How foreign is your foreign stock fund, really?
Chicago • Is Nestle a Swiss stock?
Of course it is, if you look at the traditional measures. The company is based in Switzerland, and its stock trades in Swiss francs. But Nestle candy, baby food and other products are on grocery-store shelves throughout the world, from Algeria to Zambia. Switzerland provides just a sliver of Nestle's revenue: More came last year from the Americas or from Asia than from Europe overall.
That's the message several mutual fund managers stressed at the Morningstar Investment Conference in Chicago this week: It's more important where a company does its business than where it's based, and the line is blurring between U.S. and different types of foreign stocks.
"I'm paying less attention to the domicile or the country it's listed in" when considering stocks, said Harry Hartford, co-manager at the Causeway International Value fund. "We're more likely to be looking at companies in specific industries."
Collectively European stocks, for example, generate more than half of their revenue outside Europe, said Robert Lovelace, who helps run the American Funds New World fund. That means investors may not be getting what they think they're getting when they buy a European stock fund.
With Japanese stocks, Lovelace said the most well-run companies tend to be those that compete globally, such as automakers or electronics companies. Those that focus on just the Japanese market tend to be less efficient. So even though the statistics may show that his funds own Japanese stocks, "that is very different than me deciding I'm very excited about the Japanese economy," he said. "In fact, the Japanese economy has very little to do with it."
To be sure, bond fund managers don't see it the same way. "In the bond world, nationalism still matters," said David Rolley, who co-manages the Loomis Sayles Global Bond fund. "When you're lending money, you're lending money to the government of Japan. It is not as multinational as the equity market is."
Among other ideas discussed at the Morningstar conference:
MAYBE INTEREST RATES WON'T RISE THAT MUCH.
Bill Gross, who runs the world's largest bond fund, talked about how investors should be preparing for a "new neutral." Most investors expect the Federal Reserve to begin hiking short-term interest rates soon from their record low, the first in what is forecast to be many increases.
Such moves could hurt bond and stock prices, but the manager of the PIMCO Total Return fund talked about how the central bank may hit the pause button on hiking the federal funds rate earlier than many investors expect. In the "new neutral," Gross said interest rates and economic growth will be lower than what investors became accustomed to in prior cycles.
If the federal funds rate does indeed remain low, "then asset prices are less bubbly," Gross said. Stocks can continue to trade at similar levels relative to their earnings as they do today, even though some investors say they're looking expensive compared with history. Stocks could offer annual returns of 4 percent to 5 percent, while bonds could have 3 to 4 percent returns.
BUT BOND INVESTORS SEE A TOUGH MARKET.
Yields are low across the bond market, and several managers said there aren't many attractive buying opportunities. Interest rates may be set to rise due to a drop-off in stimulus from the Federal Reserve and a strengthening economy, which could knock down bond prices. That means managers of funds who can invest in even the most exotic bond options are hiding out in cash in hopes of avoiding losses.
William Eigen, for example, has about 60 percent of his JPMorgan Strategic Income Opportunities fund in cash, roughly double what it was a year ago. "I pretty much like nothing," he said. "This market is like a coiled spring, waiting to go one way."
A year ago, Eigen was more optimistic about high-yield bonds, which are issued by companies with poor credit ratings and offer higher yields than investment-grade options. But the amount of extra yield that they offer over Treasurys has since shrunk, making them less attractive.
Mark Egan also runs a bond fund that has wide latitude in what it can own. His Scout Unconstrained Bond fund can invest in foreign currencies, high-yield bonds and bonds that can convert into stock, for example. "We find a world today where despite that we can do almost anything we do almost nothing," he said. He has pulled back from high-yield bonds and other areas that he expects may soon be hurt.
EMERGING MARKETS OFFER SOME OPPORTUNITIES.
Although the developed world has been stuck in terms of pushing through economic reforms, the developing world is progressing, said Justin Leverenz, who runs the Oppenheimer Developing Markets fund.
Worries have been rising about slowing economic growth in China, but Leverenz said he is optimistic growth will continue. He sees big opportunities particularly in Chinese online-video companies given the size of the country's market.
As a group, emerging-market stocks look cheaper than those from developed markets based on their earnings. "But then you have to look at what you're getting for that price," said David Herro of the Oakmark International fund.
The cheapest stocks are natural-resource companies that are under heavy influence from their respective governments or banks with weak assets. Herro said he prefers to benefit from the rising living standards of people in emerging markets by investing in brands that appeal to them, such as BMW.