July 24, 2015

How expensive are large company U.S. stocks, the cornerstone of just about everyone’s retirement portfolio? Nuveen’s widely followed Chief Equity Strategist and large cap mutual funds manager, Robert Doll says there are high quality, dividend paying businesses worth owning for long-term value and income.

CONSUELO MACK: This week on WEALTHTRACK, picking the perfect portfolio potion for earnings and dividend growth. Nuveen’s star strategist and large cap funds Portfolio Manager Bob Doll shares his formulas for long term portfolio performance next on Consuelo Mack WEALTHTRACK.

Hello and welcome to this edition of WEALTHTRACK, I’m Consuelo Mack. Two of WEALTHTRACK’s most enduring investment themes in the decade since our launch Have been the power of compounding and the wisdom of diversification. The results over time of compounding, reinvesting dividends, capital gains and interest has been described as the most powerful force in the universe.

For instance $10,000 invested for the last ten years in the S&P 500, without re-invesing dividends and capital gains would be worth $17,318 dollars today. That’s an annualized return of nearly 6% and a cumulative return of 73 %.

But take that same ten thousand dollar portfolio, and reinvest the dividends and capital gains and you would have more than doubled your initial investment to $21,377, and gotten annualized returns of nearly 8% and a cumulative gain of 114%.!

As far as diversification goes the reality is that many investors are not that diversified among different asset classes. And in their stock portfolios they tend to hold hefty chunks of large company U.S. stocks in both actively managed and index funds.

It turns out that was not a bad position to be in over the last decade, especially during the now seven year old bull market when U.S. stocks ended up outperforming many international ones. As we just described $10,000 invested in just the S&P 500, with dividends and capital gains re- invested would have more than doubled your money.

That same $10,000 invested in a portfolio equally invested in the S&P, plus U.S. small cap and mid cap stocks and foreign developed country stocks and emerging market ones would have netted you about $500 more.

In retrospect, for this decade at least, diversifying by size and geography hardly seems worth the trouble! Is it? And what is the outlook for those large cap U.S. stocks that dominate so many portfolios?

This week’s guest specializes in that popular category and has been a WEALTHTRACK guest since the very beginning. He is Robert Doll, Chief Equity Strategist and Senior Portfolio Manager at Nuveen Asset Management where he manages the firm’s large cap equity series which includes running at least nine mutual funds including the traditional large cap value, growth and core funds, three large cap specialty funds: Nuveen Core Dividend, Concentrated Core And Growth and three alternative funds: Core Plus, Equity Long/Short and Market Neutral funds. Doll also writes widely followed Weekly Commentaries and 10 Annual Predictions, for which he recently did his midyear review.

I started the interview by asking Doll how expensive large cap stocks have become?

BOB DOLL: Well, they’re a lot more expensive than they used to be after the stock market’s tripled in the last six years, but earnings have done really well, Consuelo, and therefore their price/earnings ratios or other ways to measure valuation, they’re not all that expensive, and I’d go another step to say relative to other places you can put the money … cash, bonds … stocks are not expensive.

CONSUELO MACK: And so that’s U.S. large cap stocks are not expensive, but if I looked at other stocks in small caps, mid caps, they still come out okay?

BOB DOLL: They’re about the same in the U.S. You have to go overseas to get cheaper valuations, but then you get what you pay for. Things in the U.S. have been and likely are going to be pretty good going forward from an economic standpoint, and it’s more mixed overseas. I come back to you have to pay up to get quality.

CONSUELO MACK: Earnings outlook. There’s been a lot of talk about the fact that U.S. corporate balance sheets are in great shape but that the earnings growth is decelerating or at least not accelerating as quickly and, therefore, the outlook is not as positive as it has been during the bull market of the last six years. What’s your view?

BOB DOLL: I can’t disagree with that. However, we’ve been in an earnings slowdown phase. The economy was weak in the early part of the year. Oil price decline, dollar rise, all these things work against earnings. We’re beginning to anniversary some of that, and I believe the U.S. consumer will spend more money in the second half of the year. So I think earnings expectations will actually rise in the second half of the year. It is a necessary condition to have a good stock market in the second half.

CONSUELO MACK: So why are U.S. as consumers going to spend more in the second half of the year?

BOB DOLL: Jobs have improved noticeably. Some people are starting to get wage increases. Their net worth is at an all-time high. The oil dividend has still not been spent. So you line these things up, and I think the consumer’s ready to spend a little money. Not going to set any records but enough to talk about.

CONSUELO MACK: Is it time to take profits after this bull market run?

BOB DOLL: No one ever faults someone for ringing the cash register and taking a bit of a profit. The good news is your question is not black and white. It’s shades of gray. If I were at the beginning of this bull market fully invested and I’ve enjoyed a tripling of stocks, of course take a little money off the table. Sadly I find too many still sitting with a lot of cash and really have to think about putting money in, believe it or not, as opposed to ring the cash register. The ball game is far along.

CONSUELO MACK: And you said that when you go out and talk to clients, which you do a lot, one of the major questions that you get is, is it too late for me to get in? And you also told me that this is the least-believed bull market in your entire career.

BOB DOLL: I think so. Least-believed bull market and economic recovery. I mean there are still a lot of people who think we’re in a recession six years, actually in our seventh year now, of economic recovery, and I think that the tentativeness of the recovery, the slow recovery in jobs, the absence of wage rate gains, people have neighbors that have been laid off, they have kids living in their basement, all this has fostered an attitude that something’s not quite right. As a stock investor, I love this “Goldilocks” economy; making forward progress not too strong. If we get a strong economy, Consuelo, we’re going to worry about inflation and the Fed tapping on the brakes. Let’s just enjoy this stop-and-go economy while we have it.

CONSUELO MACK: The stop-and-go economy. Has it worked to our advantage then in extending the recovery and the bull market and, therefore, how do you answer the question to someone who says to you, “Bob, is it too late to get in?”

BOB DOLL: I think this economic recovery could set a record for longevity. It’s certainly going to go in the history books as one of the longer ones because it’s that already. I think there are a number of years left because we don’t have the excesses that usually cause bear markets to begin and recession. So I think it’s not too late at all. Now having said that, the easy money in this bull market is sadly in the rearview mirror. We’ve had a powerful move; twenty plus percent gains for six years. I can’t see that for the next six years. But can I see high single digits? Probably.

CONSUELO MACK: Can you say high single digits?

BOB DOLL: Yes, I can. So how do we get there? Earnings plus dividends. Earnings growth, four to six percent per annum which is below the long-term average, two percent for the current dividend. Four to six plus two means six to eight. That’s kind of my next ten-year target for U.S. equities.

CONSUELO MACK: I mean historically the eight percent is about in the ballpark or maybe it was even higher.

BOB DOLL: Eight for price. It’s 11 for total return. So six to eight means I’m on the less than usual because, again, the rearview mirror’s been so beautiful.

CONSUELO MACK: So dividends are really important for us for total return.

BOB DOLL: They are. They’re very important and, as you and I talked earlier, it’s about dividend growth. In an economy that’s improving where interest rates are likely to creep higher, we are in a place where as a result of that yield stocks, stocks that look like bonds, are probably going to lag. So what’s the alternative? Find companies that have positive dividend growth and a low payout and great free cash flow.

CONSUELO MACK: So Bob, you run so many different portfolios. I mean I’m not sure. Is it nine mutual funds? I mean that’s the number that you’re running?

BOB DOLL: Correct, nine mutual funds. One investment process, nine different sets of portfolio construction rules if you will.

CONSUELO MACK: So tell me what the investment process is. What do they all have in common?

BOB DOLL: They all have in common that we believe to beat our benchmarks and our competition, combining multifactor quantitative models with deep fundamental research. Two separate research processes that come together.

CONSUELO MACK: Are there securities that you have in common among all of these different portfolios? There are.

BOB DOLL: There are.

CONSUELO MACK: All right, so the for instances that would meet the value box and would meet the growth box for instance.

BOB DOLL: Correct, correct. We use the Russell organizations who’s the guru at deciding what’s growth and what’s value.

CONSUELO MACK: What’s value.

BOB DOLL: And they have decided in their infinite wisdom in the Russell 1000, which is our universe, about 250 of them are part growth and part value, so you can own them anywhere.

CONSUELO MACK: And so what are some of the largest positions that you have that are in several of your portfolios?

BOB DOLL: The largest company in the world, Apple Computer, is in all our portfolios.

CONSUELO MACK: Even a value portfolio Apple is?

BOB DOLL: Even a value portfolio. CONSUELO MACK: Why?

BOB DOLL: Because it’s partly in the value index. So if Russell says it’s a value index, now I’ve got to beat that index. I think I can beat it by owning some Apple Computer.

CONSUELO MACK: And what’s your view of Apple, whether or not you want to define it as growth or whatever, core or value?

BOB DOLL: I think despite how well Apple has done over multiple years, it’s still a good place to be invested. You know, it falls between the cracks. I talk to growth investors who say, “You know, it’s not the growth it used to be,” and then I talk to value investors who say, “It’s not cheap enough to call it a value stock.” It falls between the cracks. I think it’s priced to hit some singles and doubles. I mean the old days when the valuation was very high, they had to hit home runs to justify the price of the stock. No longer.

CONSUELO MACK: Do you have a projection that you make for an Apple, for instance, of what a target would be?

BOB DOLL: We don’t have target prices. When we own a stock, we have our reasons for owning it, and if those reasons stay in place, yeah, there’s a point in valuation where it gets to be too much, but we don’t have targets. We just keep revisiting the stock and the alternatives we have for the use of the money.

CONSUELO MACK: And how often are you turning over when you trade an Apple, for instance? How does that work?

BOB DOLL: So we trade around core positions, Consuelo. So we’ll have a core position, and when the stock underperforms for a bit and looks a little cheaper, we’ll add to it. Conversely, when it’s run hard, we’ll let a little bit go. So we trade around those core positions

CONSUELO MACK: But unless something goes drastically wrong in your expectations, you’re not going to get out of the company entirely.

BOB DOLL: That is correct.

CONSUELO MACK: So what are some of the other core positions that you think represent the kind of research that you do?

BOB DOLL: We like a lot of health care names, so a name in health care, United Healthcare, the granddaddy of the health care service, the HMO space. A consolidator, a market leader. Margin improves. Good top-line growth, good free cash flow. I mean the list of things that we look for, this company check, check, check.

CONSUELO MACK: The large cap universe. A lot of people will say, “Look, you’re better off in an index fund in the large cap universe because it’s a well-known universe”. Kind of everybody owns it. That’s where Wall Street does its own research. What’s your response to that? I mean are there treasures to be found that no one else has found in the large cap universe, or is it really well-mined?

BOB DOLL: Is it well-mined. There is no question about it. It is a very efficient part of the capital markets. Having said that, the first place I usually go when somebody challenges me is here’s the track record in the products that we manage. We’ve outperformed. Not all the time but most of the time and, more importantly, over time. So there’s some evidence that if you have a process, a discipline that makes sense and you stick to it and you get up a little earlier and you work a little bit harder, you can win. Now the average active manager in the last few years as you know has not done a very good job, and so the money has moved in a passive direction. The monkey’s on the back of we active folks. We’ve got to show the numbers to get the money back. If we don’t, shame on us.

CONSUELO MACK: The market capitalization model which is that basically you continue to pay up for the most expensive stock … the more valuable a stock, the bigger its position in an index … is that a problem? I mean is that a problem for index investors in that they’re owning more and more concentrated in a few stocks, one of them being Apple as you just said? So is that a problem?

BOB DOLL: It can be. As stocks get more expensive, they become bigger in the index, and you’re going to own more of it. Well, wait a minute. I think I want to buy them when they’re cheap, not when they’re expensive.

CONSUELO MACK: And therefore, so an Apple. I mean you’re owning it too. Does that make you an index hugger? Your active share, something that we’ve talked about on WEALTHTRACK before, is pretty high. Right?

BOB DOLL: Correct. Our active share runs 75 to 80 across our products on average.

CONSUELO MACK: And active share means how you differentiate yourself from the index.

BOB DOLL: Correct.

CONSUELO MACK: That’s your benchmark, so the Russell 1000 in your case. Right?

BOB DOLL: That’s right. So another way to look at it is, what do you own versus what don’t you own? The index owns them all. We happen to like companies that have strong unit growth and don’t need pricing power, health care, technology. We don’t like companies that require pricing power, energy and materials. There’s an investment bet that we are making relative to the benchmark. If you don’t do a little homework and try to figure that out, you’re stuck owning health care, technology, materials and energy in the proportion of the market. I think you can do a little better than that with a little bit of homework.

CONSUELO MACK: Bob, what kind of pressure are you under as a portfolio manager to match or to beat the benchmark?

BOB DOLL: Having done it over 30 years, there are many periods where I’ve underperformed, and you look in the mirror. You say, “Have I lost it? What’s the matter? Has this gone off the tracks?” That’s when it’s tempting to say, “You know what? Let’s change our discipline,” but that’s the exact time most likely when you want to dig in and dig deeper and stick to what got you there. So the answer to the question is I think part of being a good investor is being a disciplined investor. It doesn’t mean you don’t listen to the market. The market’s right. You’re not, but the process needs to make sense and be stuck to over time.

CONSUELO MACK: Tell me what the market is telling you now.

BOB DOLL: I think the market is saying that the economy in the U.S. is okay, perhaps improving. It’s saying that financial assets are not particularly cheap across the board, stocks and bonds.

CONSUELO MACK: And this is probably largely because of the Fed’s zero interest rate policy, and we’ve all had to go up the risk spectrum they call it.

BOB DOLL: And that’s exactly what the Fed wanted us to do, and we have, and so we’ve bid the price of these other assets up over time.

CONSUELO MACK: And what is the market telling you is inexpensive or is undervalued?

BOB DOLL: So part of that depends on how you see the future. I come back to energy stocks. Let’s talk about energy stocks. Everybody knows they’ve had a hard time. Does that make them cheap? Well, not necessarily. And does cheapness mean you want to own it? You need cheapness plus a catalyst to recognize the value, and in the case of energy that time will come but we think it’s not yet.

CONSUELO MACK: What about financial stocks? I mean do you own big banks?

BOB DOLL: We do and more than we have in some time.

CONSUELO MACK: And why is that? Why?

BOB DOLL: First of all, the big banks are arguably the cheapest cyclical in the marketplace, and we want to own cheap cyclicals in an environment that’s improving. Secondly, as interest rates begin to go higher, the fundamentals of the banks get a bit better. Thirdly, as we’ve seen in the second quarter earnings that have already been released, that we’re moving away from all this talk about the bank’s balance sheet and their credit problems and their litigation issues. Now we’re focused on good old-fashioned fundamentals.

CONSUELO MACK: Among your ten predictions that you make every year and that you’ve just reviewed recently is a prediction about the Fed. Right?


CONSUELO MACK: The Fed’s been delaying again and again and again.

BOB DOLL: Delaying, delaying, delaying.

CONSUELO MACK: You’re still betting that it’s going to happen again this year.

BOB DOLL: Correct.

CONSUELO MACK: That the first trigger pull, the hike will happen.

BOB DOLL: And there are a lot of reasons why. The one I keep emphasizing is the starting point. Fed funds are at zero. When it got to zero, we had an emergency in 2008, 2009. This is 2015. The economy is standing up on its own two feet, and I think zero Fed funds are totally inappropriate for the environment which we’re in, and we’re all concerned. Is the Fed going to raise rates from zero to a quarter? Oh my goodness. What consternation around a 25 basis point move. If we were at some high number going higher, different argument. I’m not arguing for high rates. I’m not arguing for punitive rates. I’m just arguing for appropriate rates.

CONSUELO MACK: But that’s what you think they should do. They haven’t done it yet.

BOB DOLL: Correct. I think if you watch Janet Yellen’s comments over the last … she’s signaling they’re going to go there. I think the Fed’s dying to get started, Consuelo. They’ve been waiting. They’re watching us because it’s all we talk about, and so they’re concerned. What are we going to do to the markets and the economy? They’ve worked hard to get the system back on track after the near depression a few years ago, but I think this is the time they will get started unless there’s an absolute disaster between here and mostly likely September.

CONSUELO MACK: And what will it do when they do raise interest rates 25 basis points, a quarter of a percentage point, to the markets to the economy? You’re saying no effect. It’s so baked in.

BOB DOLL: I think we’re going to wake up and say, “Well, what’s new today from yesterday? It’s a quarter instead of … okay, now what changes in the world?” If I’m a bond investor, I can’t be quite so arrogant about my answer.

CONSUELO MACK: No. Absolutely not.

BOB DOLL: As that affects the curve, but again if we were thinking the Fed’s going to start this process to get to a punitive level on the economy, then it’s a different argument, but they’re looking to move rates from very low to still low.

CONSUELO MACK: We talked about why you would own some of the fundamentals that go into owning a stock and the reasoning. You also have portfolios that short stocks, some alternative portfolios. What makes you short a stock?

BOB DOLL: Sort of the opposite of what makes us buy a stock to be cook-bookish about it. That is to say, to own a stock we want cheap companies with improving fundamentals. It’s over simplifying but not really. On the short side? Expensive stocks with deteriorating fundamentals, and so if we identify sectors in the marketplace … and we think there are some. I mentioned before we don’t like bond-like equities. We’re short some bond-like equities.

CONSUELO MACK: So you mean like utilities and …

BOB DOLL: Correct. Utilities is a good example. Homebuilders is another. We think that homebuilders have been overdone a bit in the marketplace, so we have some shorts in the homebuilding area. High P/E stocks or a collection of high P/E stocks that we think trees don’t grow to the sky, so whether that’s in health care or technology. Even though we like the areas and have a lot of longs, we’ve got a few shorts in those areas too.

CONSUELO MACK: What does a long-short fund do in a portfolio? Most of us have long- only portfolios. Why are you running these alternative equity funds, the long-short fund for instance?

BOB DOLL: What they give investors is more bang for the buck if you will. If you put a dollar in a long-only fund, you’ve got a dollar working for you. If you use a long-short fund, ah, now you have the long side and the short side working for you. I like to say I have 17 fundamental research analysts, and they go about their business and they analyze companies, and they come back and they say, “I looked at these six companies. Three we like. Three we don’t.” In a long-only portfolio you take the three you don’t and you throw it in the trashcan. If you have a long-short portfolio, ah, if the analyst is any good now we can make some money on this side and some money on this side for our investors.

CONSUELO MACK: U.S. stocks have outperformed foreign ones which you have predicted in the past that they would. What’s going to happen in the future?

BOB DOLL: I think it’s a little harder to make that argument now. Non U.S. economies are beginning to do a bit better. Certainly Japan has done better. Parts of Europe are doing better. If you have a lot of patience, the emerging markets are not all that expensive. There are issues. You have to hold your nose to buy them, but you can’t have a monolithic U.S. portfolio only as actually has been the case in recent years. If you didn’t diversify and own U.S. large cap, you actually did really well. Diversification has detracted from your performance. That’s not normal and I would never counsel having all your eggs in any one basket.

Tagged with:

Back to Top