Should You Invest for a 2nd Half Surge Across the Asset Classes?

Companies have scampered to cut costs for the last year now, shedding more than 5.5 million jobs since the recession began. They've slashed payroll, dividends, equipment expenditures and inventories.

Am I saying that the economy will be fixed? Hardly. Yet the rapid-fire pace with which corporations have acted will likely benefit the investor in the 2nd half of 2009.

The probability exists that even the smallest, most modest pick-up in consumer or business demand, coupled with record-breaking government stimulus, will lead to greater economic stability in the short-run. It may not be supercalifragilistic growth for the U.S economy, but greater stability means greater confidence on the part of investors.

I'm not predicting that investors will go hog-wild for the riskiest of assets. But I am suggesting that it will be near impossible to ignore a wide range of historically undervalued investment-grade corporates, historically undervalued emerging market bonds, historically undervalued convertibles or historically undervalued common stocks.

There are few 20- or 25-year periods in which any research report hasn't identified the various asset classes as cheap today. And while cheap doesn't always mean smart -- in fact, it often means that it'll be on its way to getting cheaper -- the S&P 500 even offers a dividend yield that's about 50 basis points higher than a 10-year treasury.

Think about what that means. After the worst decade in the history of U.S stocks, if U.S. stocks were to go up, down, sideways for 10 more years, and ended up in the exact same place as it is today at 850, you'd get about 3.5% annualized from the dividends. That's better than the 10-year.

Is it worth the risk? Investors will think so. After all, it's pretty darn hard, if not impossible, to find a 20-year rolling period for stocks that came out at 0%. The greater likelihood is capital appreciation for the S&P 500, and that would complement the dividends received.

Keep in mind, I am NOT advocating the purchase of the S&P 500 for a 10-year holding period. I do not buy-n-hold-n-hope... ever! I protect my purchases with trailing stop-losses and reevaluate asset allocation for my clients frequently.

Instead, I am merely pointing to probabilities based on historical opportunities. Anecdotally, I am getting plenty of calls from clients who want to "get back into assets" when 8 weeks earlier lots of calls were for "100% cash." And that was from people who may only have had 80%-85% fixed income/cash and 15%-20% stock!!! They had lots of cash... and it wasn't enough!

The question for an ETF investor, then, is where to allocate his/her assets. If it's true that stocks, bonds and everything in between are going to perform admirably in the 2nd half of 2009, what might be a way in which to set up a portfolio for a reasonable risk/reward outcome?

Let me use 3 areas that I mentioned earlier: convertibles, emerging market bonds and investment-grade corporates. Do I think that convertibles are a venerable consideration right now? Absolutely.

However, we only have one, traditional, ETF available and it was just recently introduced. The SPDR Barclays Capital Convertible Bond Fund ETF (CWB), in spite of any track record, will probably do well in the 2nd half of 2009.

Then again... I say, probably. Convertible bonds are a hybrid area where you're purchasing an investment that will usually rise with the stock price, but not as much. And they will usually fall with the stock price, but not as much. Moreover, convertible bondholders can convert to common stock, often at a sizable discount to the stock's trading market value.

Meanwhile, the current yield on the Capital Convertible Bond Fund ETF (CWB) is 6%. That's a feature that offers added protection against the dark and dingy downside. What's more, CWB tracks an index that is diversified across 138 holdings, reducing the likelihood that any one corporation will kill the exchange-traded fund investment.

Emerging market bonds have 2 popular ETFs, and they've already popped quite a bit in 2009. The PowerShares Emerging Market Sovereign Debt Fund (PCY) is up 12% in 2009. Meanwhile, the JP Morgan Emerging Market Bond Fund (EMB) is relatively flat on the year, but it has climbed above its long-term trendline.

Investment grade corporates have had a surprisingly rougher haul so far. The iShares Liquid Investment Grade Bond Fund (LQD) is off about 5% in 2009, while the Intermediate Corporate Credit Bond Fund (CIU) is off about 1%.

Yet the 5.5% average yield is 2.5% greater than comparable 10-year treasury debt, which is quite compelling for A-grade corporates on a historical basis. Investors who gain some confidence as well as investors who require more than the maintenance of purchasing power in treasuries or CDs eventually move one step up the risk ladder to A-grade corporate debt.

Disclosure Statement: ETF Expert is a web log ("blog") that makes the world of ETFs easier to understand. Pacific Park Financial, Inc., a Registered Investment Adviser with the SEC, may hold positions in the ETFs, mutual funds and/or index funds mentioned above. Investors who are interested in money management services may visit the Pacific Park Financial, Inc.web site.

Comments

[jack kreg:]

You can also buy closed end funds, CEF's, many with substantial discounts, I dont really like the leverage, but at least the discount gives some hedge against losses in NAV.
In the emerging market debt, consider ESD, recent discount of 18% and yielding 13%, holds a basket of debt from emerging country's (gov), not sure about leverage. (Western Asset Emerging Markets Debt Fund).
Cohen-Steers, utility fund, UTF, recently sold between 7-9, shares I bought at $8.50, pay 96 cents/yr, and have NAV of $11.18. Of course, this purchase was made in the BAD days of early March, although, recent price of low 9's is still a bargain. The fund holds solid American utility's with some 30% leverage.
So, CEF's offer an alternative to ETF, I particularly like the discounts in the teen's.

Apr 24 02:42 PM

[RiskReturnO...:]

Agree completely on convertible bonds. Preferred stocks look great too. LQD hasn't performed well lately, even as credit spread have come in, the higher 10-Yield T-Bill yield is perhaps limiting upside capital gain potential on LQD. A pairs trade of long LQD and long TBT has produced pretty good results so far; we'll see what happens after next FOMC meeting April 29. If no surprises on quantitative easing programs, perhaps 10 year yield could finally break 3.0%, setting up for good rally on TBT. The LQD holding will be hedge accordingly, and you can still enjoy the 6% yield.

Apr 24 03:22 PM

[Joetown:]

I have been unable to find CWB--or for that matter any other convertible bond ETF. Has this fund been listed?

Apr 25 10:48 AM

[Another View:]

Your "lazy" portfolio recommended on Dec. 30, 2009 is down nearly 9% YTD. The SPY is down only about 3.25% YTD.

Apr 25 03:51 PM

[Tao Man:]

Another View - Gary gets out of all these recommendations that don't turn out well for both himself and his clients. I guess that creates a lot of trading and removes the need to have strong convictions?

Jun 04 07:58 PM