Jeffrey A. Miller, PhD, is CEO and President of
. Also a fund manager at the firm, he has guided the Sector
Rotation Fund throughout its exceptional history. Before beginning
his financial career in October 1987, Jeff was a college professor
who worked extensively with quantitative modeling of sophisticated
state and local tax issues. He is the author of the
A Dash of Insight
Seeking Alpha's Jonathan Liss recently spoke with Miller to
find out how he planned to position clients in 2011 in light of
his understanding of how a range of macro-economic trends were
likely to unfold in the coming year:
Seeking Alpha ((
How do you arrive at your investment decisions? Do you have
specific recommendations for our readers as we begin a new
Jeff Miller ((
Thanks for inviting me to participate. My company has a variety of
programs. We start with the client, not with our specific program
offerings. Once we determine the client needs, we match up a blend
Some of our methods are driven by a scientific approach --
models developed by experts, models that I personally test in ways
the developer could not have imagined. Other methods reflect my
personal analysis of the investment horizon. The answers in this
interview reflect my own analysis, stock picks, and sector picks.
These have done very well over our company's history.
Meanwhile, I would like to share some current output from our
Dynamic Asset Allocation model. Each day we ask the question: Which
five ETFs are the best choices for the coming twelve months?
We include a carefully selected universe of 56 ETFs. We chose
this fund universe to avoid a situation where our "top five" were
all from the chip sector, all Latin America, or the like. We picked
a top representative for each sector group, based on liquidity and
a narrow bid/ask spread.
I want to be clear. We ask the question each day. We are not
"buy-and-hold" so we do not hold the positions for a year. This is
active management. If you ask the "one year" question every day,
you get about thirty changes in the portfolio. The portfolio also
includes fixed income ETFs and three inverse ETFs. We can get very
conservative, and even go short if that is indicated.
As long as readers understand that our recommendations might be
somewhat different in two weeks, I would like to share our current
best recommendations for 2011 with a line on the logic behind
- [[KOL]] -- Energy demand, global economy, a cheap
- [[XME]] -- Metals and mining -- economic strength, the
- [[PXQ]] -- Networking -- an emerging global trend.
- [[XRT]] -- Retail -- the consumer has been stronger than
- [[GDX]] -- Gold -- a store of value and a hedge against
As you will see in the rest of the discussion, my own choices
differ from some of the model recommendations, but that is just
fine. It is good to have the discipline of a model, and also to
have programs with different philosophies.
If you look at a chart of these ETFs you will see plenty of
strength. This is a winning long-term strategy that deserves
respect. It may miss smaller trades, but it keeps you on the right
side of major moves. An easy way to get a feel for this is to
compare the stock price to the 50 and 200-day moving averages over
the last year. GDX has started the year poorly, but is still among
the leaders in our ETF universe.
click to enlarge
Despite predictions of a dip in equities amid slow global growth in
2010, stocks were clearly the better choice than bonds in 2010,
especially in Q4 where bonds sold off almost across the board
whereas stock returns remained robust. How are you planning to
position clients with a longer-term horizon in 2011 in terms of an
I like the distinction about the "longer-term" horizon. Each client
is different. The first question to ask is whether the client needs
wealth preservation or wealth creation. Next you need to know about
risk -- and I mean a very specific discussion. Even investors who
enjoyed nice returns in the last two years still needed to deal
with some corrections.
With that in mind, I am recommending an adjustment of at least
10% more stocks to one's normal stock/bond allocation. Many stocks
and sectors are attractive in terms of earnings and earnings
growth. With interest rates so low, there is a lot of risk in
long-dated bonds. I am keeping bond portfolios in shorter
maturities -- seven years max.
Name one ETF investment that worked out particularly well in 2010
and one that was a bust.
This is a little tricky for me. We have two ETF trading programs
with differing time horizons. Both were profitable in 2010. As is
the case with every trading system there were winners and
Playing along with the question, we had one of our biggest
trading losses in [[XLY]] in July. The consumer discretionary
concept was not working in July, although it did well as the year
wore on. We sold the position and moved on.
One of our best trades was picking up the move in [[GDX]] during
September. We locked this one in for a nice gain.
In a trading system you need to consider both your batting
average and the amount of the win.
Are we likely to see a continued sell-off in fixed income ETFs into
2011? Where can income investors turn for safety while still
getting a reasonable yield?
I have written about various income opportunities in my "
Quest for Yield
" series. I am looking outside the ETF universe to solve this
problem: building bond ladders, writing covered calls, and finding
great dividend stocks with the potential for appreciation. There
are some ETFs that attempt these same goals, but I expect to
continue better performance with my own picks.
Which bond sector are you angling towards - Treasurys, Corporates
(and if so Investment Grade or Junk?), Munis, Sovereign Debt?
My bond program emphasizes investment grade corporates. Some
investors are reaching for yield in risky places. My bond program
is very conservative. For those who need more yield we use strong
dividend stocks and covered writes.
In which sectors do you expect strength in 2011 and beyond? Where
do you expect particular weakness?
The economic recovery has been sluggish so far, but there are many
signs of improvement in the data. The Goldman Sachs economic team
just upped their forecast for 2011, citing the start of a "real
This is bullish for cyclical stocks, the technology sector, and
Any specific ETFs or stocks (beyond XRT) you'll be recommending
clients add to the equity portion of their portfolios?
) benefits from worldwide earnings growth. Apple (
) is still cheap on an earnings or cash flow basis. Many investors
get stuck on the absolute price of the stock instead of thinking in
terms of earnings. [[XLK]] picks up the technology theme for those
who do not want to analyze specific stocks.
Financial stocks are still cheap and are benefitting from the
yield curve. JP Morgan (
) is a good example, and I also hold Goldman Sachs (GS).
I have re-established some energy positions, after avoiding the
BP-related problems last year.
Health care has lagged. Eventually the market will quote
focusing on the political debate and see the demographic forces.
[[XLV]] is one way to play this.
What are your expectations for commodities, the dollar and precious
metals in 2011 and beyond? Will we finally start to see some real
inflation in the coming year?
As long as we have a current account deficit (let's call it a
negative trade balance for the average reader) there will be
pressure on the dollar. It seems like a lot of that has already
been felt, but no one really knows. We need a change in China's
exchange rate policy, but that has been true for years.
The emergence of real inflation in an era of high unemployment
is very unlikely. This interview is not the place for detailed
arguments, so I'll merely note that past times of stagflation share
little with current times.
To summarize, I like stocks better than commodities for the
coming year, although my long-term model has GDX in the top
But no actual commodities exposure? GDX is made up of gold miner
That is right. We invest in gold via the miners. We do not have
direct commodity holdings.
Let's move on to some specific issues that will affect equity
returns in 2011 and beyond. In November the Fed implemented another
round of QE. Will we get a third round of fiscal stimulus in
No one knows whether there will be another round of QE, including
the Fed! This entire discussion has been a sideshow -- fun to
debate, but missing the message for investors. I'll state that
message quite simply: The Fed is going to maintain low interest
rates and QE until there is greater confidence of economic
recovery, including some improvement in employment. If the economy
recovers as briskly as the Goldman team believes, there will be no
more QE. It will not be needed.
How does the incoming Republican House majority affect the economic
outlook for the next two years? Is gridlock ultimately good or bad
for equity returns?
I do not expect gridlock. There will be action on issues requiring
The GOP success will change the nature of compromise. The deals
will lead to more moderate policies. We have already seen this in
the lame duck session, even before the new members were seated.
Those deals would not have been achieved without a recognition of
the new reality.
There is a perception that gridlock is good, but I do not think
it is very relevant for the market at this juncture. The key
economic policies are already in place.
How about the situation in the EU. Have you lightened up on
European stock/bond exposure in client portfolios as a result of
continuing contagion there? Are there any bright spots you'd focus
on in terms of European equity allocation?
Like everyone else, I carefully monitor developments in the EU. So
far the policies seem to have been reasonably effective. The EU and
the IMF stand ready to do more.
Unlike those who merely point and worry, I like to monitor
actual data. My weekly update features the St. Louis Fed's
Financial Stress Index. I recommend monitoring this compilation of
eighteen financial indicators (including many interest rates and
spreads). This lets you enjoy market gains when stress is low, and
reconsider if things actually get worse.
Do your clients currently have any Europe exposure? In stocks,
Europe does not figure in my own themes right now, and it is not
near the top of our model lists. It is an important story, and I am
more optimistic than most about a solution, but it is important
enough already without taking on direct exposure.
Same question but for U.S. states like California and Illinois.
Will a government bailout ultimately
be necessary to backstop state debt as defaults pile up? Are muni
bond funds something you're avoiding going into 2011, or do their
significant tax benefits still outweigh the possible downside of
one or more states defaulting?
I do not expect state defaults. The defaults will come in specific
sub-municipal bond programs. I also do not expect a magical
solution, and certainly no federal bailout. Each state will need to
find a combination of tax increases and spending cuts. It is not
I follow this closely as an investment manager. I am also a
former professor who taught public finance and a member of a
financial advisory board for one of the largest school districts in
Illinois. I have a front-row seat on this one.
This is a problem that defied solution during an election
campaign and a deep recession. We will now take a closer look at
And by the way, there is once again a choice for investors. You
can get obsessive about the anecdotes, or you can follow a real
market indicator, the credit default swaps on state debt. The
numbers have been rising, but they are nowhere close to panic
I do not currently hold any muni funds, but I find current
yields much more attractive. Like Bill Gross, I see the risk/reward
as pretty good for clients who benefit from the tax break.
Are you likely to recommend munis to appropriate clients in the
Yes. The muni yields are very attractive for clients who want the
tax advantage. Some care is required in making these choices, of
The U.S. housing market seems to be in the midst of another
prolonged leg down. How are you playing this via ETFs? Is the
commercial real estate market a better bet going forward? How much
weight are you giving to REIT funds in client portfolios?
I do not know if we are in the midst of another prolonged leg down
in housing. Many sources indicate that we may have a bottom in
2011, at least in some areas. I currently have no long-term
position in these markets or in REITs, but I would not be surprised
at a change. Our short-term model has signaled a buy on
homebuilders in recent weeks.
If you decide to go that route, are you more likely to play
homebuilders with individual names, or via ETFs like XHB or
This is another sector where it seems early to call a turn.
Typically we play via the ETFs. If housing starts to look
interesting, I will take a closer look at individual names.
Finally, one of the great economic stories of our time is the
emergence of China and to a lesser extent, India as global economic
powerhouses. How much weight do you recommend for emerging market
ETFs in both stock and bond ETF allocations?
I would expand the question to include Russia and Latin America.
It is wise to take a step back and see the broad global trends.
All of my investment programs reflect global demand. In my stock
selection I make sure to include companies with significant revenue
from abroad. Think Caterpillar (
). Our ETF programs are model driven, but have frequently
participated in the emerging market rally. I have often written
about this in
my periodic ETF Updates
Having said this, I think that the foreign ETFs and commodities
had a very good run, while the US market lagged. I expect to see
some "mean reversion" here this year, as the relationships return
How do you plan on getting most of your U.S. equity exposure? Any
broad funds, or do you generally prefer sector and single stock
We have never advocated a buy-and-hold approach. Many broad funds
are closet indexers, so you are just buying the market. We find
investment themes, and then choose ETFs and stocks to fit. While we
do not beat the market every year, we do over time. We did not have
a "lost decade."
There are many companies that are developing new technology,
introducing new products, and breaking into new markets.
Productivity is better. The opportunities are there, and the prices
are quite reasonable.
I own CAT, AAPL, JPM and GS personally and in client accounts, as
well as the ETF names as model choices.
2011 Outlook for Markets, Bonds, the Dollar,
Emerging Markets, Gold and Silver