It’s a Charlie Brown Year
-Charles Schultz
Remember good old Charlie Brown? He would appear to
make progress in this world and, whenever he did, the rug always seemed to be
pulled from under him. This is one of those years for all of us. The market
seems to get ahead; then something pops up out of the blue. Before Friday,
June 23 (see my Brexit
article), international stocks were up for the year and have now gone
negative since the vote. Luckily, emerging market stocks are up 10%, while U.S.
stocks and bonds are up 3 to 5%.
Actually, this has been the story of international stocks
for the past five years. During that time, there have been numerous crises worldwide: the
U.S. debt downgrade, Greece leaving the Euro (Grexit), slowdown and currency
crisis in China, and now Brexit. In each case, the markets never saw the result
coming. Looking back though, these situations were all great opportunities
to invest. This time is no different.
So what should you do? First, realize that this is just
another crisis, if you can call it that. The U.K. will still exist,
business will carry on as usual, and trade between the U.K. and Europe will
continue; maybe in a different form, but it still will exist. Although
there is still a contagion concern, this crisis soon will be forgotten and, before
long, something new will replace it. As a value investor, you actually want
this. It provides an opportunity for the value funds to pick up cheap
investments.
Picking an Approach
Many clients are asking about portfolio positioning. Most
updates I’ve read from the large brokerage houses discuss the benefits of avoiding
U.K. stocks, waiting it out in high-quality assets, and moving to a
risk-neutral position. This type of thinking led investors to pull a net $8.4
billion out of foreign-stock mutual funds last quarter – a reaction that probably
made famed value investor Benjamin Graham roll over in his grave.
This “sitting on the sidelines” approach is the opposite of
what he (and I) would recommend. Look at the banks in Europe, for example.
There are issues, granted, but relative to the U.S., European bank stocks are
very cheap. Right now, Barclays and RBS (two of the largest U.K. banks) are
trading around 30 cents for every dollar of assets, while HSBC is at 60
cents. Moreover, the European bank index is trading for about 85 cents per
dollar of net assets, while, in the U.S., the bank stock index will cost you
$1.30 for every dollar of assets. Big
difference. As always, investors tend to oversell what’s out of favor and
overbuy what is in favor.
Why would anyone sit on the sidelines when they can buy at bargain-basement
prices? We take advantage of opportunities like this via the value funds
in your portfolio, which by definition, automatically pick the stocks falling
out of favor. Therefore, don’t be surprised to see U.K. bank stocks becoming a
bigger part of our international funds. It’s a strategy that has paid off with
countless other scenarios like this one.
The Bigger Picture
The Brexit is a microcosm of a large issuer happening
worldwide that all comes down to the globalization of the economy. Every
country is struggling with its residual effects, including immigration and jobs
going offshore.
As populism and nationalism take hold worldwide, let’s hope
the world does not go the way of Germany, Japan, and Italy in the 1930s.
Xenophobia was rampant then too, and this vote in Britain highlights the
immigration issue occurring not only here in the U.S. where there are rumblings
of a wall being built along the Mexican border, but also in Japan, Austria, and
France where some political parties are making this topic their primary
platform – and gaining popularity by doing so.
Over the past 15 years here in the U.S., almost 66,000
factories have closed costing more than 4.8 million jobs. Sounds bad, right?
However, when you hear this, don’t forget to ask about all the jobs that were
created during this time. For example, Amazon now has over 200,000 employees, Apple
employs more than 60,000, and it is estimated that over 600,000 jobs have been
created outside Apple to support the iPhone operating system. When you
combine these examples and others like them, things don’t look so bad in
aggregate. However, converting factory workers into HTML programmers is
virtually impossible, which causes a wide disparity between the rich and poor.
Consequently, globalization, free trade, and immigration are viewed negatively
by the majority of the population.
As we’ve seen the past couple weeks, it’s not an issue
isolated to the U.S. It’s happening everywhere, and thus, tension is rising among
the populace. Hopefully, our country won’t go the direction of England, but if we
raise walls and increase tariffs, we will follow the same isolationist path
With all that said, don’t lose sight of the positive effects
of globalization. For example, as Great Britain gets smaller and more isolated,
India, with its 1 billion people (England has a paltry 53 million), will surely
overtake Britain’s standing in the world during the next couple of years. India
represents 3% of the global GDP (England is about 4%) and had the fastest-growing
market last year (at 7%). What’s more, they announced three days before the
Brexit vote that they were opening up their market more to foreign investors,
but with all the talk about Brexit, no one seemed to notice. That’s unfortunate
because this change means foreign investors now are able to invest 75-100% in
many Indian industries, which is a giant step forward for a country with a long
history of protectionism. In other words, while the old guard builds walls, the
new up-and-comers are breaking them down.
This reiterates the fact that emerging market funds should
play a significant role in any portfolio. That’s why India and China represent
close to 30% of our emerging markets fund.
Again, this Brexit issue soon will pass and be forgotten. Focus
on the positive effects of globalization and stay diversified among many
countries. The bigger news will be
the U.S. presidential election, which should heat up after the conventions in
late July. Hold on to your seats!
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