Bill Nygren of Oakmark: Safety is Overpriced

Bill Nygren of Oakmark recently shared his views on bank stocks, the overall market, risk etc. Bill Nygren had some interesting remarks about risk.

H/T The Reformed Broker

Safety is overpriced
At Oakmark, we aren’t seeing much value in what we would call safety stocks and very high-yield stocks—including electric and telephone utilities, and food and household product stocks. The more a stock looks like a bond to us, the more likely we think it is to be overvalued.

Full article (below)- FIDELITY VIEWPOINTS

Investors finally are beginning to get back into stocks. Nearly $30 billion of new money was invested in stock mutual funds during the first seven weeks of 2013 after years of investors seeking shelter in bonds.

What’s behind the change? Investors may be optimistic about the resolution of the fiscal cliff, the U.S. housing recovery, an energy boom, renewed growth in China, and improvements in Europe’s debt situation. Meanwhile, bonds look more expensive—and potentially risky—following an enormous 2012 rally.

So are we reaching a turning point—where stocks begin a new long-term upward trend, and the long bull run in bonds ends? Or could this be a false alarm?

To analyze the current markets, Fidelity Viewpoints® brought together five top mutual fund managers in Atlanta on March 5 for a conversation moderated by John Sweeney, Fidelity executive vice president of retirement income and investment insights.

Stocks are attractive, even without GDP growth
At Oakmark, we think many stocks look attractive, even if the “new normal” crowd is right that we’ll have negligible economic growth. Companies are holding lots of cash, but they’re not necessarily investing it internally. Instead, we believe management teams will be giving that capital back to shareholders.

We believe one result of this allocation decision should be better-than-average dividend growth. Another might be share repurchases, which help earnings per share (EPS) grow substantially faster than net income. And we may also see more acquisitions. I think there are a number of reasons we could achieve historically normal EPS growth in a world where there isn’t much GDP growth.

Banks, industrials, and autoparts
At Oakmark, we start by indentifying companies that meet our investing criteria. Right now, one area we like is financials, particularly banks. Investors are still frightened about what happened five years ago, but lending standards have become tighter. I think almost any loan written after 2007 went to somebody with a very high probability of paying that money back. So I think the asset sides of bank balance sheets are stronger than most people give them credit for.

I find it ironic that bears on banks say increased regulation will make these stocks look like utilities. Bank stocks are trading at 70% to 80% of book value, and the average utility trades between one-and-a-half and two times book value. So if banks suddenly traded like utilities, it would be wonderful.

My team has also been finding opportunities in industrial companies. Five years from now, the business value of an industrial company won’t be heavily influenced by whether the economy grows at 2% this year or declines by 1%. What might change is 2013 earnings, and investors concerned about earnings have let the prices fall quite a bit on industrial companies. That has given us an opportunity to buy a lot of these stocks at barely double-digit price-to-earnings ratios (P/Es).

Some companies in the industrial space we like are auto parts suppliers. This industry has structurally changed over the past decade. Many of the auto parts companies now have excess cash instead of excess debt on their balance sheets. They’ve reduced labor costs, by 80% or more in some cases. Car makers increasingly are asking them for solutions rather than just pieces of metal, so they’re gaining intellectual capital. And the auto industry is likely to grow, largely because of demand from developing countries.

I’m also finding value in traditional technology names like Intel and Microsoft. These companies, which used to sell at 30 and 40 times earnings, today are at single-digit P/Es, and are paying out a lot of capital to shareholders in dividends and share repurchases. Even if these companies prove to be only average businesses over the next five to 10 years, their stocks could be a good outcome for investors.

Safety is overpriced
At Oakmark, we aren’t seeing much value in what we would call safety stocks and very high-yield stocks—including electric and telephone utilities, and food and household product stocks. The more a stock looks like a bond to us, the more likely we think it is to be overvalued.

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