For our last yearly review, we look at insightful perspectives from three reference investors: a provocative contrarian, a global macro and a value investor:
Searching for Value Amidst High Asset Prices
The provocative contrarian Marc Faber, in his Gloom Boom Doom report, raises critical questions about the sustainability of current asset valuations. He highlights a growing dichotomy between optimistic earnings estimates and the sobering reality of mediocre growth in GAAP profits. Since December 2021, while the S&P 500 has risen by 25%, GAAP earnings have increased by less than 1%. Speculation remains rife across asset classes, with liquidity driving prices to new highs. Notably, September 2024 marked the largest month of monetary easing since April 2020, according to BofA Global Investment Strategy. Moreover, earning growth rate among Artificial Intelligence (AI) ETF constituents has fallen drastically, below the S&P 500. There is thus less reason for paying such a high premium for AI companies.
Faber emphasizes that the price of gold, more than CPI figures, serves as a reliable barometer of inflationary pressures. Despite gold’s high valuation, Faber warns that it appears less inflated than US equities and other asset classes. As contrarian investors increasingly appreciate value in Asian markets, the prospect of a financial calamity driven by current US monetary policies looms large.
The Long-Term Competitiveness of Nations in a Global Context
Ray Dalio’s global macro perspective reminds investors to consider the macroeconomic forces shaping national competitiveness. While equity and foreign exchange exposure are often diversified within multinational portfolios, Dalio emphasizes the importance of understanding structural shifts in global markets. As emerging markets exhibit resilience, their financial and equity sectors present compelling opportunities for contrarian investors. Here some insightful quotes form the report:
- United States and China continue to be the “two most powerful countries with high levels of conflict between them”.
- France appears to be a modest power with “relatively expensive labor (on a quality-adjusted basis)”.
- Russia weaknesses remain “its large domestic conflicts, its relative unimportance as a global financial center, its corruption and inconsistent rule of law, and its poor infrastructure and low investment”.
- Switzerland has a strong rule of law/low corruption. Its weaknesses are its relatively small economy and its relatively expensive labor (on a quality-adjusted basis).
- Finally, Dalio noted material improvements in financial stocks across Malaysia, Indonesia, Brazil, and Chile that must be kept in mind by international investors. Improvement in financial stocks are for Dalio “a precondition for a bull market”, providing a further argument beside valuation for emerging markets investments.
Bond vs. Equity: A New Perspective on Interest Rates
Howard Marks’ October 2024 memo, Ruminating on Asset Allocation, underscores the impact of higher interest rates on asset allocation. With prospective returns on non-investment-grade debt ranging from 7% to 10%, Marks argues that bonds have become competitive with equities, offering reduced volatility and contractual income stability. This is a stark departure from the historically low yields seen in the 2009–2021 period. However, recent indications from central banks may signal a return to low interest rates in currencies such as the CHF.
Marks’ insights highlight the need for investors to optimize, rather than maximize, their portfolios. Balancing offensive strategies through equity ownership with defensive strategies via debt instruments allows for risk-adjusted returns tailored to individual financial goals and risk tolerances. Consequently, “offense is usually better played through ownership assets, and defense is usually better played through debt”.
Practical Options for USD Bonds
Investors seeking diversification and stable income could consider USD bond options according to Howard Marks. However, the US investment universe is not available to all international investors, so here are some options for European and Swiss investors:
- iShares $ High Yield Corporate Bond UCITS ETF: Offering a 6.80% SEC yield with a 0.49% expense ratio, this ETF provides exposure to high-yield corporate bonds.
- Vanguard High-Yield Corporate Fund Investor Shares (VWEHX): This fund boasts an attractive yield but may face trading restrictions based on residency.
- Vanguard Long-Term Corporate Bond ETF (VCLT): With a 5.50% average coupon and a low expense ratio of 0.04%, this option is suited for those seeking high-quality corporate bonds.
Last word of caution for 2025
By tailoring allocations to risk tolerance and financial goals, investors can navigate the shifting landscape of asset classes effectively. The current environment’s high valuations and evolving interest rates present challenges, but before running for bonds (as advocated by Marks) in foreign currencies or for gold (like Faber if you believe that a calamity is imminent or that we are at a turning point), consider your own circumstances such as age and investment horizon: While younger investors may prefer equities for growth potential, while older investors might benefit from bonds’ stability. Further considerations must be taken into account according to Marks: financial condition, aspirations, responsibilities, and “intestinal fortitude” in case of high volatility.
In any case, here are key questions from Marks that each investors should consider:
- How much in stocks and bonds and how much in “alternatives”?
- How much in public securities and how much in private assets?
- How much in one’s home country and how much abroad?
- How much of the latter in the developed world and how much in emerging markets?
- How much in high quality assets and how much in low quality? How much in more volatile “high beta” assets and how much in steadier ones?
- How much in levered strategies and how much unlevered?
https://www.oaktreecapital.com/insights/memo/ruminating-on-asset-allocation The Great Powers Index: 2024 How the Leading 24 Countries, Are Doing and Their Prospects, for the Next 10 Years, Ray Dalio Where do I find Value amidst inflated Asset Prices? - Gloom Boom Doom by Marc Faber
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