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Investment Managers: Volatility Is Not a Dirty Word

Despite the market ups and downs we’ve been experiencing recently, investment managers say this is not the time to get out of the stock market. In fact, the key to stock picking in this environment is to not think of volatility as a bad word, said Richard Pzena, managing principal, CEO, co-chief investment officer and founder of Pzena Investment Management. During an investment forum hosted by American Beacon Advisors Thursday morning, equity managers said they’re taking advantage of the current volatility and looking for high quality business at attractive prices.

Despite the market ups and downs we’ve been experiencing recently, investment managers say this is not the time to get out of the stock market. In fact, the key to stock picking in this environment is to not think of volatility as a bad word, said Richard Pzena, managing principal, CEO, co-chief investment officer and founder of Pzena Investment Management. During an investment forum hosted by American Beacon Advisors Thursday morning, equity managers said they’re taking advantage of the current volatility and looking for high quality business at attractive prices.

“Volatility is where the opportunity comes from,” Pzena said.

In uncertain environments such as the one we’re in, investors tend to flock toward safe investments and move away from those considered unsafe, such as the consumer and bank sectors, Pzena said. “It’s no surprise that companies in these industries see their share prices go down dramatically.”

Financial advisors are less bullish on the stock market than they were at the beginning of the year, according to a survey by Charles Schwab.

When things normalize, you want to own the stocks that people will come back to, said Chris Fasciano, chief investment officer of core equities at Evercore Asset Management.

Looking for Quality
Nevin Chitkara, investment officer and portfolio manager with MFS Investment Management, said when he looks for quality companies, he looks for durable, sustainable business franchises. These companies are characterized by a high return on their capital, good stewards of that capital, and strong balance sheets.

Fasciano said he looks for the best companies out there that can survive a downturn no matter what it brings. For example, he recently added some names in the consumer, healthcare and industrial sectors to Evercore’s equity portfolio.

When you’re looking for a quality company at a cheap price, it’s usually because something’s wrong, added Pzena. For example, Staples’ sales are typically tied to employment, but the company has been gaining market share. The company has cut employees and spending programs, and the stock has a 10 percent yield. The stock’s price is low relative to the company’s earning power, he said.

“Volatility, in our world, is a friend to us,” said Chris Garrett, institutional portfolio manager for Brandes Investment Partners, who spoke at the event about opportunities in the emerging markets.

Garrett said he wants to be in the position to sell to the market when things are optimistic. When choosing companies to buy in the emerging markets, he doesn’t want to have a broad exposure across countries. Rather, he drills down deep to find companies that may benefit from a change in interest rates or currency depreciation.

This Time Is Different
But despite the fact that the markets are acting like it’s 2008, companies are in better shape than they were in 2008, Fasciano said. They’ve been preparing for market environments like this, and have better cost structures and stronger balance sheets.

Jonathan Brodsky, managing director at Chicago-based Advisory Research, who visited Registered Rep.’s offices this week, said companies have adjusted their business models for this type of market. They’ve done this by deleveraging their balance sheets, creating a more flexible cost structure and preparing for long periods of low growth rates. Brodsky said his firm also looks for low leverage, cheap stocks on a price to book and price to earnings basis.

Earnings typically do poorly in a recession because companies don’t expect it, Pzena said. But even if we do go into another recession, it won’t as bad this time around because companies have been expecting it, he said. European fund managers expect that area to slip into a recession soon.

That said, our economic cycles are getting shorter again, and we’ll most likely see contractions every three years going forward, said Ruchir Sharma, managing director at Morgan Stanley Investment Management. Prior to 1982, the average length of an economic expansion in the U.S. was about three to four years, Sharma said. But from 1982 to 2008, we saw longer economic cycles. But the 2008-2009 crisis was a steep contraction, and now monetary and fiscal policy cannot help in the same way anymore, he added. “Recessions are just going to become more frequent.”

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