James Montier on Emerging Markets: London Value Investor Conference

We're posting notes from the London Value Investor Conference 2016.  Next up is James Montier of GMO who talked about emerging markets.


James Montier's London Value Investor Conference Presentation

It is hard to be a contrarian investor. Human nature makes us feel safer and warmer in the middle of the herd. The Institutional imperative means it is better to fail conventionally than to succeed unconventionally. Asset managers tend to play it safe. As Jeremy Grantham has noted career risk produces conformity and anchoring among investment managers . Montier pointed out that value metrics can provide investors with a powerful alternative anchor that can be used as strong form of behavioural self-defence.


Investment idea: Emerging Markets  

Earlier in the year GMO were considering whether or not to put money to work in emerging markets. EM had been hated by investors in recent years and Graham and Dodd P/E ratios showed them as undervalued. It looked as though value stocks in emerging countries were particularly cheap which got them more excited. The value proposition in EM looked the best it had been for many years.

They stripped out financials and resources stocks from their analysis because both sectors are hard to value.  It is difficult to value resource companies as future returns are tied to the price of the underlying assets such oil or gold. Financials are opaque because of the difficulty of knowing what assets they hold. After they had stripped out financials and resource stocks they concluded that EM still looked cheap.

Montier’s team asked themselves how could they be wrong? A question Montier said investors do not ask enough. They thought perhaps that EM equities have not been equity like? Perhaps they were not like developed equities? Their results showed that EM equities were indeed like developed equities at least in terms of earnings yield – with a 6.5% average annual return. 

They asked whether the average future conditions for EM going forward were likely to be similar to the average past conditions? They had been looking at the last 15 years in particular and they wondered if that period was normal? They asked what sort of growth would be required over the next 10 years in EM to make them feel comfortable that today’s prices offered a good value?

They concluded earlier in the year that about 1.5% real growth would do it. That did not seem like a huge hurdle, however, when they went back and looked at the last 15 years they was surprised to find that the EM value subgroup had only grown at 1.5% per annum in real terms. That tempered their enthusiasm a bit. It made them conclude that EM valuations were fair but not cheap. Compared to the opportunity set faced by investors today, though, EM appeared to be preferable to other assets.

They also started to worry that looking back 15 years was not long enough especially as the Asian currency crisis of 1997 was excluded from the data. This gave them further pause for thought as earnings yields in that period were crushed. He pointed out that it is also important to balance this with the recognition that EM economies are in better health than they were back in the late 1990s. For example, today most EM countries run a current account surplus rather than deficit and there are less fixed exchange rates. They also worried about the high level of private sector debt at a macro level but were relieved to find that it did not show up in the balance sheets of individual companies that make up the MSCI emerging index.

Even if they were right about valuations in local terms could they still lose on the currencies? They found that the EM currencies had already fallen a lot from expensive to fair value. This meant that if they fell further they would have the reassurance of knowing that the currencies were cheap and should mean revert at some point - a temporary but not a permanent impairment of capital.

In the end they decided they would buy some emerging equities but they tempered their buying because of the negatives they had found around earnings.



Be sure to check out the rest of the presentations from the London Value Investor Conference.

GMO Q2 Letter: Jeremy Grantham Says Bigger M&A Frenzy Coming

Jeremy Grantham is out with GMO's Q2 letter.  In it, Grantham talks about how he sees a frenzy in mergers and acquisitions coming (on top of the already large number we've seen).

He writes,

"If I were a potential deal maker I would be licking my lips at an economy that seems to have enough slack to keep going for a few years.  Also, individuals and institutions did feel chastened by the crash of 2009 and many are just now picking up their courage.  And as they look around they see dismayingly little in the way of attractive investments or yields.  So, the returns promised from deal making are likely to appear, relatively at least, exceptional.  I think it is likely (better than 50/50) that all previous deal records will be broken in the next year or two.  This of course will help push the market up to true bubble levels, where it will once again become very dangerous indeed."

Grantham feels the M&A boom will continue mainly due to low interest rates, but also because the economy has the 'early-cycle look' that could see a few more years of recovery.  Profit margins are higher this time around and there is room for increased capital spending as well.

All of these things combined create the perfect storm for "a veritable explosion, to levels never seen before."

Embedded below is GMO's Q2 letter:

James Montier's Presentation at London Value Conference: GMO Now 50% in Cash

Continuing our notes from the London Value Investor Conference 2013, the next speaker is James Montier of GMO.  He presented an update on their latest asset allocation model.


GMO Now 50% in Cash

James Montier said that GMO’s 7 year asset allocation model for US stocks is now predicting  negative returns. GMO are now 50% in cash.  While they've been known to hold higher levels of cash than most investors, this seems to be taking things a step further.  They still hold some investments in Japan but he  indicated that they are likely to be selling over the next couple of months.

He said that a year ago the model was indicating good returns in Europe but now it only suggests  2.5% real return per annum. He said that they are a bit frightened to follow the model in Europe  because of the leverage at the company level, particularly in the financial sector.

Their model suggests that the best value is in emerging markets where 6% real is forecast. However,  he mentioned that the research by his colleague, Edward Chancellor, which has identified an asset  bubble in Chinese real estate, has made GMO cautious and led them to allocate less to EM than the  model would suggest.

It is clear that at certain times GMO are prepared to overrule their  quantitative asset allocation models when other evidence suggests caution.


Be sure to check out other investor presentations: notes from the 2013 London Value Investor Conference.

Jeremy Grantham's Latest Commentary: On the Road to Zero Growth

It's been a while since we last checked in on GMO's Jeremy Grantham so today we wanted to highlight his Q3 2012 letter: "On the Road to Zero Growth."

In it, Grantham examines GDP growth rate, slowing population growth, productivity, and reduced capital spending.  He concludes that,

"With a little luck, U.S. GDP growth (even after an increasing squeeze from rising resource costs and environmental damage) should remain modestly positive, even out to 2030 and 2050, in the range of 1% at the high down to a few basis points at worst."

Grantham doesn't offer any investment advice given the scenario he laid out, arguing that it's a complicated set of short-term and intermediate-term consequences.  It sounds like he'll address that in his letter next time around.

Embedded below is Grantham's Q3 letter:



We've also highlighted some of Grantham's past commentary for those interested: betting against bull market irrationality.

Jeremy Grantham on Betting Against Bull Market Irrationality

GMO's Jeremy Grantham is out with his latest quarterly letter. In it, he talks about how to bet against bull market irrationality. He also touches on the tension between protecting your job or your clients' money. He also says that investment managers, in order to not lose their jobs, must "never, ever be wrong on your own."

On how most investors prevent this, Grantham goes on to write:

"Professional investors pay ruth­less atten­tion to what other investors in gen­eral are doing. The great major­ity 'go with the flow,' either com­pletely or par­tially. This cre­ates herd­ing, or momen­tum, which dri­ves prices far above or far below fair price."

Herding in the markets is by no means a new phenomenon. Legendary investor Michael Steinhardt last year said that there's more herding in hedge funds than ever.

Grantham then goes on to re-phrase the oft-quoted Keynes reference of "the market can stay irrational longer than the investor can stay solvent" to an amended version that ends with "longer than the client can stay patient."


How to Survive Betting Against Bull Market Irrationality

Grantham lays out 3 main ways to do so:

1. Invest with a margin of safety: This, of course, is one of the principles by which Seth Klarman and many other value investors invest. The last two days we've highlighted notes from Seth Klarman's Margin of Safety.


2. Stay reasonably diversified: For a retail investor, this can make sense. However, we'd imagine that numerous hedge funds would disagree with this statement.

Many long/short managers often run portfolios of around 20 long positions and 30-40 short positions. Their argument would be that in lieu of diversification as a means to protect from downside, they've outright hedged by shorting. But then again, it all comes down to Grantham's definition of just how diversified 'reasonably diversified' is.


3. Never use leverage: Leverage has been the demise of many investors, so this is prudent advice. While some hedge funds employ leverage, the ones who do so successfully seemingly keep it to low levels. It's when you're leveraged 30:1 (or whatever Lehman Brothers was at) that problems arise.

Embedded below is Jeremy Grantham's latest investment outlook:



For further wisdom from the strategist, head to Grantham's 10 investment lessons.

Jeremy Grantham's 10 Investment Lessons

GMO's Jeremy Grantham is out with a February 2012 letter which he has entitled, "The Longest Quarterly Letter Ever." In it, he outlines 10 investment lessons for individual investors.

Jeremy Grantham's 10 Investment Lessons:


1. Believe in history: "history repeats and repeats, and forget it at your peril. All bubbles break, all investment frenzies pass away."

2. Neither a lender nor a borrower be: "Unleveraged portfolios cannot be stopped out, leveraged portfolios can. Leverage reduces the investor's critical asset: patience."

3. Don't put all your treasure in one boat: "This is about as obvious as any investment advice could be ... Several different investments, the more the merrier, will give your portfolio resilience, the ability to withstand shocks."

4. Be patient and focus on the long term: Wait for the good cards. If you've waited and waited some more until finally a very cheap market appears, this will be your margin of safety."

5. Recognize your advantages over the professionals: "The individual is far better-positioned to wait patiently for the right pitch while paying no regard to what others are doing, which is almost impossible for professionals."

6. Try to contain natural optimism: "optimism comes with a downside, especially for investors: optimists don't like to hear bad news."

7. But on rare occasions, try hard to be brave: "You can make bigger bets than professionals can when extreme opportunities present themselves because, for them, the biggest risk that comes from temporary setbacks - extreme loss of clients and business - does not exist for you."

8. Resist the crowd, cherish numbers only: "this is the hardest advice to take: the enthusiasm of a crowd is hard to resist. The best way to resist is to do your own simple measurements of value, or find a reliable source (and check their calculations from time to time) ... and try to ignore everything else."

9. In the end it's quite simple, really: "GMO predicts asset class returns in a simple and apparently robust way: we assume profit margins and price earnings ratios will move back to long-term average in 7 years from whatever level they are today. We have done this since 1994 and have completed 40 quarterly forecasts ... Well, we have won all 40."

10. This above all, to thine own self be true: "To be at all effective investing as an individual, it is utterly imperative that you know your limitations as well as your strengths and weaknesses ... you must know your pain and patience thresholds accurately and not play over your head. If you cannot resist temptation, you absolutely must not manage your own money."



Grantham elaborates on each lesson and address other topics in his full quarterly letter, embedded below:



For more insight and market commentary, be sure to also check out Howard Marks' latest letter, as well as Eric Sprott's commentary.

Jeremy Grantham: Overweight High Quality Companies, Heavily Underweight Low Quality

GMO's Jeremy Grantham is out with his latest market commentary entitled, 'Night of the Living Fed.' In his previous pieces, Grantham has advocated buying high quality stocks. Oaktree Capital's Howard Marks shares this sentiment and many other hedge funds own large cap blue-chips. What's his stance nowadays?

Equities

This time around, Grantham again extols the benefits of quality US companies which he deems "still cheap in an overpriced world." He likes being long high quality and underweight low quality stocks. Regarding emerging market equities, Grantham feels investors should be moderately overweight while moderately underweight the rest of the world.

Grantham also mentions that stocks as a whole are currently overpriced. At the same time, he notes that bonds are even less attractive. The debate of buying overpriced stocks versus even more overpriced bonds is one he plans to address further in the future. Lastly, he advises extra cash reserves, citing a volatile market with insecure fundamentals.


Federal Reserve

In his latest commentary, Grantham shifts his focus to the Federal Reserve. He pens a decisively anti-Fed piece that critiques and criticizes the various maneuvers they've made. Some of his more salient points include:

- Low interest rates almost always transfer wealth from debt owners/retirees to corporations and the financial industry.

- Quantitative easing, he says, is more of a desperate move than just a low interest rate policy.

- At the same token, these lower rates encourage speculation in markets (emphasis on speculation rather than investment).

Embedded below is Grantham's latest piece from GMO which we recommend reading in its entirety:



You can download a .pdf copy here.

We've posted a ton of additional great market commentary as of late including Lee Ainslie & hedge fund Maverick Capital's latest letter, Corsair Capital's latest investment ideas, as well as East Coast Asset Management's take on the joys of compounding. Like Grantham, many of these managers are finding compelling opportunities in select equities.

Jeremy Grantham Favors High Quality US Stocks: Market Commentary

Today we're doing a bit of 'market-strategy-Monday' here on Market Folly and will kick things off with the often-read missive of GMO's Jeremy Grantham. He is now a deflationista as he thinks it has trumped inflation as the biggest concern in the near-term. While Grantham doesn't seem too anxious to be a buyer of many asset classes, there are three areas he has deemed compelling. GMO's asset allocation portfolios are built on a seven-year forecast and here are his thoughts:

Firstly, Grantham sees value in high quality large cap US companies. The main argument? Valuation. Just last week, we highlighted hedge fund T2 Partners' bullish presentation on 3 large cap stocks. The 'buy high quality large cap' theme has been long underway in hedge fund land as a plethora of managers have now sung the praises of this opportunity. Pershing Square's Bill Ackman went long Kraft (KFT) on this notion (among other reasons) and East Coast Asset Management likes quality names as well. Grantham's GMO colleague Edward Chancellor echoes these thoughts. He says,

"When we look through the various classes of equities, we find in the U.S. that companies that are so-called quality have high expected returns relative to the market; in other words, companies that tend not to go bust, and tend to maintain their positions—the sorts of businesses that Warren Buffett made his fortune investing in and are trading at a P/E of about 14. Johnson & Johnson (JNJ) and Pfizer (PFE) are key companies—the sort that your grandmother had in her portfolio or are typically owned by trust companies. Normally they trade at premiums to market, but right now they’re not."

Chancellor also sees opportunities in the European high quality equivalent. In particular, he mentions Nestle (NSRGY), Novartis (NVS), and Unilever (UN). Last week we also pointed out how hedge fund Viking Global has a large stake in Unilever as well.

Secondly, Grantham believes that emerging market equities are the next best play. This is mainly attributable to the fact that the fundamentals in these countries are so much better than our own markets. While EAGE equities are slightly expensive, they are a much better option than say, fixed income.

Lastly, Grantham remains staunch on his view of forestry (i.e. timber). He has long advocated a place in portfolios for timber as it serves as a good diversification tool during the good times. And, during periods of uncertainty, it is a "brilliant store of value should inflation unexpectedly run away, and a historically excellent defensive investment should the economy unravel."

Embedded below is Jeremy Grantham's latest market commentary from GMO:



You can download a .pdf copy here.

For more excellent commentary be sure to head to the latest hedge fund letters where prominent managers share their thoughts on the markets.

Jeremy Grantham's Fourth Quarter Commentary

Just wanted to point out that for your reading enjoyment today you should take in Jeremy Grantham's fourth quarter 2009 commentary from GMO to get your dose of polar sentiment. You can download the .pdf here.

And then here's the commentary embedded on the website:

Jeremy Grantham 4Q09

Jeremy Grantham's First Quarter 2009 Letter

Below you'll find some absolutely required reading. Jeremy Grantham of GMO has published his thoughts for the first quarter of 2009. In the past, we've also posted up Grantham's March thoughts if you're interested. RSS & Email readers need to come to the blog to view the slide-deck.

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