Roger Nusbaum is an Arizona-based financial advisor at
Your Source Financial
who builds and manages client portfolios using a mix of
individual stocks and ETFs. Roger writes a popular blog, which
focuses on 'top down' asset allocation. Roger is particularly
focused on exchange-traded funds, risk management in portfolio
building and investing in international markets.
Seeking Alpha's Jonathan Liss recently spoke with Mr. Nusbaum
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.
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
Perhaps I am remembering incorrectly but that stocks were cheaper
than bonds one year ago was widely believed, although of course
there was no guarantee that the cheaper asset would be the
outperformer. While I expected a modest decline in equities for
2010, I think the consensus was pointed more towards an up year, at
least on the sell side.
We don't really have plans to alter people's target allocations
based on perceptions of what the market may do. Within each asset
class we have specific ideas on how to position. In equities we
have been slowly increasing our foreign exposure for many years and
expect that to continue. Five or six years ago we were about 30% in
foreign equities whereas now we are well above 40%. Among other
places, I would expect that we would add South Africa into client
accounts this year, and increase China (we are underweight China
via China's weight in [[EMIF]] and [[KOL]]).
In fixed income we have been favoring short dated corporate
bonds (individual issues) and short dated foreign sovereigns
(individual issues) to minimize interest rate risk. We are
underweight with funds that could be hurt should rates rise
meaningfully. We will go further out on the curve when bonds aren't
so close to all-time low yields.
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?
Yields are very close to all-time lows which obviously means prices
are high. Prices can stay high for a long time but buying high
carries risks of large declines. Short dated paper, talking
individual issues, does not run the risk of getting crushed if
rates go up, because they have a par value to return to in a year
or two. ETFs have no such par value to return to.
The bigger point is that ETFs are simply tools. For some
exposures they are the best way to go and some exposures they are
not and that which is best now may not be best in the future. Most
of our exposure, as mentioned above, is in short dated individual
issues because that is where I see the least risk of large price
declines. We do use ETFs here and there for certain fixed income
exposures, for example we recently added the PowerShares Emerging
Market Bond ETF (
), specifically choosing dollar denominated exposure for now.
In my opinion this has been a lousy environment for bonds.
"Reasonable" yield is in the eye of the beholder, but fixed income
is not really a place where I want to take a lot of risk for
clients. On a related note we are avoiding municipal bonds, which
seem like an obvious trouble spot waiting to happen.
In which sectors do you expect strength in 2011 and beyond? Where
do you expect particular weakness? What factors are key in coming
to your investment thesis?
An idea I have been working with is that sector decisions will be
far less important in the new decade than the previous decade. Tech
warned of trouble by virtue of its 30% weighting in the S&P 500
11 years ago, as did financials by virtue of their weighting of
20-22% as what we now know as the bubble was inflating (a sector
greater than 20% is a warning sign). That this happened twice, so
close together leads me to think it won't happen for a while, which
makes sector decisions less important for now.
That being said, I think the fundamentals for domestic and
European financials stink and want no part of them. "The book"
would tell us to reduce exposure to utilities and to a lesser
extent Ma Bell types of telecom in the face of rising rates. The
demographics of the US would seem to favor health-related companies
but that has been true for awhile and certainly did not matter in
2010. As a note, we own [[NVO]] with the expectation that more
people will have diabetes.
I can't stress enough on this point that I think country
selection and theme selection are going to be more important than
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?
I should qualify one thing before trying to address this question
which is that, inspired by John Hussman, we are focused on the
portfolio result over a longer period of time, like an entire stock
market cycle. Going back over the last five years things like
currencies and commodities have had favorable returns, even if they
have not done well every single year. Looking forward I can't
construct a fundamental case for the US dollar, but of course, like
in 2008, the dollar can go up. The dollar winning an ugly contest
and going up in 2011 is not what I would call a fundamental
argument. I do think the euro is worse off and we are avoiding that
as much as possible.
We own gold in the belief that no matter the price, if something
bad happens today it will go up tomorrow--insurance. Ex-gold our
commodity exposure is in the related equities for now. In the past
we have had agricultural commodity exposure but for now do not.
This could change at any time.
One thing I would add here is that some of the asset allocation
suggestions of 20% in commodities is way too much for us.
Commodities, among other things, are a source of volatility. Such a
large component in such a volatile space invariably causes a lot of
anguish during a downturn, as people find out the hard way that
they had too much exposure.
As far as inflation, we already have it--inflation being an
increase in the money supply. The question everyone cares about is
whether it leads to price inflation. It would be hard for me to peg
whether meaningful price inflation starts in 2011. What is more
important to me is that the Fed and the Treasury are resorting to
desperate measures to try to pump up the economy. Expecting
unintended consequences is only logical. Disbelieving that Bernanke
can control inflation is only logical. As our debt is not
denominated in another currency I do not believe true
hyperinflation is in the cards, but inflation that is high enough
to be a meaningful drag on the economy is easy to visualize, as
bond yields would have to go up to an uncomfortable (for borrowers)
As one anecdotal note, my health insurance premium went up 25%
for the New Year.
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 2011?
Which sectors/asset classes do you think are ideal to play the
The day I am writing this James Bullard said that the dates and
amounts for QE2 might change, in an attempt to say there would be
no QE3. It would be difficult to assess what the political will for
this will be a few months from now, but that they have embarked on
a series of desperate measures to try to fix things, which combined
with my belief that it will take quite a few years to fix the worst
financial crisis in 80 years, leads me to believe there will be
more policy regardless of what it is called. All of the policy
measures taken have come up far short of what was promised and this
will continue to be the case which creates visibility for this to
go on for years. Contributing to this is the lack of political will
to make uncomfortable spending cuts, a political cycle that seems
to not be conducive to addressing large macro problems and the
failure of society to realize that a solution involves sacrifice by
The obvious investment solution would seem to be to seek out
investment destinations where desperate actions are not being
taken, markets that had more of a normal contraction/bear market,
which includes just about everywhere except the US, big Western
Europe and Japan.
Which countries exactly are you referring to when you say "big
This is a term I use frequently to mean Germany, France, Spain and
although not 'big', Portugal and although not really 'Western',
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?
Gridlock, historically a positive, probably lengthens the kicking
of the can down the road. This country needs politicians willing to
make difficult decisions (this is of course oxymoronic) and if we
do not have that then things cannot get back on the "right track."
Other markets can do well regardless of the US political
environment, which is again where I think people need to look. To
be clear I would not expect any market to go up during a worldwide
panic but Brazil, as one of many examples, went up 300% in the
previous decade as the US was dropping 24%.
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?
We have had little to no exposure to 'big' Western Europe long
before the crisis due to a generally uncompelling growth story, and
I do not see changing this anytime soon. We sold our one Irish bank
in March 2008 and Telefonica (
) shortly thereafter, but we've always been aggressively
underweight the region. We do like Scandinavia with Statoil (
), Volvo (VOLVY.PK) and NVO. We've also had Novartis (
) for years and in the UK we've had Diageo (
)--we sold Barclays PLC (BCS) in December 2007.
To my way of thinking, Europe is in obvious trouble and while
the outcome may not be as bad as people think, it would make sense
for European equity performance to generally lag the rest of the
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
As mentioned above we are avoiding municipal bonds as they seem
like an obvious trouble spot. The states are in trouble with only
two states not in deficit the last time I looked (Montana and South
Dakota) and almost every state having pension shortfalls. These
problems combine with lower income tax revenues (fewer people
working), lower property tax revenue (lower assessed values) and
lower sales tax revenue (presumably people not working spend less
This adds up to make munis unattractive. If the risk is
abnormal, where we are talking fixed income, I'd rather avoid it
altogether and not have to be right about whether any states need
to be bailed out.
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?
We sold Equity Residential (EQR) almost immediately after Sam Zell
sold Equity Office Property and haven't been back since. As a
repeat theme, I think the fundamentals stink so we have no
exposure. If I were going to look at this space I would look at the
college campus-related REITS, but again, I am not looking.
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?
First let me say I have come to believe the term "emerging markets"
has lost most of its meaning, as it is now the developed markets
that are closer to being over-indebted banana republics than many
of the so-called emerging markets.
That being said I pick countries for inclusion in the portfolio
based on their attributes. Commodity based economies tend to offer
better diversification for US based investors who of course live in
a service based economy. The idea here is that countries with
different attributes have a good chance of being at different
points in their economic cycles which means they could be at
different points in their stock market cycles. Case in point, both
Brazil and Norway kept going up for eight months past the US peak
in October 2007.
Right now we either target 10.5% or 14.5% in emerging market
exposure depending on whether you consider Israel an emerging
market or not.
Specifically with China we owned an oil stock for years up until
June 2007. We sold out after a nice gain and stayed out until
August 2008 when we bought China Mobile (CHL). We sold CHL in late
2009. For now our exposure to China, as mentioned above, is an
underweight that comes from China's weight in the iShares Emerging
Market Infrastructure Fund (EMIF) and China's weight in the Market
Vectors Coal ETF (KOL).
We have not had across-the-board India exposure in a long time
but that could change soon. It seems like a more difficult country
to access as most of the ETFs are broad based, which is not my
preferred way into too many countries. There also seem to be fewer
individual stocks to choose from. By default that might point me to
the EG Shares India Infrastructure Fund (INXX) but to be clear I am
not there yet and don't know if I will get there.
For the coming year, also mentioned above, I can see increasing
China one way or another, and I think I will be adding South Africa
but am not sure of the best way in as of yet.
As for fixed income I mentioned owning [[PCY]] for most clients.
This is a recent purchase and it is down a little from where we
Name one ETF investment that worked out particularly well in 2010
and one that was a bust.
In the equity portion of client portfolios we own a mix of
individual stocks and ETFs, but that mix favors individual stocks.
A couple of our best performers have been Novo Nordisk (NVO) which
we bought early in the year, Nike (NKE) and Caterpillar (CAT) which
are both long-term holdings, and anything to do with Chile. Most
clients own Santander Bank (SAN) and some own iShares MSCI Chile
(ECH). The SPDR Gold Trust (GLD) has done well too. One other ETF
that has done well is the WisdomTree International Energy ETF
Luckily we've not had anything really blow up on us--not to say
there have not been laggards. Statoil (
) is down 8% YTD as I write this, which is disappointing. The
nature of this name is to move higher in short violent spurts but
it's no stranger to long sideways moves. Johnson & Johnson
(JNJ) seems to have a bad headline every other day but the name is
only down 3% for the year.
Target Retirement Date Lifecycle Funds: Ignorance
Is Never Bliss