Richard Bernstein is the chief executive officer of Richard Bernstein Advisors LLC, an independent investment adviser focusing on longer-term investment strategies that combine top-down, macroeconomic analysis and quantitatively-driven portfolio construction. The firm sub-advises the Eaton Vance Richard Bernstein Equity Strategy Fund, and the Eaton Vance Richard Bernstein All Asset Strategy Fund. Prior to founding the firm in 2009, Mr. Bernstein was the chief investment strategist at Merrill Lynch & Co. Prior to joining Merrill Lynch in 1988, he held positions at E.F. Hutton and Chase Econometrics/IDC. A much-noted expert on equity, style and asset allocation, Mr. Bernstein was voted to Institutional Investor magazine’s annual “All-America Research Team” 18 times, including 10 as the top-ranked analyst in his category. He was recently inducted into the AART Hall of Fame – a recognition accorded to only 45 of the approximately 15,000 eligible analysts.
I spoke with Mr. Bernstein on April 30.
What is your general outlook for this year, starting with the US equity market?
We don’t make formal forecasts, such as whether the Dow will hit a certain number. But people should be looking in the US for above-average returns.
The US stock market is not expensive. I know that one can make a case that P/E ratios seem high, but you have to adjust them for interest rates, and if you do that they look actually quite normal – better than normal – regardless of the P/E you use. You can use the regular P/E or the Shiller P/E. The market looks at worst reasonably valued, at best downright cheap.
We are still getting huge outflows from equity mutual funds. When has a bull market ended with huge outflows from equity mutual funds? That has probably never occurred.
The corporate sector in the US is the strongest corporate sector in the world by far; nothing else is even close. Where people should be worried is not in the United States. They should be worried around the rest of the world. Most investors still think our problems are just US problems, and that the rest of the world is fine. People are starting to realise Europe has some problems, but what people still don’t have an inkling of is that the biggest problems are yet to come, and they are in the emerging markets.
We are still in the early stages of decade-long outperformance for US assets. The line I always use is the S&P 500 has now outperformed BRIC equities for more than four years, and nobody knows about it. Anybody who knows about it says it can’t possibly last. Yet it just keeps going on, and on, and on.
This is what bull markets are made of – improving fundamentals that people just don’t believe. That’s what we’ve got in the United States.
Corporate profits are fairly high now relative to history. Is it going to stay that way? If it doesn’t, how will that effect valuations?
One of the reasons why the stock market has done as well as it has over the past three-plus years has been that corporate profits are now the largest per cent of GDP ever. The corporate sector has disproportionately benefited from this recovery. We all know that the household sector has not advanced tremendously, although it has improved. But the corporate sector has done great.
It is inevitable that the household sector will regain some of that national income. You are seeing it right now in the extremes of both parties: the Tea Party and Occupy Wall Street. The fact that the corporate sector is such a big part of this gain is unsustainable, as are the disparities of wealth that a lot of people talk about. When people question me about that, I say, “Just ask Marie Antoinette.” There are a lot more voters among the 99% than the 1%. Things are going to change and we should be prepared for that.
It means corporate profit growth will slow. There is no doubt about that.
What does it mean for valuations? It is going to depend on what happens in the rest of the world. I am a firm believer that the valuation of US assets will become dearer. In other words, multiples will expand, and interest rates will go lower as people begin to realise the risk outside the US is much greater than they anticipated.
People are underestimating the risk outside the US and overestimating the risk inside it. Over the next several years, there is going to be a reevaluation of those risks, and we should get higher multiples in the US.
I will come back to the emerging markets, but one of the things that people fear is the expiration of the Bush tax cuts and the fiscal drag that will supposedly come at the end of this year. What are your thoughts?
That is the biggest risk; the fiscal cliff is a big deal. You’re going to have the sequestration of spending and the Bush tax cuts will expire. We are going to cut spending and raise taxes all in one day.
I don’t care what side of the aisle you come down on. There is no way that is good for the economy.
The issue with the dividend taxes is one of the most interesting things, because for the highest-income tax earners, the dividend tax rate goes from 15% to about 43%. There are also changes to inheritance taxes and capital gains taxes. Everything is going up, and the likelihood of that happening is probably pretty good. In terms of dividend stocks – which are very, very popular these days – you could have some of what I like to call “dislocations.” All dividends are not dividends. Investors generally tend to talk about dividends as any form of equity income. That is not true. MLPs don’t pay dividends. MLP closed-end funds pay dividends. MLP ETFs pay dividends, but a MLP does not. So maybe a K-1 doesn’t look so bad anymore. I’m not even sure REITS pay dividends, technically.
Some dividend-paying stocks may therefore get better treatment than others, and investors may adjust accordingly. I personally think that the dividend tax increase is not going to happen. They are going to come to some agreement about some of these issues, but the fiscal cliff is the biggest risk sitting out there. The politics are such that nobody wants to get anything done. They don’t have to pass a single bill, and the fiscal cliff occurs.
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