2010-07-14 t135448 - S1 - [investormedia]
Transcription Date: 07/14/10– Transcriber: LDM
[BEGIN AUDIO]
DAN WIENER: Good morning everybody or I should say good afternoon. This is Dan Wiener, and I wanted to welcome you all to the 2010 Mid-Year Webcast. As I think you know, I'm the editor of the Independent Advisor for Vanguard Investors. And, as the title says I'm going to talk a little bit about noise in the financial media today and how this ties into the rest of 2010 and looking ahead to 2011 and 2012. I put together a few slides to help get us in the mood so to speak and then, of course, we're going to open it up. I'm going to address as many of your questions as I can. I'd like to get right to it. I hope you'll bear with me if I run into any technical difficulties, but my folks tell me that we are good to go.
I decided to call this "Tuning out the Noise" because it feels to me as a former journalist on staff at both Fortune and U.S. News and World Report and as someone who has written and been published by the New York Times as well and having also spent a lot of time in the business news, TV and cable channels, that the media often does a disservice to investors when it comes to putting together and sticking with a good long-range plan for both your savings and your investments. I wanted to first take a look at a few headlines. Let's see if I can get this thing to work properly. Okay, that's it.
We got this sinking and soaring and dropping along with all fears and anxiety in the markets. And yet I always ask a question when I see headlines like these on this slide, just who is it that the journalists actually asked? Did they ask all the market participants why they made the trades they did? I mean, the market sinks on fragile recovery [INDISCERNIBLE]. Who actually told Roider's that? Who said to the AP that in fact bank stocks all soared because of the financial regulatory agreement? Did somebody poll the traders? Is it just a simple headline that they're using to get our juices flowing when, in fact, we really don't know why on a day-to-day basis the market does what it does. Nobody really knows or can be expected to know exactly why people are making the trades that they do.
The market goes up when more people are buying than are selling, and it goes down when more people are selling. But journalists have miles of column [SOUNDS LIKE] images, which they've got to fill and hours of talk time on the radio and TV. And so, they come up with some pithy comment they think encapsulates and captures the days like that. I kind of like the comment Ed [PH] Hoffman, the Investment Manager at Daly Gifford, who I just interviewed for the July newsletter, made when we were talking about this. He said a lot of the commentary on markets is sort of an attempt after the event of rationalizing something, though it doesn't necessarily link into what happened at all. He also said you shouldn't take the stock market too seriously.
There is always a huge effort to try and interpret what it's telling us all, and most of the time it isn't telling us anything. Let me look at a few other slides that you might be interested in. These are headlines that we picked up over the last couple of weeks. The IMF sees rising risks slowing the pace of the world recovery. Europe represents the main threat to global recovery and the IMF raises global growth forecasts. Well, you know, all of these things are related to the same story, which is that the IMF forecast for 2010 went up from 4.2% to 4.6%, but it meant that their 4.3% estimate for 2011 was a drop from 2010. So three of the four headlines focused on the downside. Take one more look. You'll get a sense.
I wanted to tell you a little bit about how the press works. You know, I was at Fortune for many years, and a friend of mine, a colleague of mine did a cover story on investing in real estate. The story was done. It was put to bed. It was ready to go to the printer, and the managing editor jumped in and demanded that the cover of the magazine feature a big head shot of Donald Trump. Somebody who was supposed to symbolize great real estate investment acumen. The only problem was Trump was nowhere to be found in the story because his real estate investing acumen wasn't all he wanted you to think it was. No matter, Trump made the cover of the magazine, and I believe the writer was instructed to go out and get a quote from the Donald to give the magazine a legitimate tie in.
Did it have anything to do with the story or the way it had been researched and written? Absolutely not. But, it helped newsstands sales an awful lot because the Donald was on the cover. See, the bottom line is the vast majority of investment journalism is written by folks who don't have an investment account beyond their 401Ks, if that. I have a friend who is at the Wall Street Journal, which as you know is the paragon of business and investment journalism. He told me that when he was an investment columnist, he was besieged almost daily by colleagues looking for advice on how to manage their money. And, when 401K decision time came around, he had to have a take-a-number dispenser installed outside his cubicle. And these journalists, these are the folks who are writing all these stories about the headlines that you see everyday.
Let me move down one more slide. DOW 1000. I don't know if you saw this but a couple of Sundays ago, you might have seen a big story in the business section of the New York Times about a now, or I should say a prominent Permabear, whose technical signals were telling him the Dow was going to 1000. I read it. I dismissed it, but then I looked and I saw that it was the second most emailed article that the New York Times had going for two days straight. And I thought, "Uh-oh." And then, a few of my clients asked me about this DOW 1000. So, I took a little closer look at it. This guy has got a newsletter, and according to the New York Times, they were using Mark Hulburt's numbers, and they said since 1980 the advice in the newsletter had slightly under-performed in the stock market but with much less risk.
I went over the numbers a little bit and it turns out that if you looked at his 30-year numbers, and you looked at the annualized return, the 7.4% versus 11.2% in the S&P didn't look so bad. But if you invested and compounded those numbers over 30 years, that investment performance of his rose to about $855 per $100 invested. But if you compounded the S&P, you turned your $100 dollars into $2,388. You know, Jack Bogel, Vanguard's Chairman, wrote in his first mutual funds book that even a 1% market out-performance can really make a difference when you compound it, and I have to agree there. I also have to tell you that since my newsletter's inception almost 20 years ago, the Growth Model Portfolios compounded at 11.4% versus the market return of 8.5%.
So, almost three percentage points makes a pretty good difference over 20 years. I'm sure Jack Bogel is happy as a clam that we have, that you and I anyway, have out-performed his index by almost 3%. Since this Times article came out, I've also learned by the way, that they may made an [INDISCERNIBLE] swap, the numbers that this DOW 1000 guru was reciting may have been a little bit optimistic. Someone else looked at the numbers and said that this guy had actually generated a loss for the entire period, not a gain. Again, what's happening at the New York Times and what I call the state of investment in journalism is that most of the writers doing it simply don't have in-depth knowledge that comes from the experience of investing to understand what they're covering, or they don't know how to work with numbers at all. And, please don't even get me started on journalists who don't know how to use spreadsheets or calculators.
So what's going in the market? I need to tell you that one of the reasons I've started the Vanguard Newsletter was because even as a journalist, I found it tough to get unbiased information and unbiased numbers on what was going on both in the market and at Vanguard. That's why I put together that first guidebook I did and the newsletter as the 1990s began, and I've been keeping a close eye on Vanguard ever since. So, where are we now? Well, as I said GDP in the first quarter came in slow, but it was not no growth. It was slow growth. We came in at about a 2.7% annualized growth rate versus the original estimate of 3.2%. Now, I don't know if anybody recalls that 2009's Fourth Quarter report of 5.6% growth was lower than the original early estimate of 5.7%. Or, that the 2.2% growth in the third quarter of 2009 was a whole lot less than the original or advanced estimate of 3.5%.
This is how the Bureau of Economic Analysis presents these numbers. They give you an advanced estimate. They give you another one and then they give you the final. The markets always stumble around with these various reports. But, as I think I mentioned, this is a kind of daily noise that we try to ignore. Again, the first quarter is 2.7% annualized growth, which is still growth. And, it's the third quarter we'd seen growth in the economy in a row. But, I'm sure that what the headline writers didn't say and I didn't see it written except in one place, in one article, was that on a nominal basis U.S. Gross Domestic Product hit a record. In other words, we hit a record high of $14 trillion, $592 billion dollars in gross domestic product, which was higher than the peak than was set in the third quarter of 2008. That's a nominal number. On a real or inflation adjusted number we are still just 1.3% away from the record high.
Now, if you've been following any of the news and the early earnings announcements you know the economy grew in the second quarter. In the second quarter GDP numbers come out. I will almost guarantee you that you will see a U.S. economy that is at its largest ever that it has ever been. So, please don't tell me the economy isn't growing. It is. What I think that means is that funds run by guys at PrimeCap Management are going to do just fine. As spending revs up, capital opportunity for instance, is my favorite of the Vanguard funds. That is I've been saying for more than five years since they were created, I really think the PrimeCap Odyssey Funds like Aggressive Growth and Growth are the real winners, and you can buy them now through Vanguard's brokerage arm after years of not being able to.
Let me take a couple other points here. Employment. I'm going to be the first to tell you that employment numbers need to get a whole lot better. There is no question about it, but we are seeing some private employment gains. They aren't much, but it is a whole lot better than the alternative, which is layoffs. Consumer spending, not rousing, but then again, it isn't horrible. 5 Series BMWs are sold out. $300 iPhone 4s are selling out, and apparently we're going to see a run on duct tape manufacturers pretty soon. People seem to be getting what they want. Fed Ex says they're booming. That's what I hear literally from people with feet on the ground who work there. Incomes. Again, they're not going up like gang busters, and if they were you would probably also see inflation going up like crazy. But incomes are going up. Again, it's a whole lot better than the alternative.
Europe. Germany is okay. It's a huge economy compared to Spains or Greeces or Portugals. The Euro was sinking but that isn't so bad for the Europeans since it makes their goods and services cheaper to a much broader global audience. Remember, the EU is a huge exporter and falling currency helps their exports. I don't know if anybody noticed, but yesterday Portugal actually was able to sell almost $2 billion in short-term six-month bonds, government bonds. They sold almost $2 billion at over 4% yield. Now, how would you sell $2 billion worth of bonds, particularly at such a high yield if investors didn't think you would be able to pay them back? Europe is not as big a problem as the headlines would make out. It's got some room to move.
But, again the best way to play this I think is with the diversified fund like an International Growth, which has a fairly good commitment also to emerging markets as well as the developed markets. I also like International Explorer, but as I explained in the newsletter last month, I think the addition of a second manager to the fund is not a positive. I've got that fund on my watch list. If you're interested in an alternative it's the World ex-US Small-Cap Fund. I would use the ETF. This ticker there is DSS because again you can trade it for free if you've got a Vanguard Brokerage account.
Let me hit a couple of other things. Earnings. Alcoa obviously kicked things off on Monday. They certainly helped the market get a nice big of juice going. Intel followed up yesterday. Things are looking pretty good for the earnings side. But, Intel, Alcoa and Fed Ex are to be believed. Things may not look to bad on the revenue side either, and that's what is real important when you start to see some top line growth. Finally, in terms of where we are now, valuations. This is probably the most important message I can bring to you right now. Treasury Bonds are expensive. Stocks of pretty much all stripes are cheap, but I'm talking about the market in general. Some stocks are cheaper than others. I like the large caps right now, which you can get a good hit from the Dividend Growth Fund.
But, let me tell you about this metric that I use to look at the comparisons between bonds and stocks. A very useful metric. It looks at the yield on Treasuries, which is an income yield, and compares it to an earnings yield, which is real growing earnings on the stock market. When I do the numbers, we get a earnings yield on the stock market that is gapped further from the Treasury yield than it ever has been in all the years that I've been tracking this metric. The gap or in bonds you'd call it a yield spread. The spread between the earnings yield on the stock market and the Treasury yield, the yield on a ten-year Treasury Bond is at an enormous high. I think that the valuation spread means that we are looking right now at a valuation spread that's even better than when the DOW was bottoming at the end of the first quarter of 2009.
A fund that's going to do well off this near-term bottom I think is going to be Dividend Growth. It's those large caps, strong balance sheet, global companies, that Don Kilbride advised, but it lagged in the initial rally off the March 2009 bottom. Balance sheets and dividend yields are strong, and they tend to shield this a bit when the markets go through rough patches. To give you a sense, you look at some of the top stocks in Dividend Growth, some of these stocks are up only 5%, 6%, or 10% above their 52-week lows. The S&P by the way is up 25% above its 52-week low. A lot of these stocks are actually down on the year, down 15%, 12%, 5% looking at everything from a Pfizer to an Exxon Mobil to a Pepsi to a Lochkeed Martin. A good range of companies and a good range of industries. These are stocks that I think are going to do quite well.
All right, let's take a quick look at Vanguard. What's new there, and how are you and I going to play that? Vanguarding. A catchy title. Something you and I have known about for years. As most of you probably remember, I came down pretty hard on Vanguard in March and April regarding this new marketing campaign and for good reason. There's enough what I would call confusion out there in the marketplace as it is without trying to put a new made up word into people's mouths. It's a fancy slogan, but really what it amounts to is little more than dollar cost averages. So I don't know why they don't just call it that and stop mincing words in press releases trying to show superiority of Vanguarding. Vanguard is a great company. They have a lot of great funds, but the Vanguarding concept is silly, and I'm much more happy with the way we look at investing.
The real lesson that I think can be learned from all these exhortations about how to invest is quite simple. Keep your expenses low. But I do want to add that unless you have a good reason, you can go for something more expensive. And a case in point I think are the PrimeCap Odyssey Funds. They have higher expenses, but they're out-performing and mainly that's because they're smaller and nimbler. So operating expenses are an important metric to look at when looking at funds. But, they are not the be all, end all. And, if I were to choose funds only based on operating expenses and nothing else, I think you are going to be leaving out a lot of terrific managers running some terrific funds.