Bill Nygren has a stellar record delivering solid long-term results for shareholders in the Oakmark funds he co-manages. The $6 billion flagship Oakmark fund ranks in the top 20% of similar large cap funds over the past 1-year, 3-year, 5-year and 10-year periods. The 9.5% annualized gain of the more concentrated $2 billion Oakmark Select fund over the past 15 years -- yep Nygren has been around the entire time -- is five percentage points better than the category average.
So we're agreed that Nygren isn't a stock slouch.
And in a second-quarter note to shareholders of both funds he had a compelling riff on why he thinks bonds, not stocks may be the riskier investment these days.
Basically his argument boils down to: yes, we all know that historically bonds have always delivered a smoother ride than stocks. But history might not be a great guide given the abnormally low nominal rates we've got today.
From Nygren's missive: "We have relatively little history of bond yields being so close to zero. And when valuations are at extremes, as we believe bonds are today, historical price volatility might not shed much light on future risk."
Nygren points out that 10 years ago the 30-year Treasury yield was 5.8%. He runs through some math and concludes that if the long Treasury were to climb back to that 5.8% level over five years the principal value of the existing bond would crater 43%. Even after adding back the 14% in interest the bond would deliver in that stretch you're still looking at a 29% total loss. On. A. Bond.
Now of course, no one is dumb enough to have all their bond money sitting in 30-year Treasuries , which are insanely sensitive to rate increases. Then again, Morningstar estimates net inflows of nearly $1.7 billion into long-term government bond ETFs over the past 12 months.
And yes, a government bond held to maturity guarantees the return of principal. But do you really want to hold onto a low-yielding bond once rates (and inflation, no doubt) start to climb?
Nygren's point is to open some eyes at the huge potential risk that long-term bonds may present given today's rock bottom yields. And given that stocks are his wheelhouse, his bigger point is that stocks aren't exactly packing epic risk in historical terms.
Back to his note:
"Contrast that [the long-term Treasury} to the S&P 500 , which yields just a fraction of a percent less than the bond and we expect will grow earnings at about 6% per year for the next five years. If that growth rate is achieved, the current P/E multiple of 12.9 times would have to fall to 10 times for the S&P price to stay unchanged. The P/E would have to fall to about 7 times to match the loss that the bond investor would sustain if yields reverted to their decade ago level. With a historical average P/E of about 15 times, a 7 times multiple seems like quite an outlier."
And finally, the money shot:
"We believe that investors who are trying to reduce risk by selling stocks and buying bonds are probably increasing their risk of losing money. Investors have developed a prejudice about riskiness of asset classes that ignores valuation levels."
That's not to suggest you bail out of bonds and pile into stocks. Surely a well-reasoned bond portfolio that doesn't overload in the long-end of the yield curve provides important ballast for your stock portfolio. But given the gobs of money that has flowed out of stock funds and into bond funds over the past few years, maybe it's a provocation to revisit your long-term allocation strategy and make sure you're not overweight bonds, especially long-term issues.
Curious what stocks Nygren likes these days? Well, the top-five holdings in the flagship Oakmark fund, co-managed with Kevin Grant, are Capital One ( COF ), Comcast Class A ( CMCSA ), JP Morgan Chase ( JPM ), Oracle ( ORCL ) and eBay ( EBAY ) and it's worth a look at each one's stock chart .
YCharts also has a Nygren Portfolio you can rummage around for more investing leads. Just keep in mind, Nygren is the epitome of the patient long-term investor. Turnover in the Oakmark portfolio was 18% the past year, meaning just 18% of the portfolio changed. The typical stock fund manager has a turnover rate of 100%.