Wednesday, October 14, 2009

The Old Abnormal

Earlier this decade we were graced with the catchphrase the ‘new economy’ to explain why price to earnings ratios of 100 made sense. Today’s catchphrase, the ‘new normal’, has been coined by the folks at PIMCO to explain why we should get used to much lower growth rates for a while. Mohamed El-Erian and his boss Bill Gross have been on a bit of a mission touting the virtue of weighing security portfolios in favor of bonds and reducing allocation to equities. The logic is that the Great Recession has embarked us on a new era of slow growth characterized by high employment, capital starvation, more regulation and the rising power of China and other emerging markets at the expense of the United States. According to PIMCO equity exposure should now be in the 30% to 54% range as opposed to 60% with no more than half in U.S. equities. Needless to say this advice will benefit PIMCO as one of the biggest bond shops in the world with over $800 billion under management, $120 billion of that coming in since the beginning of 2008.

Perhaps not surprisingly the masses are blindly following the advice of the 'experts' and succumbing to Mr. Market’s mood swings. There is a lot of talk about slow growth, the importance of asset allocation and the nasty repercussions of a depreciating U.S. Dollar. I recently posed a question to Stephen Yacktman of Yacktman Funds during a Q&A facilitated by the Wall Street Journal’s Journal Community and here is what he had to say about the new normal:

So one can try to figure out how to play the asset allocation game or one can concentrate on buying good businesses at reasonable prices. As I have discussed before, many of the largest U.S. corporations offer a natural hedge against a declining U.S. Dollar not to mention the fact that by virtue of being multinationals they will also let you participate in the growth of non-U.S. economies. This is the time to invest in equities for the long run not when growth resumes and the ‘new normal’ morphs into the ‘old abnormal’. To be sure Mr. Market has been on a bit of a tear since April and equities are more fairly valued than cheap. But companies such as Johnson & Johnson (NYSE: JNJ), Coca Cola (NYSE: KO), Procter and Gamble (NYSE: PG), Pfizer (NYSE: PFE), Microsoft (NYSE: MSFT), Intel (Nasdaq: INTC) and Ebay (Nasdaq: EBAY) are worth considering despite the recent rally.

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