5 MACRO STRATEGIES FROM GMO

A bit more here from the GMO Q4 report.  They provide 5 macro strategies for a volatile environment (via GMO):

Our broad strategies are:

  • Maintain Quality bias. Quality gave back a bit of its outperformance this quarter, but the game is in the early innings still. High quality stocks still trade at attractive levels, and the general defensive posture of quality still remains appealing given all of the uncertainties surrounding global prospects, dysfunctional governments, and horrific bond yields.
  • Bias toward Value in EAFE. We’ve also begun to bias our international portfolios toward Value. One cannot characterize this as a “big bet,” but valuations are such that we are beginning to see attractive spreads between Growth and Value in international equities.
  • Reduce exposure slightly to emerging markets. We funded some of the flows into EAFE both through cash proxies and from Emerging equities. Continued concern surrounding China’s economic bubble and a likely inability to deflate it without contagion effects gave us pause.
  • Continued bearishness on bonds. We are literally running out of superlatives to describe how much we hate bonds. Yields are pitiful, dangers of even a slight recovery that could wreak havoc for long-duration portfolios loom, and monetary policies globally certainly have added to the specter of rising yields.
  • Invest in conservative absolute return strategies, where available. Ideally, absolute return strategies are often a pure play on manager skill. Therefore, the return streams should have little correlation to the movements of the markets. Such investment instruments can provide equity-like returns, while helping to diversify other parts of one’s portfolio.

Cullen Roche

Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services.

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  • Larry

    Do any readers know of a “conservative absolute return strategy” that is available to a small investor without going to a hedge fund?

    Also, Is a “Quality” stock in a company that has delivered consistent revenue growth and earnings growth over many years? Would examples be JNJ, PG, KO, etc?

  • In Accounting

    I take quality to mean large cap with low/no leverage and positive earnings growth.

  • Skateman

    GMO’s quality fund is heavy in consumer staples, healthcare, and large cap tech. They also have a smattering of large cap industrial congolmerates and integrated oils. Think of the best (financial strength, competitive position) in each category.

  • Anonymous

    Apple to the max!!!

  • aws

    Litman Gregory’s new Master’s Alternative Strategies Fund incorporates alternative as well as absolute return strategies. MASNX

  • Dan

    The whining about bonds is old… Yes, yields are low, but the P/E-10 of the stock market isn’t exactly spectacular either.

    I bought a good chunk of 30-year treasuries at 4.4%… They did phenominally for me before I sold most of them at less than 3%.

  • Dan

    In spite of being weary of 25% gold (I like 10% better, and add some foreign equities and bonds instead), I love the Permanent Portfolio.

    It’s 25% stock index (total stock market), 25% bonds (20-30 year treasuries), 25% gold, and 25% cash (S-T treasuries).

    Since gold has been allowed to float, this portfolio has had 2 negative years, and about 9.5%-10% historical return.

    http://crawlingroad.com/blog/

  • Larry S

    @Dan, thanks very much! The Permanent Portfolio fund is a good, steady fund that has performed well for many years. PRPFX seems to be a good, solid fund to hold. Over the past 10 yrs, PRPFX has earned an avg annual return of 9.63% versus only 2.9% over 10 yrs for the S & P 500.

    Looks like a good choice, unless the Gold “bubble” pops in a big way.

  • Dan

    I don’t like the fund as much… it’s way too geared towards inflation… too few bonds.

    I think the PP (the real deal 4×25% PP) for me has been a phenominal starting point to jump off from.

    It’s not a panacea, but a great place to start investing, because you have to really challenge yourself to understand money, callable vs noncallable bonds, how bond pricing works, industrial vs monetary commodities, etc when you look at the different assets and WHY you choose those assets vs others.

  • Larry

    @Dan, do you think bonds are getting close to a buy again, with 10yr T-Note over 2% and corporate bond etfs like LQD at 4%? What about a closed-end fund like ACG or PTY?

  • Dan

    Larry,

    I think Long-term treasury bonds (20-30 years), as they are an excellent diversifier to stocks and almost as volatile (good when smoothing an overall portfolio) and I think they always belong in a diversified portfolio. Right now I don’t “like” bonds in particular, but I don’t dislike them either.

    If the 30-year hits 3.7% again I’ll be very interested.

    I don’t like corporates really because on the longer end of the curve, they are often callable, leaving them with a heads-they-win-tails-you-lose scenario, not to mention the have more correlation with stocks than bonds issued by our treasury do.

    What I dislike most about the bond haters is their complete non-acknowledgement of all the times in the past that they’ve been dead wrong and have lost their clients a lot of potential money.

    LT bonds always get a bum rap because of the obvious drawbacks, but advisors ignore the phenominal diversification they offer to stocks. Think of it this way… a share of ownership in a private entity’s profits vs a promise to pay a fixed payment for decades by the most stable entity in the world.

    Can you get much more diversified than that?

    So when people ignore LT bonds, they’re left with either commodities, wierd shorting funds, or equity-like instruments (like REITs) to offset their stock volatility, and when the SHTF those never do the trick.

  • In Accounting

    nice, thanks for the laugh

  • In Accounting

    Your point is well taken, but sitting here today, a stock like MSFT looks pretty attractive compared against a 20yr Tbond…

  • Dan

    I don’t know about Microsoft as an individual company, but the PE-10 of the S&P 500 is 22, which leaves the yield at about 4.4%.

    I usually start at 30 year bonds, so using that as a base line, I either have an index fund offering a price that would yield 4.4% based on 10 years of previous returns, or could get my hands on a 30-year bond that will pay me 3.15% for the next 30 years.

    Yes, I’d think and hope the S&P will give me better returns, but if demand drops off, earnings could drop significantly as well.

    I’ll probably be reasnably confident stocks will do alright as long as we’re running deficits well-in-excess of our trade deficit, but if that ever drops signficantly, you can count on our balance sheets to remind us of how little we can afford. I am holding LTT’s as a hedge against stocks, knowing that they still do pretty darn will in combination… usually anyway.