(PUB) Investing 2015

July 2015

Morningstar FundInvestor

15

the U.S. economy and encouraged people to stay invested.

Laird Landmann of TCW MetWest; and Dan Ivascyn of PIMCO Income PONDX .

Kelly sees the 0 . 2% contraction in first-quarter gross domestic product as being a measurement error and the result of bad weather, versus a sign that the economy is headed toward recession. He pointed to bright spots in auto sales, housing starts, labor market indicators, and stabilization of capital goods orders as signs of growth for the rest of the year. This improving growth will likely lead to the Fed tight- ening later this year, but Kelly thinks that the Fed may already be behind the ball and may have to raise rates faster than it currently expects. He said the Fed’s belief that there is still slack in the economy is a key error. Kelly, though, thinks we are “running out of available workers, quickly.” He said the decline in the labor market participation rate is being driven mainly by demographics, while a host of other social issues from prescription drug abuse to felony convic- tions are also keeping people out of the workforce. But a rising-rate environment is no reason to abandon the stock market. First off, Kelly thinks that earnings growth is currently being depressed by temporary issues like falling energy prices and a weak dollar. He thinks U.S. earnings growth could bounce back from 0% in 2015 to 10% in 2016 and sees oil coming back somewhat (if not back to where it was) as supply and demand rebalance. He sees the dollar as overvalued and that, over time, we’re likely to see the dollar fall, helping U.S. earnings. Second, J.P. Morgan’s research has shown that, historically, stocks sell off somewhat when rates begin to rise but then quickly rebound. He also isn’t worried about current valuation levels. He sees U.S. stocks as selling at above-average prices on an absolute basis but not at outrageous levels. He was more optimistic about European equities, seeing lots of room for earnings growth over the medium term. In emerging markets, he expects good long-term growth as valuations rise over time. Bond Market Gloom We heard from four great bond managers: Elaine Stokes of Loomis, Sayles; Gibson Smith of Janus;

My take-away: Bonds are not attractive. They were very frank and told us they really didn’t like anything. What they liked least were emerging-markets bonds and agency mortgages, but we did hear from Ivascyn that he actually does like Mexico and Brazil. But really they didn’t say there was a lot to like. If that wasn’t bad enough, they said liquidity is drying up. There aren’t as many dealers out there willing to take bonds, so they’re worried about that. So, it was a pretty gloomy scenario. Ivascyn did say one cure for the liquidity issues is closed-end bond funds trading at a discount, because obviously you don’t have to worry about outflows at a closed-end fund. Nygren and Romick Weigh In Oakmark’s Bill Nygren and FPA ’s Steve Romick shared their takes, and, not surprisingly, Nygren is more opti- mistic than Romick. Nygren says it is important to have the right starting point in thinking about valuations. If you see the market of six or seven years ago as normal, then yes, a triple from that level leaves things looking very pricey. But if you, like Nygren, think 2008 – 09 was a generational buying opportunity, then things don’t look as elevated. Nygren says that P/Es are in line with historical averages. Romick sees stocks as relatively attractive, given the current interest-rate environment. Nygren said that the distribution of P/E ratios is much tighter than he has seen before, meaning there are some high-quality companies that are trading at reasonable prices (and conversely some low-quality ones that look expensive). One example Nygren gave is his investment in Amazon.com AMZN , which he sees as mispriced. He believes management’s willing- ness to lower prices in order to grow the business is a prudent long-term move and that the market putting a price/sales ratio below that of bricks-and- mortar retailers misunderstands the business’ even- tual ability to improve profitability. K