some strong investors to be buyers. These tests can be at or somewhat near the prior low price. For me it is not only the price move that is critical in declaring a bottom. What I look for is a dramatic change in attitude on the part of the sellers who are exhausted from the emotions of the decline and proclaim they are leaving the game, often calling it “fixed.” At the moment I am not hearing this lament from the sellers. Thus, I believe the February bottom to be a weak bottom. Most of the time weak bottoms are not when the base for subsequent, substantially new highs are generated.
With the above thoughts in mind I wonder whether the stock market, not individual stocks has seen its high in January, which would fit the pattern of post performance from a prior good year.
For Those Committed to Equities for the Long-Term
Many of us have responsibilities to be largely invested in stocks or stock funds because the history of successful large macro bets is poor for many that have tried. Getting three successive correct decisions (Buy-Sell-Buy) in a row has proved to be difficult for most who try. Thus for the rest of us professionals we try to produce the best returns that we can within our prescribed market.
One of the reasons that all institutional investors should pay attention to the results of mutual funds is in aggregate they are the best contemporaneous record of institutional money. (Bear in mind many of the mutual fund management shops manage a great deal of money in non-mutual fund accounts, but use many of the same securities and strategies.) By using a microscope on the very small number of average mutual fund performance through March 1st, one can see some useful patterns. The average US oriented diversified fund declined only -0.31% where the average sector fund fell -3.13 % and the average world equity fund gained +0.11%. What these numbers suggest to me is that during periods of volatility liquidity is important. Further, that an important part of short-term global investing are the inputs from currencies.
There are some other lessons from this study. The best diversified US oriented fund category was the Large-cap Growth funds, which gained +4.02%. (Part of the gain is probably due to investments in a small number of globally oriented tech companies; the average Global Science & Tech fund rose +6.36%) What is significant about the leading performance of the Large Cap Growth funds is that in most weeks it has the largest redemptions. Contrary to the popular view that redemptions are a sign of disappointment in returns, (as these are often the oldest funds many investors own) the redemptions are the completion of particular phases in an investor’s life cycle; e.g., retirement.
Fixed Income through the Microscope
Utilizing the mutual fund data through March 1st, the average domestic fixed income fund was down -0.91%. Not particularly helpful to balanced accounts that were looking to fixed income gains for stability to offset equity losses. Institutional investors and some retail investors did find better investments than the general bond market in Loan Participation funds (Bank Loans) +0.97% and Emerging Market Debt funds in local currencies +2.65%. To emphasize, the importance of currency in Emerging Market Debt fund investing, bonds traded in dollars were down -0.63%.
In reading the annual reports of fixed income funds that our clients own, I found the following statement, “Credit sector is less compelling.” This particular fund has a long history of providing slightly above average income with less downside than most of its peers. Currently, they are sitting with shorter duration bonds or higher quality.
I have written in the past of my unease with the growth of credit funds, both in the US and globally. The leading bank distributing syndicated loans is Bank of America, not one of the leaders that I know of in credit research. The search for yield has been a trap in the past.
__________
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Showing posts with label World Equity funds. Show all posts
Showing posts with label World Equity funds. Show all posts
Sunday, March 4, 2018
Monday, January 2, 2017
Insights from Mutual Funds in 2016 and Their Influences in 2017
Mutual
Funds are Important to all Investors
First, funds are an important part of many publicly traded markets around the world. On a global basis they hold more than $44 Trillion dollars today.
Second, funds provide more relevant disclosure than probably any other financial sector.
Third, much of the less well disclosed institutional investments are managed by people who received their early training in the mutual fund business. Large financial institutions often manage mutual funds in addition to their other accounts.
Fourth, in most countries mutual fund boards include independent directors and in most cases those independent directors represent the majority of the directors. In the US the annual investment contracts must be approved by the independent directors. These directors have civil liability for their actions (or the lack of action).
Fifth, most mutual funds are managed by privately owned management companies or are part of large multi-product organizations such as banks and insurance companies. However, in a number of global markets there are publicly traded mutual fund management companies. Their disclosures reveal important trends as to the profitability of money management and related information. From time to time we have found these companies to be worthwhile investments.
Sixth, with the world's growing retirement capital deficit, it is important to recognize that mutual funds are a major gatherer of retirement capital. Of the $16 Trillion invested in US mutual funds, $7.5 Trillion were in identified retirement accounts about equally divided between employer-sponsored Defined Contribution Plans and Individual Retirement Accounts (IRAs). Upon exiting from employer plans, investors often place money into IRAs.
The total US retirement market is $25 Trillion with the Defined Benefit Pension market flat and expected to decline as employers choose to shed the accompanying fixed and growing liability. There is ample scope for Defined Contribution plans to grow and could lead to an increase in the size of the mutual fund share of the market. The average individual mutual fund is currently held between four and five years, more than twice the holding period for Exchange Traded Funds. Due to the lengthening of people's retirement period it is reasonable to expect that IRAs will remain open for at least twice to possibly four times the non-retirement money in mutual funds.
Insights from 2016
1. In the US market there was more money entering the fund business than leaving. From first glance, most of the net gain went into Money Market funds. However this gain occurred during a time when the number of funds declined. Due to changes in regulation most of the decline occurred in the Prime Retail Money Market funds arena. Considering the emotional turmoil caused by the US election and rising interest rates, it is not surprising that money flowed into Money Market funds. While a portion of the money in these funds will never enter the long-term mutual funds arena, some will.
2. Due to automatic reinvestment of income and capital gains, distribution funds have another source of inflows other than net sales. For the first eleven months of 2016, reinvested dividends of about $42 Billion came in from this source to Long-Term funds which meant for the eleven months the flow into Long-Term funds was positive.
3. Appropriately in November there were net redemptions in bond funds for the first time. The redemption rate slowed for equity funds, particularly for World Equity funds.
4. In the shortened time horizon that many advisors and brokers are using with their accounts, they are relying on the correlation among mutual funds and ETFs. But these are not currently working. In the performance reports issued by my old firm, Lipper, Inc, now owned by Thomson Reuters, there are twelve investment objective averages of compound performance for the last five years (through December 29th) between +11.83% and +13.80% . Nine of the thirteen were clustered at the 13% level. A nice tight group. These are funds grouped first by the size of market capitalizations within their portfolios. These include Large, Multi-Cap, Middle-Cap and Small-Cap. They are further sub divided by investment objectives into large, core and growth.
In 2016 the close correlations exploded. The Large-Cap Growth funds averaged a gain of +2.49% and the Large-Cap Value funds gained +14.93%. Hardly a tight correlation. Thus the fund selection criteria became critically important. Market capitalization did not help meaningfully in terms of the Large Cap. Actually if one ranked performance within this subset of 12 investment objectives, Large Caps where most of the money is, came in fourth behind in rising order, Multi Caps, Middle Caps and the winner was Small Caps.
Within the market cap segments, the choice of investment objective was even more meaningful. In each case the Value funds did better than the Core funds which beat out the Growth funds. Thus in the 12 fund categories analyzed, the best was the Small Cap Value funds which averaged +27.25%, compared with the previously mentioned +2.49% Large Cap Growth.
The real lesson in owning the best performing funds in 2016 was selection not correlation.
Looking Forward to 2017
1. Though we are in a period of annual forecasts, in many respects it should be called the period of extrapolation. Most people including analysts and other pundits draw on what they call the use of the brains, but their real pattern is elongating some past trends into the future without limit. This is natural and is discussed in a book entitled Seeking Wisdom from Darwin to Munger which was sent to me by Charlie Munger. The book ties in with the work that I have seen from Caltech; that the brain is essentially a memory device of personal experiences. Really bright people are not limited by their own experiences, they seek to learn from others' experiences current and past. That is why I say that if you slice a vein in a good analyst, an historian will bleed. Many of the published forecasts that I have seen as of today either extend the 2016 trends or one from November 9th. In my mind neither group has learned the lessons of 2016 which could be summarized as follows:
First, funds are an important part of many publicly traded markets around the world. On a global basis they hold more than $44 Trillion dollars today.
Second, funds provide more relevant disclosure than probably any other financial sector.
Third, much of the less well disclosed institutional investments are managed by people who received their early training in the mutual fund business. Large financial institutions often manage mutual funds in addition to their other accounts.
Fourth, in most countries mutual fund boards include independent directors and in most cases those independent directors represent the majority of the directors. In the US the annual investment contracts must be approved by the independent directors. These directors have civil liability for their actions (or the lack of action).
Fifth, most mutual funds are managed by privately owned management companies or are part of large multi-product organizations such as banks and insurance companies. However, in a number of global markets there are publicly traded mutual fund management companies. Their disclosures reveal important trends as to the profitability of money management and related information. From time to time we have found these companies to be worthwhile investments.
Sixth, with the world's growing retirement capital deficit, it is important to recognize that mutual funds are a major gatherer of retirement capital. Of the $16 Trillion invested in US mutual funds, $7.5 Trillion were in identified retirement accounts about equally divided between employer-sponsored Defined Contribution Plans and Individual Retirement Accounts (IRAs). Upon exiting from employer plans, investors often place money into IRAs.
The total US retirement market is $25 Trillion with the Defined Benefit Pension market flat and expected to decline as employers choose to shed the accompanying fixed and growing liability. There is ample scope for Defined Contribution plans to grow and could lead to an increase in the size of the mutual fund share of the market. The average individual mutual fund is currently held between four and five years, more than twice the holding period for Exchange Traded Funds. Due to the lengthening of people's retirement period it is reasonable to expect that IRAs will remain open for at least twice to possibly four times the non-retirement money in mutual funds.
Insights from 2016
1. In the US market there was more money entering the fund business than leaving. From first glance, most of the net gain went into Money Market funds. However this gain occurred during a time when the number of funds declined. Due to changes in regulation most of the decline occurred in the Prime Retail Money Market funds arena. Considering the emotional turmoil caused by the US election and rising interest rates, it is not surprising that money flowed into Money Market funds. While a portion of the money in these funds will never enter the long-term mutual funds arena, some will.
2. Due to automatic reinvestment of income and capital gains, distribution funds have another source of inflows other than net sales. For the first eleven months of 2016, reinvested dividends of about $42 Billion came in from this source to Long-Term funds which meant for the eleven months the flow into Long-Term funds was positive.
3. Appropriately in November there were net redemptions in bond funds for the first time. The redemption rate slowed for equity funds, particularly for World Equity funds.
4. In the shortened time horizon that many advisors and brokers are using with their accounts, they are relying on the correlation among mutual funds and ETFs. But these are not currently working. In the performance reports issued by my old firm, Lipper, Inc, now owned by Thomson Reuters, there are twelve investment objective averages of compound performance for the last five years (through December 29th) between +11.83% and +13.80% . Nine of the thirteen were clustered at the 13% level. A nice tight group. These are funds grouped first by the size of market capitalizations within their portfolios. These include Large, Multi-Cap, Middle-Cap and Small-Cap. They are further sub divided by investment objectives into large, core and growth.
In 2016 the close correlations exploded. The Large-Cap Growth funds averaged a gain of +2.49% and the Large-Cap Value funds gained +14.93%. Hardly a tight correlation. Thus the fund selection criteria became critically important. Market capitalization did not help meaningfully in terms of the Large Cap. Actually if one ranked performance within this subset of 12 investment objectives, Large Caps where most of the money is, came in fourth behind in rising order, Multi Caps, Middle Caps and the winner was Small Caps.
Within the market cap segments, the choice of investment objective was even more meaningful. In each case the Value funds did better than the Core funds which beat out the Growth funds. Thus in the 12 fund categories analyzed, the best was the Small Cap Value funds which averaged +27.25%, compared with the previously mentioned +2.49% Large Cap Growth.
The real lesson in owning the best performing funds in 2016 was selection not correlation.
Looking Forward to 2017
1. Though we are in a period of annual forecasts, in many respects it should be called the period of extrapolation. Most people including analysts and other pundits draw on what they call the use of the brains, but their real pattern is elongating some past trends into the future without limit. This is natural and is discussed in a book entitled Seeking Wisdom from Darwin to Munger which was sent to me by Charlie Munger. The book ties in with the work that I have seen from Caltech; that the brain is essentially a memory device of personal experiences. Really bright people are not limited by their own experiences, they seek to learn from others' experiences current and past. That is why I say that if you slice a vein in a good analyst, an historian will bleed. Many of the published forecasts that I have seen as of today either extend the 2016 trends or one from November 9th. In my mind neither group has learned the lessons of 2016 which could be summarized as follows:
- Search for what is not in the data.
- Events can change perceptions.
- Many people are not forthcoming as to their plans.
- There is a need to learn from others with different backgrounds.
- Doubt much you have been taught.
2. As one who is often described as a contrarian,
I need to warn that after accruing the benefits of being a contrarian in 2016,
there will be some times when the apparent majority will be right. (For a while
and to a limited extent.)
3. Unless you are primarily trading, looking at new highs is not often productive of big winners. My investment strategist son suggests one should look at the new low list which could be a better hunting ground for research. He is also more focused on industries rather than large segments of the market. For me, I focus on individual management of businesses that Charlie Munger and Warren Buffett would find of interest.
4. Many Frontier market securities and some Emerging Market stocks have been beaten up pretty hard. In selected cases their prices have much less risk within them than before.
5. The only two fixed income categories showing double digit gains for 2016 were High Yield funds +13.25% and Emerging Market Hard Currency Debt funds +10.75%. Be careful in 2017, these are taking on equity type risks without enough equity type gains.
3. Unless you are primarily trading, looking at new highs is not often productive of big winners. My investment strategist son suggests one should look at the new low list which could be a better hunting ground for research. He is also more focused on industries rather than large segments of the market. For me, I focus on individual management of businesses that Charlie Munger and Warren Buffett would find of interest.
4. Many Frontier market securities and some Emerging Market stocks have been beaten up pretty hard. In selected cases their prices have much less risk within them than before.
5. The only two fixed income categories showing double digit gains for 2016 were High Yield funds +13.25% and Emerging Market Hard Currency Debt funds +10.75%. Be careful in 2017, these are taking on equity type risks without enough equity type gains.
6. One possible way to gauge the level of excess enthusiasm is the cost to hedge against continued growth. It has been pointed out that the cost of hedging the enthusiasm for Small Caps is that the cost to hedge the Russell 2000 is very low. Options to protect against a decline in the iShares Russell 2000 ETF haven't been this cheap since August 2015. While there could well be technical reasons for this, one should be on guard anytime it is too cheap to hedge.
7. One of the lessons from the election campaign is that many in the middle class and the working rich feel that the economic future is limited. In the past many of these people would have been mutual fund buyers. It is their absence from the marketplace, not disappointment with results, which has impacted fund sales. To the extent that their post-election elation is real if they come back into the market, the bears on mutual fund management companies will once again be proven wrong.
__________
Did you miss my blog last week?
Click here to read.
Did someone forward you this Blog? To receive Mike Lipper’s Blog
each Monday, please subscribe using the email or RSS feed buttons in the left
column of MikeLipper.Blogspot.com
Copyright © 2008 - 2017
A. Michael Lipper, C.F.A.,
All Rights Reserved.
Contact author for limited redistribution permission.
All Rights Reserved.
Contact author for limited redistribution permission.
Sunday, May 31, 2015
Investing in World Equity?
Introduction
A study of flows within the global mutual fund
business shows that money is flowing into investments outside of one’s own
country at a faster rate than being invested internally within the home
country. This is not a new phenomenon. For probably the first 200 hundred or so
years the US was being built with capital from overseas. Even in the 1920s, I
am told that my Grandfather’s firm had one or more branch offices or
correspondents in Europe to service European investors and traveling Americans
who wished access to the US markets.
A lot of money has been
made investing outside of the US in 2015. This is particularly true in local
currency terms. According to The Economist, eight separate markets have
gained more than 20%, compared with 3% in the US. The reason this is important to US investors
is at the bottom of the market, the locals will set the terminal prices.
My
early career exposure to overseas investment
As a trust bank trainee,
one of my jobs was counting the foreign stock certificates behind each of the
American Deposit Receipts (ADRs) that the bank was issuing for foreign
corporations to US investors. One of my mates at the counting table said that
we were both likely to be involved with international investing later. He
became the research partner for a highly respected London headquartered fixed
income shop and at an early career opportunity I joined a small splinter
analyst group focused on international investing. My next job was with a brokerage
firm that among other things was institutionalizing some foreign corporations to the
US market. At the time, while I was following what we called electronics
companies, I was asked to sit in on the internal discussions on a major
European electronics company. One of the things that hit me as odd was that
every morning my firm was buying shares in the company’s local market to sell
to Americans. I kept on asking if this is such a good deal for American investors
why are the locals selling? Initially it turns out that I was correct. The
locals were reducing their holdings in a stock that periodically had falling
spells. Perhaps with the proceeds of their sales they were buying some shares
of the companies that I favored in the US. This particular dichotomy of
judgments is driving this post.
My
mutual fund lens
Subsequent to my time
at the brokerage
firm, I spent my career focusing on mutual funds registered with the US Securities
& Exchange Commission as well as in other major countries. Initially my
focus was as sales targets for my industrial company research. Later on I
focused on selling performance, fee and expense data to the funds. This in turn
led to a consulting practice largely focused on boards of directors, including
CEOs. In order to understand my clients more fully I bought small amounts of
the publicly traded shares of mutual fund management companies mostly in the US
and in the English speaking world. Many of these shares are in the portfolio of
the private financial services fund that I manage. Thus, I study the fund
business on a regular basis.
Utilizing data from the
Investment Company Institute (ICI), I have seen that the retail fund investor
since 2001 through April of this year has multiplied their investments in World Equity funds almost 4X (to $1.54 trillion) compared with an almost double in Total Return equity funds ($ 3.25 trillion) and about 1.5X for Capital Appreciation funds. It is quite possible that some of the more speculative
money in the Capital Appreciation funds chose to speculate in World Equity
funds. Institutions using institutionally priced mutual funds have built their
world equity positions much faster than the retail investor, multiplying their
2001 base 13.56 X to a $ 749 Billion at the end of April 2015. Thus as far as
the US fund business is concerned, approximately 1/3 of World Equity funds are
owned in institutional funds.
Is
institutional ownership good for world equity owners?
That depends on the
dichotomy mentioned in my prior research experience. The retail investor has
been reducing his/her more speculative exposure by being net redemption for at
least 15 years in terms of Capital Appreciation funds. For their retirement and
more conservative investing they have been redeeming only since 2007. What is
more difficult to fathom is their behavior in World Equity funds. In 2006 they
added $121 billion and $115 billion, in the following year only to be followed
with a net withdrawal of $85 billion in 2008. This seesaw pattern was repeated
in net redemptions in 2011, -$43 billion and $31 billion in 2012 which was
followed by net purchases of $56 billion in 2013. These repeated swings could
well be tied to dramatic changes in the value of the US dollar and gold. What
is more hopeful is that over the entire period institutional World Equity funds
had positive net flows.
Year
|
World Equity
funds Flow
(in $ Billions)
|
2006
|
+ $121
|
2007
|
+ $115
|
2008
|
-
$ 85
|
2011
|
- $ 43
|
2012
|
- $31
|
2013
|
+$56
|
Mutual recognition of
mutual funds in China and HK will allow the sale of locally-registered funds in
each market. This may have an impact of
bringing more money to be invested in China.
What the gyrations of
net flows on the retail side may be focused on are the short-term views of some
brokers or registered investment advisors. I believe that the institutions were
focusing on both longer term timespans and lower valuations, ex-US. What
buttresses this view is when I look at what is happening in the non-US fund
business, I see that investors are investing beyond their home markets. Part of
this is practicing sound global diversification. Part may be in recognition
that in general, the rich in any country tolerate their governments, but it is
difficult to find a country that is happy with their present government. The
current one is better than alternative for the most part.
What
should be done now?
To some degree any
domestic or foreign investment in the summer of 2015 should have a view on
Germany, China, and India. On my recent trip to Germany I was impressed with
the feeling of orderliness and a very strong desire for control. Many of their
businesses have the attitude that they will not put a product on the market
unless it is the best that can be produced within a price/quality range. There
is not the rush to gain the first movers’ sole position in the race. If they
can maintain control, investing in Germany (particularly in its middle market
size companies) should be comfortable. The issue of control of Germany’s environment
is critical. German investors’ fears are three. The first is to keep the Euro
reasonably intact. The absence of a central currency will drive a huge flow
into a German currency which will create an unmanageable inflation. The second
is to keep Russia and the sanctions directed to it in proportion. A collapse of
the Russian economy would hurt German companies as well as raise potential military
stress. The third is to continue to keep ethnic unemployment low enough to
prevent civil strife. Can they succeed with their three challenges? They have,
but that is not a guarantee
of the future.
I have said for some
time that China is the single biggest economic/financial issue facing the world
for the rest of this century. While the US, Japan, and Europe may think they
are being bold with their levels of monetary experiments, China has many more
moving parts to manage. Some of these are demographics. The one child policy
means that their supply of cheap labor has peaked. The rapid urbanization to
succeed required large scale infrastructure spending and an increase in the
number of jobs with wages appropriate for urban living. The size of the provincial
debt along with debts of government controlled banks will take great skill to
avoid a financial collapse. The military/naval machine will need to be fed to
avoid political problems. Solutions for ethnic and ecological problems can’t
wait much longer. The enormous size of China’s internal market and their own
trade ambitions are creating substantial opportunities for the world to
participate in its growth. Simply put China can not be ignored.
On a gross basis India
is growing faster than China. Whether the year-old government can encourage an
in increase in productivity is critical. Skipping the landline phase in
telecommunications will help as will some technological improvements in terms
of electricity and drug production that need to be accelerated. Higher
productivity requires lower levels of corruption and governmental controls.
India already has the world’s largest middle class and an increasing number of
highly educated workers.
Portfolio
advice
Each investment
activity that I analyze has a global aspect to it. Increasingly I segment
portfolios into different risk classes, bearing in mind that risk is the size
of the penalty for being wrong which affects future spending plans. If we live
in an increasingly dynamic world we should be investing in securities that can
manage change. While this favors stocks over bonds, it also introduces a bias
in favor of mid to small companies that can make changes more rapidly than
large companies that are too risk averse.
Question of
the week:
Which are the companies that are
likely to handle future change the best?
__________
Did
you miss my blog last week? Click here
to read.
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feed buttons in the left column of MikeLipper.Blogspot.com
Copyright © 2008 - 2015
A.
Michael Lipper, C.F.A.,
All Rights Reserved.
Contact author for limited redistribution permission.
All Rights Reserved.
Contact author for limited redistribution permission.
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