With Bruce Johnstone, Managing Director and Senior Marketing Investment Strategist at Fidelity Investments
Bruce Johnstone discusses tips on how to invest, the current market volatility and the unprecedented degree of governmental intervention in the monetary system. He suggests that in spite of this stimulus, economies are not responding as expected, and the markets are concerned about low growth and the possibility of deflation.
Bruce then busts the myth that good investing should only include great companies, because as manager of the very successful Fidelity Equity Income Fund, he concentrated on cheap companies, citing that many great companies are over-valued.
He used four criteria in choosing these cheap stocks: high dividend yield, low price to earning ration, low price to book value, and low price to sales.
When asked where the best values were in the world today, Bruce said he felt that investing in the US is the best choice, because so many foreign countries are suffering from the oil crisis and other structural problems
Steve expressed concern about the fact that large foreign bank stock prices were back at 2008 levels and wanted to know if this was the so-called canary in the coal mine. Bruce responded by pointing out that the banks are in much better shape today than back then, and he feels that in most instances the market had over-reacted to fears of a banking crisis.
The discussion turned to negative interest rates, and both Steve and Bruce commented on how weird the situation had become. Steve mentioned that Scandinavian mortgage holders where being paid interest by the bank each month, and Bruce said that although it is mind-boggling, he thought this would last a very long time. But to invest successfully, one had to do the research to find the cheap stocks that are always hiding beneath the radar.
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Steve Pomeranz: Bruce Johnstone is Managing Director and Senior Marketing Investment Strategist at Fidelity Investments, but today I’ve asked him to reach back to his role when he managed the Fidelity Equity Income Fund. He managed that fund for 19 years beginning in 1972 through 1990 and, during that time, Bruce Johnstone’s fund achieved a return of over 11 hundred percent, which was nearly twice that of the S&P 500, and that ranked him as the number 1 equity income fund manager in the nation for the 19 year period. I also want to mention that Bruce Johnstone is speaking at the Money Show in Orlando. He’ll be speaking on Thursday, March 3rd at 10 AM to 10:35 AM, and I will also be speaking at the same Money Show on Saturday, March 5th from 1:30 to 2:15 and my topic will be “How to Invest Like Warren Buffett”.
Hey Bruce, thanks for joining me today.
Bruce Johnstone: Thank you, Steve. Glad to be with you.
Steve Pomeranz: Today’s markets are more volatile than ever—at least they feel that way—and either this volatility is correct because something sinister is in the cards, or it’s just a lot of fear over- shooting reality. What do you think?
Bruce Johnstone: I think it’s all of the above. We have a situation where we have unprecedented central bank activity going on all around the world, artificially suppressing interest rates to the extent that they have never been suppressed before, and the market does not know how to react to that. And we had a lot of very, very high flying stocks from March of ’09 until the end of 2014 or thereabouts. And then last year we had some very high flying stocks, but a very narrow leadership in the stock market, and, so, to a certain extent, stocks might’ve gotten ahead of themselves. But at the same time, of course, all of this unprecedented monetary stimulus was unable to get the economies around the world moving. Very few performed well in this recovery from the financial crisis, and all of that monetary stimulus has not succeeded. And the result is people are very worried that this very slow inflation/deflation environment is going to persist.
Steve Pomeranz: All right, so let me ask you this. Getting back to when you’re in charge of the Fidelity Equity Income Fund …
Bruce Johnstone: Sure.
Steve Pomeranz: … You look at these situations and it’s a stock market, but it’s also a market of stocks, and you’re looking around and you’re asking yourself, “Okay, this is painful, but this is actually good, because now I can finally buy some great companies at really decent prices.” Without mentioning any individual names, are we seeing any of those values uncovered at this point?
Bruce Johnstone: Well, Steve, first of all, I have to correct your assumption which is that great companies are now available at reasonable prices, because I never owned great companies in the equity income fund.
Steve Pomeranz: Okay.
Bruce Johnstone: What I owned was cheap stocks as opposed to great companies. I almost never owned a great company. Now that’s very, very different from what most fund managers do. They try to find great companies whose earnings are outperforming, whose growth rates are outperforming. That was not my style at all, and so I had a very different style which said that—as you correctly pointed out—it’s a market of stocks, and if you can buy a whole lot of cheap stocks, then that is equally as good, if not better, than buying great companies, because great companies, more often than not, get overpriced.
Steve Pomeranz: Mm-hmm.
Bruce Johnstone: There’s a tremendous competition to buy great companies, and that’s why they get overpriced.
Steve Pomeranz: So how do you determine what is cheap, in your own way?
Bruce Johnstone: Well, there’s all sorts of ways to determine what’s cheap. Certainly one of the factors that I used was dividend yield. Well, that’s not quite as relevant these days, because yields are so low, but back when I was running money, the average money market was yielding around 4 percent. Everything I bought yielded more than that. So that was one consideration. A second obvious consideration is price earnings ratio. I bought a lot of low-priced stocks in terms of PE ratios. The third valuation measure would, of course, be price to book value, and you look for companies—and the banking industry, of course, is a classic today—where the stock market is saying, “Hey, these companies aren’t worth anything. They’re not even close to selling at book value, with very few exceptions.” So there’s another example of how you buy a cheap stock if you can make the assessment that, “Gee, you know that net asset value really is there, and they are gonna earn a return on that.” Then another measurement, of course, would be price to sales, so there’re various ways to buy a cheap stock.
Steve Pomeranz: Okay, so in terms of the size of companies that you bought, were they from small to large?
Bruce Johnstone: Yeah, they were all over the lot.
Steve Pomeranz: Okay.
Bruce Johnstone: Small, big … All over the lot.
Steve Pomeranz: Now I know that you’re not in that role anymore, but I would guess, being in the business for 50 years, that you see what you see and you think what you think because of all your experience. Let’s just talk countries per se or regions per se, the US versus the Eurozone. Where do you think, based upon your criteria, the good values are today?
Bruce Johnstone: Well, because there are serious financial risks abundant all around the planet right now, I think that an investor should be concentrating in the United States today. Lord knows the BRIC, that would be Brazil, Russia, India, China, those countries are in serious financial difficulty now with the collapse in the price of oil. China, you can probably list anywhere from 7 to 10 reasons why they’re in serious difficulty with the overbuilding of infrastructure of property, of inventories. In distinct comparison to what Donald Trump says, the Chinese currency is not undervalued. It is extremely overvalued, and they are caught between a rock and a hard place, because they’ve been talking all along about stability of their currency, and so now when they should be devaluing it, they’re between this rock and a hard place because their credibility is now at risk.
Now that their people are betting against their currency, their reserves are at risk. Everybody says, “Oh, they got 3 trillion in reserves,” but those reserves are disappearing awfully quickly. Everywhere you look, Steve, whether it’s the Eurozone, whether it’s emerging markets, whether it’s Japan, everybody is dealing with way below normal economic growth. And therefore deflation risk and therefore sluggish economies going forward, and so the United States, as you saw this morning where retail sales were good and where employment is growing, growth is not great, but at least we have a chance of doing okay. Now that the stock market is down 10 percent in terms of the averages, but the average stock in the United States is down over 20 percent, so there are opportunities. I guess the answer to your question is the first place I would look when deciding how to invest would be the United States.
Steve Pomeranz: I’m talking with Bruce Johnstone. He is current Managing Director and Senior Marketing Investment Strategist of Fidelity, but we’re really speaking to him back in his role when he managed the Fidelity Equity Income Fund, which was a top performing fund during his tenure there. Also, Bruce Johnstone is speaking at the Money Show Thursday, March 3, 2016. To find out more about Bruce and to hear this interview again, don’t forget to join us at onthemoneyradio.org.
In January, everybody was focused on oil, now many are focused especially on European banks. I remember that back in ’07 and ’08 there was a British bank, Northern Rock Bank, that went out of business and was kind of the canary in the coal mine, so to speak.
Bruce Johnstone: Yes.
Steve Pomeranz: These very big banks from Germany and big European banks, like Credit Suisse and Deutsche Bank, are selling at prices below where they were in 2008. What do you think this means? What do you think has caused it, and what do you think this is? Is this telling us something that we need to pay close attention to?
Bruce Johnstone: I think it’s telling us two things, Steve. First of all, it is telling us that there is a serious risk because of the global growth having slowed, and, very importantly, because the price of oil has collapsed; so therefore there is a significant percentage of loans outstanding where you’re going to have to take some losses. On the other hand, the other message that this is telling us is that there is a real chance that the stock market has over-corrected. Over-corrected for what everybody’s very, very worried about, which is what is the price of oil gonna do to these banks? So I would suggest that because the capitalization of these banks is much better than it was in ’08 … See, everybody sort of forgets that, “What a minute, these guys have done a lot of fine equity financing, they’ve pulled in their horns, they’ve gotten far more risk adverse, so to speak,”… so I would suggest that the balance sheets of these banks are better, much better in some cases that they were in ’08, and I think the stock market has over-done the situation.
Steve Pomeranz: Are you talking about foreign banks, or are you talking also about US banks, too.
Bruce Johnstone: Yes, both.
Steve Pomeranz: Okay.
Bruce Johnstone: Absolutely.
Steve Pomeranz: You’re saying that, of course, do your homework, this is not a stock recommendation by any means, but it is a discussion about these kinds of things that the situation is not quite so dire, especially considering the mortgage market back in ’06 and ’07 and ’08, and the leverage that was … I mean, this is a completely different world.
Bruce Johnstone: It’s a different world. The balance sheets of the banking system and the strength of the assets on the balance sheets of these banks … much worse back in ’08. Much worse. Now I don’t want to underplay the importance of today’s concerns, the economic considerations, the fact that the interest rates are so low that the banks don’t have the spreads that they would like by any stretch of the imagination on their business, on their lending business. I just think that the market, to a certain extent, is over-correcting.
Steve Pomeranz: You mentioned interest rates and their spread. We’re in an environment where in many countries interest rates are negative, which is really, in my view, insane.
Bruce Johnstone: Yeah, it’s a very weird situation.
Steve Pomeranz: Stories of people with homes and mortgages, I guess in Denmark and that area, when they pay their monthly principle and interest, they actually get a credit on their principle for the interest that the bank owes them.
Bruce Johnstone: Yeah, it is, it’s mind boggling.
Steve Pomeranz: Do you have any idea what this kind of environment would mean to the banking system and to economy’s growth?
Bruce Johnstone: Well, there’s no doubt about it, it is risky and the growth rates in general are going to be slow, sluggish. This could be for many years, Steve. This is not just a short term phenomenon. I think the growth rate, which is why you do have to be very, very careful when you’re going to buy an individual stock, you’ve got to do your analysis, you’ve got to analyze the balance sheets, you’ve got to really think about how to invest. It’s very, very critical, particularly in a very sluggish environment. I’m looking for slow economic growth rates in almost all parts of the world for, perhaps, years.
That doesn’t mean you can’t make money, because as you correctly pointed out in your opening statement, this is a market of stocks, and you’re always going to find cheap stocks, which is what I did when I ran the Fidelity Equity Income Fund. You could always find cheap stocks. The whole point of the game is to out-perform the market, to out-perform your competition, and that means that you hunt in a market of stocks, not the stock market.
Steve Pomeranz: Well said. My guest, Bruce Johnstone, Managing Director, Senior Marketing Investment Strategist at Fidelity Investments. I think a very straight-forward and honest view of what’s going on today.
Bruce, thank you so much for joining us. I do appreciate it.
Bruce Johnstone: Well, Steve, I enjoyed doing this, and I look forward to being with you in March.
Steve Pomeranz: Thank you very much. Same here.