GMO Is Intrigued With the Equity Market Possibilities of Japan but Debt Dynamics Are a Concern

by: Roger Nusbaum

This week's Barron's interview was with Ben Inker who is the head of asset allocation at GMO. Part of his job is to run the GMO Benchmark-Free Allocation Fund (GBMFX), an open ended fund that is closed to new investors. The interview focused on a couple of large macro themes, a couple of specific things GMO is doing now and some insight into the firm's process for decision making. Some things really resonated with me and some struck me as being a difficult way to do things.

There was a lot of discussion about value and assets being priced appropriately to offer the right type of reward for the risk taken. This leads to a point that I have made before which is that stocks might be cheaper than bonds at any given moment (or vice versa), but that does not have to mean that stocks are themselves cheap and must be bought. There is very little in the way of fixed income that they like but there are some segments of the equity that they think are promising.

There was space devoted to their preference to high quality domestic stocks but there was no definition or examples given. They did discuss the fact that GMO's idea of high quality has generally lagged the broad market with a couple of exceptions for many years. This led to comments about patience in investing.

Patience is an important concept but so too is another idea I've talked about before in the context of wanting to own stocks with many different attributes, which is that cheap stocks can stay cheap for many years. There is nothing that says a cheap stock ever has to realize its potential. Of course it very well could, but the idea that it definitely will, can be wrong. Sometimes expensive stocks do very well.

GMO seems to be intrigued with the equity market possibilities of Japan, Greece and Ireland. Their reasons for Japan were mostly the same reasons that people have been calling "this year" to be the year for Japan for a long time now. They of course could be correct but the debt dynamics and demographics stink. As I read this part of the interview the thing that occurred to me is that not every single segment that goes down a lot becomes a compelling buy.

Inker's comments about their thoughts about debt seemed to almost contradict what he said about equities. They like debt from Australia and New Zealand (me too) because these are the only two countries, as they see it, that can pay a yield 2% above inflation and be capable of paying their debt. So they are willing to go where the fundamentals stink for equities to find value but not so with debt? I'm not sure if that is correct, but that is the impression given in the interview.

One last point was about timber land as an asset which the firm is big on. Inker does warn that exchange traded vehicles, like timber REITs, are not the same thing as buying actual timber land.

Obviously the firm's track record is fantastic but they take a longer term view. Per Morningstar, the fund (which may not be the best proxy for their management) has lagged its benchmarks for the last one and two years. For three years and longer it has outperformed meaningfully and is above its 2007 highwater mark.

In all the times I've read anything about them there are things that are useful and things that are not. They can be great at what they do without having to agree with every last thing they say and do.