Street One's Scott Freeze: Stocks Over Bonds in 2011

by: Street One Financial

Scott Freeze is the President of Street One Financial, a Pennsylvanie-based firm that specializes in ETF/ETP, equities, and options trade execution. Scott has been involved in ETFs from both a trading/execution and a product strategy standpoint since the beginning of the decade. He views Street One's primary role as enabling its clients to construct better portfolios and recapture ...More basis points that would otherwise be lost in the marketplace, through better trade execution.

Seeking Alpha's Jonathan Liss recently spoke with Mr. Freeze 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.

Jonathan Liss (JL): 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 equities/bond mix?

Scott Freeze (SF): We have been warning clients about the dangers of Fixed Income ETFs since February 2010, and have been aggressively moving from bonds to equities since the summer. We continue to see no reason to invest in bonds as we fear downgrades and muni defaults will be the news of 2011. We continue to increase equities and reduce bonds.

JL: 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?

SF: We continue to be beyond bearish on bonds. We see safer alternatives in equities with good dividend yields and Dividend/High Yield equity-based ETFs.

JL: 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?

SF: Financials and healthcare should begin to catch up with the rest of the market. Banks are finally cleaning up balance sheets and earnings should continue to improve. No fundamental reasons exist for healthcare to have lagged the market.

JL: 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?

SF: Commodities will continue to be strong. The dollar will strengthen against the euro until all euro debt issues have been resolved. Precious metals will continue to attract assets as a hedge against currencies. We do not see appreciable inflation before the end of 2011, but we do expect inflation to be a very significant factor beginning at the end of 2011 and especially through 2012.

JL: 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 Fed's actions?

SF: We do not feel that there will be a third round of stimulus. The second round was met with such reluctance and anger that we see it as politically unsavory to look for a third round of easing. Beyond the political ramifications, the second round of stimulus and tax cuts did nothing but add to our enormous deficit and nobody in their right mind would risk adding any more to the deficit. Recent tax cuts may provide enough of an additional stimulus to steady the economy. U.S. equities should continue to outperform in a healing economy. We feel that financials and healthcare could outperform the market in 2011.

JL: 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?

SF: Spending should at least be held in check with the Republican majority, which should ease the lending situation and be very positive for the financial markets. Add to that our expectations of inflationary pressures by the end of 2011 and that puts our expectations at a very robust 2011 for equity returns.

JL: 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?

SF: We have been bearish on the euro and eurozone since the first worries sprouted up. I would continue to lighten euro exposure and hold no European bonds. European equities that may perform favorably would include some banks and Big Pharma, however we feel the U.S. should outperform.

JL: 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 defaulting?

SF: We expect to see a number of muni defaults in 2011. While California and Illinois are the obvious worries, we expect a number of municipalities (most likely led by Harrisburg) to default or declare in early 2011. While we do expect the Government to do what's necessary to prevent default, muni risk is (in our opinion) at near record levels and you need to be extremely selective in choosing which munis become a part of your balanced portfolio.

JL: 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?

SF: The housing market may still take a while to recover before it becomes part of a balanced investment strategy. Commercial will probably outperform residential in the near term. We do not currently have any interest in REIT portfolios.

JL: 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?

SF: While recent consolidation may continue into the first part of 2011, we expect that they will become good value again and should be an integral part of longer term portfolios. We specifically have been watching the long-term value in:

  • CHIB - China Technology
  • CHIQ - China Consumer
  • CHIX - China Financials
  • BRAF - Brazil Financials
  • BRAZ - Brazil Mid Cap
  • GXG - Columbia 20
  • GXF - Nordic 30

JL: Finally, name one ETF investment that worked out particularly well in 2010 and one that was a bust.

SF: Our best short-term trade was posted on Street One's Instablog on Seeking Alpha on April 19 and was a buy of VXX, which was closed on May 7th. The position was closed out less than three weeks later at a gain of over 50%. Our best long-term trade was GLD up 26% in 2010. Our best current trade is long Oil (May 28, 2010 Seeking Alpha) and is still a buy for us. Our worst trade was an expected XLV break out to above 32 in April and it continued to pull back.