Kim Arthur Sees Potential for Robust Returns in 2010

by: Kim Arthur

Kim Arthur founded Main Management, LLC in 2002 along with Richard Fredericks, Jim Concidine and Stephen Doyle. He currently serves as Main’s CEO and Portfolio manager and is a member of the Investment Committee. Under his lead, Main has accumulated roughly $300 million in assets under management.

The collective goal of Main's founding partners was to set up a wealth management firm that brought institutional strategies to individual investors. Accordingly, Main Management was one of the first firms to manage money exclusively using ETFs. Their objective is "to deliver investment portfolios with superior risk-adjusted net returns in a low cost, liquid, transparent, diversified, and tax aware manner."

As 2009 comes to a close, Seeking Alpha's Jonathan Liss sits down with Kim for a look back at the tumultuous year that was, and a look ahead to the major issues facing markets in 2010, identifying sectors and asset classes with particular promise for investors.

• • •

Seeking Alpha (SA): At the beginning of this year (through the March low), there was a real sense that there was no bottom in sight in terms of equities. Since March, the rebound has been spectacular pretty much across almost all sectors and asset classes. How did you initially position clients when the markets were in free-fall and how have you positioned them since then? At what point did you decide it was ok to get less defensive and start being more aggressive with client portfolios?

Kim Arthur (KA): When the markets were in a free fall with volatility at record highs, we ramped up our option overlay strategy to capture the inflated premiums at the time. After our investment committee call at the end of March, we concluded the market was fundamentally undervalued on a relative and historical basis.

Accordingly, we increased the equity exposure in our client portfolios, allowing them to participate in the unprecedented rally with a 70% equities [allocation]. Our investment committee’s ability to remain constructive in a market overwhelmed by fear and irrational behavior enabled us to capitalize on the opportunity.

SA: Name one investment that worked out particularly well in 2009 and one that was a bust.

KA: Our decision to get long the Market Vectors Steel ETF (NYSEARCA:SLX) at the beginning of 2009 worked out well for our clients; it's currently up 115% year to date through Dec. 24, 2009.

For the investment that was a bust, we bought the SPDR Gold Trust (NYSEARCA:GLD) at $88, sold calls on it and got called away at $94. GLD then proceeded to $120 over the next 2 months. Even though we were stopped out at $94, we brought in around $6 of option premium prior to getting called away so it wasn’t a total loss.

SA: Are we heading for another widespread dip in global equity prices in 2010, or will markets continue to keep their heads above water?

KA: Another widespread dip in global equity prices, to the extent of the recent waterfall event, is unlikely in 2010. In fact, 2010 has the potential for robust returns when you consider 78% of S&P 500 companies beat earnings estimates for Q3’09.

Additionally, the US stock market is closing in on the worst calendar decade for stocks going all the way back to the 1820s. As reversion to the mean enthusiasts who believe an extreme event is usually followed by a less extreme event, we view this stat as a positive indicator for equity performance over the next decade.

SA: In which sectors/asset classes do you expect strength in 2010 and beyond? Where do you expect particular weakness? Will we see a flight away from safety to riskier asset classes going forward?

KA: For 2010, we like Technology, Industrials, and Financials. We expect weakness in long term bonds. Currently, money flows into bond funds are 3 standard deviations above the mean.

SA: What are your expectations for commodities, the dollar and gold in 2010 and beyond? Where do you see oil closing out the next year?

KA: We believe the sharpest decline in the dollar has already occurred, which played a considerable role in easing deflationary pressures. The weakness in the dollar should persist in 2010 as US GDP continues to be a smaller part of global GDP. Gold will have support from developing countries' foreign reserves which have no meaningful gold position. Oil will trade up modestly from here based on global GDP growing, but will run into longer term headwinds with the continued growth from the electric and hybrid industries.

SA: Let's move on to some specific issues that will affect equity returns in 2010 and beyond. How is the healthcare reform currently being debated likely to affect healthcare sector returns? Will healthcare stocks continue to represent a good value for investors going forward? Will they still make sense as a defensive play?

KA: The healthcare sector made a good move in response to recent events in Washington and will continue this trend as we move into 2010. Biotech has several growth prospects worth keeping an eye on in 2010. Investors can gain exposure to Biotech companies through the SPDR S&P Biotech ETF (NYSEARCA:XBI).

SA: How about a climate bill. The general feeling according to sites like Greentech Media which follow these matters closely is that we won't get anything substantial until 2011. What are the investment implications of a wide-reaching climate bill for the energy and automotive sectors?

KA: China is expected to build ten new nuclear plants over the next ten years, more than 3 times the rest of the world combined. India, which currently has 17 plants and 4,000 MW of capacity, plans to go to 200,000 MW over the next 20 years. ETF choices [for the nuclear sector] are the Market Vectors Nuclear Energy ETF (NYSEARCA:NLR) and the iShares S&P Global Nuclear Energy Index Fund (NASDAQ:NUCL). The climate change initiative will develop as an emerging market investment theme over the next decade with lucrative propositions for the energy and automotive sectors.

SA: Do you think inflation will ramp up in 2010? Considering the massive budget deficit in Washington, what would be the ideal level of inflation?

KA: Inflation will begin to increase around the 3rd or 4th quarter of 2010, yet there is very little reason to worry until it reaches 4-5%. We consider an inflation rate of 2-3% as an ideal level for the US economy.

SA: As a follow-up to the last question, which sector of the bond/fixed-income market represents the best value going forward? Long-term or short-term; Treasuries, Munis, or Corporate bonds; U.S. or Foreign bonds? Have you been buying TIPS for your clients at all?

KA: We currently have a small position in TIPS for our clients. Regarding fixed income, we prefer short term paper, corporate bonds and emerging market sovereign debt. Investors can gain exposure to investments such as emerging market sovereign debt through ETFs like iShares JP Morgan USD Emerging Market Bond Fund (NYSEARCA:EMB). With interest rates expected to increase sooner rather than later, bonds should not be viewed as the safe haven they once were, which is why we prefer cash over bonds at the moment.

SA: Finally, how do you rate the Obama administration's handling of the mess they inherited? Is Bernanke the right man to continue at the Fed?

KA: Ben Bernanke has done a great job. Given that nine months ago rational people believed that the US banking system was bankrupt and capitalism was dead, Bernanke deserves full credit.