This may come as a surprise to some of our clients, but Iron Capital does not have a monopoly on economic or market insight (wink, wink). There are a lot of very smart people in our industry, and Wednesday night we had the honor of hearing from two of them. So I thought we would share what others think for a change.
The occasion Wednesday evening was the CFA Society of Atlanta’s Seventh Annual Forecasting Dinner, sponsored by Iron Capital, BlackRock, Morningstar, Bloomberg, Factset, and Liquidnet. Our speakers were Bob Doll and Brian Singer.
Doll is BlackRock’s chief equity strategist for fundamental equities. His group was formerly Merrill Lynch Investment Managers before Merrill sold their investment management arm to BlackRock in 2006. Doll is an optimist. He has entitled the theme for 2011, “Muddle Through and Grind Higher Plus.” ‘Muddle through’ refers to the economy, which he expects to grow but not without issues. ‘Grind higher’ refers to the market, which he believes will be up in the low double digit return range by year end. The ‘plus’ is his opinion that the risk to his forecast is that he is being too conservative.
One of his more interesting insights, and a major factor in his optimism, is that the average man on the street knows all about the problems facing our government and what bad shape the government is in. This is a cause of much concern and why most people remain negative. However, that same person has no knowledge of how strong corporate America’s balance sheet is and what good shape it is in. Markets are ultimately driven by what is happening to the companies whose shares are being bought and sold, and those companies look good.
In fact, Doll is not only optimistic, but also believes U.S. equities will lead the way. His view is that the U.S. economy will grow twice as fast as any other developed world economy, and while absolute growth still will be faster in the emerging world, the rate of growth will be declining. The U.S. will have positive trajectory while emerging-market countries will have negative trajectory.
He also likes stocks over bonds. His group likes to track the earnings yield on stocks vs. the yield on average-quality corporate bonds. These yields usually track together, but they separated dramatically last year as the yields on bonds dropped. He claims that historically this gap is always filled and the way that happens is most likely that the prices of stocks go up – reducing yield – and the prices of bonds go down – increasing yield.
Brian Singer now has his own firm, but he was previously the chief investment officer for UBS Global Asset Management. Singer is not quite as optimistic. He agrees with much of Doll’s fundamental analysis but thinks 2011 may be one of those years where fundamentals don’t really matter. He sees a clash between positive fundamentals and negative attitudes and thinks the attitude may win out. Interestingly, he said that economic activity was over-stated in the last half of 2010 because people were doing things in 2010 that they would have put off until 2011 but they were worried about changing tax rates and rules. Therefore he thinks 2011 earnings will be softer than most expect. (If you don’t completely follow that argument you are not alone; neither do we.)
Singer also made the point that China is shifting from the world’s cheap manufacturer to a more consumer-based economy. We had discussed that trend in one of our Capital Market Reviews last year, so it is not new to us. What was new is that he believes China is destined to fall apart because of social unrest. Not in 2011, he says, but he thinks in the next 30 years or so, the conflict between free market consumerism and communist rule will come to a head and the result may be China splitting into multiple smaller countries. We found this interesting as we had not heard this exact scenario before.
Both men agreed it will be a bad time for bond investors, especially government bond investors. Both agreed that structural unemployment may be higher in the future than it was in the past, and both agreed that policy makers do not really know what to do about that. They said, as most people now know, 40% or more of the earnings for the S&P 500 companies now come from overseas. What many don’t know is that 70% of the incremental earnings now come from overseas, meaning more than two thirds of the growth in U.S. companies is now coming from outside the U.S. We are truly in a global economy.
We sent you our 2011 forecast last week, so you know by now we are more in line with Doll than Singer. Still, it is important and always interesting to gather the insights of other leading professionals. I hope you found it valuable as well.
Chuck Osborne, CFA