Van­guard ex­ec­u­tive has a warn­ing for in­vestors: The good days won’t last for­ever.»

The Denver Post - - BUSINESS - By Stan Choe

It’s easy to get lulled by the gen­tle and seem­ingly un­stop­pable ride higher that in­vestors have been en­joy­ing with al­most all their funds. But it can’t last for­ever.

Greg Davis, the new chief in­vest­ment of­fi­cer at in­vest­ing gi­ant Van­guard, isn’t pre­dict­ing when the next down­turn for stocks will hap­pen, but he says in­vestors need to be ready for it given how ex­pen­sive the mar­ket has be­come. So if swelling stock prices mean they make up a much big­ger part of your port­fo­lio than be­fore, and you wouldn’t be able to stom­ach a 10 per­cent drop with­out pan­ick­ing, con­sider par­ing back on them.

The largest mu­tual fund by as­sets, Van­guard’s To­tal Stock Mar­ket In­dex fund, has re­turned 11.4 per­cent so far in 2017, for ex­am­ple. That’s close to its best per­for­mance for any of the past three full years.

In his role, Davis over­sees more than $3.8 tril­lion in as­sets, in­clud­ing the stock in­dex funds that made Van­guard fa­mous and bond funds run by man­agers look­ing to beat the mar­ket. That’s close to the size of Ger­many’s econ­omy. Davis is no stranger at Van­guard. He pre­vi­ously over­saw its bond in­vest­ments.

Davis re­cently talked about his out­look for mar­kets and fund in­vest­ing. An­swers have been edited for clar­ity and length.

Q : Nearly ev­ery in­vest­ment is go­ing up, from stocks in the U.S. to bonds from emerg­ing mar­kets to stocks in Europe. Is it wor­ri­some that every­thing is do­ing so well at the same time? A: I don’t see that as wor­ri­some,

those things be­ing in sync. The big­ger con­cern is that val­u­a­tions have got­ten a bit stretched, on the eq­uity side as well as the fixed-in­come side. That’s a big­ger con­cern to me than all these things mov­ing in tan­dem. Much of that can be at­trib­uted to the very loose mone­tary pol­icy from cen­tral banks around the world. That’s put a very strong bid across these mar­kets.

So it’s not a sur­prise, but there is a need for cau­tion and a need for cus­tomers to be com­fort­able with the amount of risk in their port­fo­lios. It’s some­thing they should be look­ing at. You can never pre­dict when a down­turn will come, but it will even­tu­ally come, and in­vestors need to make sure they’re not too far ahead of their skis.

Q : Con­ven­tional wis­dom says that the U.S. stock mar­ket is more over­val­ued than in Europe and other coun­tries. Do you agree? A: If you look at Europe,

those mar­kets look a bit more at­trac­tive than the U.S. mar­ket. The way we would talk to in­vestors is: You want to be di­ver­si­fied around the globe. You want to have the di­ver­si­fi­ca­tion so that if there is a down­turn in the mar­ket, you don’t do in­ap­pro­pri­ate things at in­ap­pro­pri­ate times.

Q : “In­ap­pro­pri­ate things” means sell­ing low when­ever stocks take their next tum­ble? A: Ab­so­lutely. Q : And when you’re telling peo­ple to “stay di­ver­sif ied,” that sounds like short­hand for mak­ing sure you have enough bonds in your port­fo­lio to ease the st­ing of any down­turn for stocks. Can bonds still be that sta­bi­lizer if yields are so low? A: If you go back and

look at the worst months for the eq­uity mar­kets, high-qual­ity bonds pro­vided a strong bal­last to an in­vestor’s port­fo­lio. If you’re in one of those en­vi­ron­ments where U.S. stocks go down 6 per­cent, you typ­i­cally have high­qual­ity bonds show­ing slightly pos­i­tive re­turns.

It’s an as­set class that’s not ex­pected to go down, even in a low-rate en­vi­ron­ment. Af­ter the “Brexit” vote, even when yields (on Euro­pean bonds) were neg­a­tive, high-qual­ity bonds still held up even as eq­ui­ties sold off. Bonds have his­tor­i­cally done their job, even when they’re yield­ing low amounts or even neg­a­tive yields.

Q : In­vestors seem to be throw­ing in the towel on funds run by stock pick­ers, and they’re choos­ing in­dex funds in­stead. Do you think in­dex funds will con­tinue to be the over­whelm­ing fa­vorite for where in­vestors put their new dol­lars? A: Our view is that in­vestors

are clearly vot­ing that pay­ing high costs in an en­vi­ron­ment where re­turns are ex­pected to be muted are not the best op­tion for them, and we’re see­ing them move to lower-cost funds. If you have a higher cost struc­ture, it’s harder for you to out­per­form your mar­ket. And if you do, you have to take on sub­stan­tially more risk to achieve those re­turns.

Any man­ager in our com­plex is low-cost by na­ture. We’ve seen sig­nif­i­cant in­flows into our ac­tive funds as well.

Q : Do you think the in­dus­try could ever get to a point where some­one of­fers a fund with zero fees, to be a loss leader and bring in cus­tomers for their other funds? A: You al­ready have peo­ple

do­ing loss-leader strate­gies now. You have com­pa­nies adding new funds that are clones of ex­ist­ing funds that are at a lower price to try to be a loss leader. The real­ity is you have to look at the en­tire com­plex and ask if it’s en­dur­ing.

The in­dus­try broadly is still too-high cost, across the board. There’s still op­por­tu­nity for many prices to go down.


Greg Davis, Van­guard’s chief in­vest­ment of­fi­cer, isn’t pre­dict­ing when the next down­turn for stocks will hap­pen, but he says in­vestors need to be ready for it given how ex­pen­sive the mar­ket has be­come.

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