Asset allocation recommendations are the focus of this video featuring the capital market strategist team of Brian Jacobsen, Ph.D., CFA, CFP®; Jim Kochan; and John Manley, CFA, with Wells Fargo Funds Management, LLC in this excerpt of On the Trading DeskSM from Friday, July 27, 2012.
Read the 2012 mid-year outlook paper: Looking past the cliff
We would like to talk about the asset allocation recommendations in the paper. Brian, can you help us with that?
Sure, I would be happy to. We have graphics in the paper that allow investors to look at our tactical and strategic recommendations and the rationale behind them. From a very high level, looking between developed countries versus non-developed or emerging markets, for the long term we do like emerging markets, but we think, short-term, there are some better ways to play the emerging markets than directly in the emerging markets themselves. John has talked about U.S. consumer staples and healthcare companies in the past as growth opportunities selling to the emerging markets. And so strategically we think that you could make a decent allocation to emerging markets or non-developed countries. But a larger allocation—probably 70%—towards developed markets. Now, because of the problems that are going on in Europe and the fact that we don’t think we are going to have any resolution any time soon, we think that the developed market portion could be more focused on the U.S. equities versus Europe. Then, value versus growth stocks. We think that in this environment value stocks, those indices, tend to be very much dominated by financials. As a result, because we aren’t necessarily all that constructive on financials over the next few years, we would prefer to underweight value relative to growth. It’s not that we don’t like parts of value; it’s because we genuinely do like growth companies, those companies that have the ability to grow. Perhaps they are going to also have the ability to grow dividends over time. And if you look at some of the indices that track value versus growth, growth tends to be more dominated by technology, and honestly, I like technology quite a bit. The technology companies that sell to other companies are going to help them increase productivity, keep costs down, and perhaps also help keep profit margins high. So as a result, strategically we’d like an overweight to growth. Tactically, it could perhaps go either way because there are some value companies, like in the consumer staples area, that we also really do like. When we get into large companies versus small companies, strategically, I don’t know if it necessarily really matters too much. What matters is the quality of the management over the long term. Tactically though, I think that there should perhaps be a bias towards larger cap stocks. The big reason for that is because in this type of environment it seems to be that the large companies are the ones that not only have continued access to the capital markets for funding needs, they also generate a large amount of cash and also are able to hitch their wagon of profitability to global growth and not just U.S. growth. Small cap companies, they tend to be a little bit more domestically focused, and we like that global exposure.
John Manley—The only thing I’d add to that would be to say that there’s a limited quantity of large cap, high-quality growth companies out there, and we think demand for them should be rising. That can have a positive effect on the way they trade.
Brian, would you also walk us through the fixed-income recommendations?
With the fixed-income market, the way that we look at it is more in terms of what credit exposure do we want investors to be getting, and also what sort of duration exposure. In terms of the credit quality, in this environment Treasury yields are very low, and it doesn’t really look like there’s a lot opportunity there. So strategically, I think that means fixed-income investors should be looking at taking on a little bit more credit risk because Treasuries don’t look like, for the long term, they are going to generate a lot of income. Now tactically there can obviously be some of these flare-ups in Europe. There could be issues in the Middle East. We never know. And so as a result, we have probably lightened up on that exposure just a little bit because of some of these political risks that the markets could be facing. Now, in terms of the duration exposure, again it’s a matter of whether we’re looking at tactically versus strategically. Strategically, long-dated bonds really don’t look like they’re offering a large amount of yield right now. And as a result, it doesn’t make a lot of sense to take on that risk. Maybe it would pay to wait to reallocate towards those longer-dated bonds once interest rates eventually do begin to rise. Now, tactically we think that because of the volatility again, because of that interest rate sensitivity, and shorter-duration bonds have less interest rate sensitivity, that if we do have it work out for us, if things begin to sort of cool off in Europe and we see Treasury yields begin to rise to perhaps levels that we saw maybe closer to a year ago, well that would I think argue for being a little bit shorter duration, taking on a little bit less of that interest rate risk.
Jim Kochan—That’s very important. The credit spreads are still wide enough to generate value for the fixed-income income investor. He should be choosing those portfolio managers who add value through good issue selection, who do good credit research. And for a while here avoiding those portfolio managers who focus on very long-duration strategies.
Well, John, Jim, Brian, thank you so much for joining us.
Thank you. You’re welcome.
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