Rob Arnott: Dump US stocks buy EM

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garlandwhizzer
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Rob Arnott: Dump US stocks buy EM

Post by garlandwhizzer » Tue Aug 29, 2017 1:27 pm

The following is from a recent interview with Barrons. Arnott suggests that investors with high risk/volatility tolerance should dump US stocks and load up on EM, especially EMV which of course his EM fundamental indexes target. He also suggests that in the US market the factor currently with the most attractive valuation characteristics is QUAL. He recommends the iShares etc QUAL for US factor investing at present. Loading up on QUAL, which may behave better than VAL during flat or bear markets, may say a lot about his pessimistic view of US equities. Comments?

http://www.barrons.com/articles/rob-arn ... 1503394584

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Re: Rob Arnott: Dump US stocks buy EM

Post by Pajamas » Tue Aug 29, 2017 1:29 pm

What are EM, EMV, QUAL, and VAL? I know what US is.
Last edited by Pajamas on Tue Aug 29, 2017 1:54 pm, edited 1 time in total.

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Re: Rob Arnott: Dump US stocks buy EM

Post by rustymutt » Tue Aug 29, 2017 1:30 pm

Investment porn at best. Never do what these guys claim is the best thing to do. All it would do is help his investments, but most likely :beer not yours.
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Re: Rob Arnott: Dump US stocks buy EM

Post by garlandwhizzer » Tue Aug 29, 2017 2:02 pm

Pajamas wrote:
What are EM, EMV, QUAL, and VAL? I know what US is.
EM = Emerging Markets, EMV = Emerging Markets Value, QUAL = Quality factor and also the iShares ETF that targets that factor, VAL = Value Factor.

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Re: Rob Arnott: Dump US stocks buy EM

Post by nedsaid » Tue Aug 29, 2017 2:03 pm

Hi Garland, I couldn't get to the article as it was behind a paywall. Arnott's idea isn't terrible but it is never a good idea to develop a scenario and build your investment strategy around it. Trained economists with PhDs have a pretty dismal record of predicting the economy and the track record of market forecasters is even worse. I am human and I have my convictions about the markets and the economy but I have to allow for the possibility that I might be just plain wrong.

The thing is, I have made market calls here as well. I have said that International Developed Markets are cheaper than the United States and that International Emerging Markets are cheaper still. But that doesn't mean dump all of your US Stocks and put it all into International Developed and Emerging Markets. Just have never bought the "all in" or "all out" thinking. My advice is more cautious, to make shifts of maybe 10% to 20% of the portfolio from expensive asset classes to cheaper asset classes. Even then, I would recommend caution, doing those shifts over several months. I absolutely would not abandon the United States. Sometimes when certain asset classes get overvalued, maybe rebalancing is all that is needed.

I do believe that valuations and thus future expected returns matter and matter a lot. The problem is that there is not only a Value effect in the markets but also a Momentum effect. In other words, what is expensive can get to be even more expensive. It is the being right too early problem. Pretty much, I am saying to keep an eye on valuations but not to get obsessed with market timing.

If someone wanted to trim their US Stock investments and put the proceeds into International Developed and Emerging Markets, I think that is a pretty good idea based on valuations. The thing is, that Arnott or myself or anyone else cannot predict when markets will turn. The best we can do is to buy our investments at reasonable prices and hold them long term. There are rare occasions when certain asset classes get to be really cheap and there is a terrific buying opportunity. One such crisis was in the aftermath of the 2008-2009 bear market, March 2009 in retrospect was a terrific buying opportunity for US Stocks. This just doesn't happen very often.
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Re: Rob Arnott: Dump US stocks buy EM

Post by lazyday » Tue Aug 29, 2017 2:05 pm

nedsaid wrote:
Tue Aug 29, 2017 2:03 pm
Hi Garland, I couldn't get to the article as it was behind a paywall.
Google this:

Rob Arnott: Dump U.S. Stocks, Buy Emerging Markets

and try the first link. Worked for me this time, though doesn't work for older Barrons articles.

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Re: Rob Arnott: Dump US stocks buy EM

Post by siamond » Tue Aug 29, 2017 2:10 pm

No clue why, but I had a copy of Barron's on my doorstep, and I read said article. Which didn't provide any data point or substantive argument to justify the recommandation... Financial porn indeed and remarkably poor journalism.

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Re: Rob Arnott: Dump US stocks buy EM

Post by nedsaid » Tue Aug 29, 2017 2:17 pm

Garland, I have also suggested that US Large Value is a good place to be as it has trailed by US Total Stock Market Index since the 2008-2009 financial crisis. I have been suggesting this for a couple of years now, but then again, I am running into the being right to early problem.

It is interesting that Arnott echoed Larry Swedroe's comments about Low Volatility, pretty much investors have piled into these kind of stocks and they have gotten expensive. In particular, look at how expensive Consumer Staples stocks are.

I saw where Arnott said that Quality in the United States was cheap. I looked at the QUAL ETF on Morningstar and QUAL seemed more expensive than the market itself. Quality stocks tend to trade at a premium to whatever market valuations are at the time, I just struggle with the concept they are cheap in here. They are not.

Actually, this was a pretty good article. I would not put a "sell" on US Stocks but I do agree that future returns are likely to be muted.
Last edited by nedsaid on Tue Aug 29, 2017 2:26 pm, edited 1 time in total.
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Re: Rob Arnott: Dump US stocks buy EM

Post by nedsaid » Tue Aug 29, 2017 2:18 pm

lazyday wrote:
Tue Aug 29, 2017 2:05 pm
nedsaid wrote:
Tue Aug 29, 2017 2:03 pm
Hi Garland, I couldn't get to the article as it was behind a paywall.
Google this:

Rob Arnott: Dump U.S. Stocks, Buy Emerging Markets

and try the first link. Worked for me this time, though doesn't work for older Barrons articles.
Got it. Did what you suggested and got to it. Thank you.
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Re: Rob Arnott: Dump US stocks buy EM

Post by Jack FFR1846 » Tue Aug 29, 2017 2:21 pm

Arnott: ".....of course his EM fundamental indexes target...."

Jack Bogle: "Nobody knows nothin'"

One is self serving and the other isn't.
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Re: Rob Arnott: Dump US stocks buy EM

Post by Simplegift » Tue Aug 29, 2017 2:28 pm

Rob Arnott and Research Affiliates have been banging the drum for emerging market equities for quite a while. Their main argument rests on ‘reversion to the mean’ in the respective valuations between the U.S. and emerging markets (table below):
Personally, our portfolio has a considerable tilt toward emerging markets. But I wouldn’t be selling U.S. stocks to load up on emerging markets, based on Arnott’s 'reversion to the mean’ forecasts. U.S. stocks can easily stay expensive for years and still provide healthy returns.
Cordially, Todd

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Re: Rob Arnott: Dump US stocks buy EM

Post by lazyday » Tue Aug 29, 2017 2:34 pm

siamond wrote:
Tue Aug 29, 2017 2:10 pm
No clue why, but I had a copy of Barron's on my doorstep, and I read said article. Which didn't provide any data point or substantive argument to justify the recommandation... Financial porn indeed and remarkably poor journalism.
From the online version:
Here’s how I come up with an expected return for emerging markets stocks, rounding to the nearest half a percent. I start with 2.5% from yield, 1.5% from real growth in income, 2% from rising valuation multiples, given the very low 13 times Shiller price/earnings ratio for emerging markets stocks, plus an additional 0.5% from emerging markets currencies being historically cheap on a purchasing-power-parity basis. Note that a 20% rise in the Shiller P/E ratio for emerging markets stocks would bring the P/E to about 15.5 times, which is still below its historical norms. [The Shiller P/E, also known as CAPE, is a cyclically adjusted gauge that adjusts for inflation and average reported earnings over the prior 10 years.]

By contrast, in calculating U.S. stock returns over the next 10 years, we get 2% from yield and 1% from real growth in income, but then we lose 2½% to falling valuation multiples, given the very high 31 times Shiller P/E ratio. A 25% drop in the Shiller P/E ratio would leave us at a still lofty 24 times.
I'm sure you've read the RA expected returns methodology, but for anyone else interested, it goes into detail on things like finding a historical average EM Shiller PE even though there isn't a long history of data. https://www.researchaffiliates.com/docu ... Equity.pdf

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Re: Rob Arnott: Dump US stocks buy EM

Post by bradshaw1965 » Tue Aug 29, 2017 2:39 pm

As far as accessing the article behind a paywall, most publishers have decided that a Google search is not an effective revenue generator so searching for the title in search is not useful, but searching social networks such as Twitter and Facebook seem to be in the publishers plans. YMMV.

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Re: Rob Arnott: Dump US stocks buy EM

Post by galeno » Tue Aug 29, 2017 3:05 pm

When we first started indexing in 2006 we tilted our equity portfolio slightly toward smaller, non-USA, and EM. By the end of 2013 we had lost to an all USA equity port.

We now simply hold a FTSE all world equity index ETF and take whatever the world equity market is willing to give us.
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 2.8%. TER = 0.5%. Port Yield = 2.0%. Term = 35 yr. FI Duration = 6.2 yr. Portfolio survival probability = 100%.

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Re: Rob Arnott: Dump US stocks buy EM

Post by columbia » Tue Aug 29, 2017 3:11 pm

The great thing about a global cap fund is that one doesn't need to worry about buying "cheap" EM stocks - it just happens.

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Re: Rob Arnott: Dump US stocks buy EM

Post by Grt2bOutdoors » Tue Aug 29, 2017 3:14 pm

Well, better late than never, others have been saying for years that EM value and international small value were bargains. As for US Quality, he must have spent a day at GMO to come away with such a strong prediction.
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Re: Rob Arnott: Dump US stocks buy EM

Post by Whakamole » Tue Aug 29, 2017 3:20 pm

Grt2bOutdoors wrote:
Tue Aug 29, 2017 3:14 pm
Well, better late than never, others have been saying for years that EM value and international small value were bargains. As for US Quality, he must have spent a day at GMO to come away with such a strong prediction.
I don't think he's visited GMO, otherwise he would also be talking about timber lands.

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Re: Rob Arnott: Dump US stocks buy EM

Post by siamond » Tue Aug 29, 2017 3:27 pm

lazyday wrote:
Tue Aug 29, 2017 2:34 pm
siamond wrote:
Tue Aug 29, 2017 2:10 pm
No clue why, but I had a copy of Barron's on my doorstep, and I read said article. Which didn't provide any data point or substantive argument to justify the recommandation... Financial porn indeed and remarkably poor journalism.
From the online version:
Here’s how I come up with an expected return for emerging markets stocks, rounding to the nearest half a percent. I start with [...]
Ah funny, the printed article did NOT include such details. I don't know what those editors are thinking... And yes, I am aware of Arnott's methodology, which never sounded quite right to me, but well, this stuff is more art than science, to be honest. I do agree that EM seems quite undervalued, even if I certainly plan to stick to my FIXED AA... :wink:
Last edited by siamond on Tue Aug 29, 2017 3:41 pm, edited 1 time in total.

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Re: Rob Arnott: Dump US stocks buy EM

Post by lack_ey » Tue Aug 29, 2017 3:28 pm

Okay, the article is an interview and just goes through most of the usual Rob Arnott/Research Affiliates points about valuation. He's big on valuation and mean reversion in a way that I think goes beyond what the data indicates, and suggesting tactical tilts based on factor or market valuations is nothing new for him. So there's a consistency in terms of outlook.

For more I would just recommend looking through the documents linked above and the handy now-interactive forecasts he has on the website, just to get a sense of his perspective if you are interested in the content or in critiquing in more detail:

https://interactive.researchaffiliates. ... e=Equities

If you look at the performance of say PIMCO All Asset All Authority (PAUIX), which is a fund he's run for PIMCO for over a decade now that can invest across asset classes and markets, he was pretty early in overweighting emerging markets, as EM equity been considerably cheaper than the US for years. You win some, and you lose some when tactical timing based on valuations, which are pretty weak timing signals.

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Re: Rob Arnott: Dump US stocks buy EM

Post by siamond » Tue Aug 29, 2017 3:44 pm

lack_ey wrote:
Tue Aug 29, 2017 3:28 pm
You win some, and you lose some when tactical timing based on valuations, which are pretty weak timing signals.
Very well said, that's exactly it. Valuations can be somewhat useful for mid-term financial planning, that's it. Definitely not for short-term calls.

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Re: Rob Arnott: Dump US stocks buy EM

Post by nedsaid » Tue Aug 29, 2017 4:10 pm

siamond wrote:
Tue Aug 29, 2017 3:44 pm
lack_ey wrote:
Tue Aug 29, 2017 3:28 pm
You win some, and you lose some when tactical timing based on valuations, which are pretty weak timing signals.
Very well said, that's exactly it. Valuations can be somewhat useful for mid-term financial planning, that's it. Definitely not for short-term calls.
It isn't about short term timing but about improving both your odds and future expected returns. Over long periods of time, and I emphasize long, cheap beats expensive. Pretty much your odds for success are better with cheaper assets than with expensive assets.

So yes, I would not use valuation for short term calls. It is more about getting an estimate of future expected returns and that might ultimately affect your asset allocation choices.

Again, this goes back to my comment that there is not only a Valuation effect that moves markets but also a Momentum effect. This is why Value investors need to have patience, Momentum for the more expensive assets can last a while.
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Re: Rob Arnott: Dump US stocks buy EM

Post by galeno » Tue Aug 29, 2017 5:11 pm

Before 2006 our 80% equity allocation held 12-16 stocks. We screened for smaller stocks which were cheap, growing, profitable, good financials, and momentum.
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 2.8%. TER = 0.5%. Port Yield = 2.0%. Term = 35 yr. FI Duration = 6.2 yr. Portfolio survival probability = 100%.

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Re: Rob Arnott: Dump US stocks buy EM

Post by garlandwhizzer » Tue Aug 29, 2017 5:15 pm

The level of uncertainty about the forecasting the details of future market action is high, no matter who does the forecast. Too high IMO to massively bail out of one major asset class (US equity that has done quite well through market ups and downs for decades) and move massively into another which has not done so well (EM). I do believe valuations are an important determinant of long term future returns. As nedsaid stated: cheap beats expensive long term. It's important, however, to remember there is a timing problem when shifting asset allocation. Cheap can always get cheaper and expensive can get more expensive for quite a while, years, not weeks or months. Recall Greenspan's "irrational exuberance" speech 3 years and more than 2000 NASDQ points before the bubble actually popped. That's a lot of tracking error for those who bailed out.

Personally, I significantly overweight EM (25% of global equity) relative to global market cap weight (9.2% in Vanguard's World Stock Index). This is done for valuation reasons as well as positive macroeconomic and demographic factors in EM, but my level of certainty falls way short of bailing out of US and putting it all into EM. That kind of move is only for true believers who embrace risk and have iron stomachs and steel nerves to tolerate potentially massive tracking error. Putting most of ones eggs in a single basket increases risk in direct proportion to the increased expected return. A very high bond allocation could act as a safety net to lower overall portfolio risk but the bonds would likely produce about zero real inflation adjusted returns, diluting the expected payoff.

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Re: Rob Arnott: Dump US stocks buy EM

Post by Simplegift » Tue Aug 29, 2017 5:20 pm

nedsaid wrote:
Tue Aug 29, 2017 4:10 pm
It isn't about short term timing but about improving both your odds and future expected returns. Over long periods of time, and I emphasize long, cheap beats expensive. Pretty much your odds for success are better with cheaper assets than with expensive assets.
This is particularly true with emerging market stocks, I believe, which seem to regularly go on sale every few years (red arrows below) — offering good buying opportunities for the long-term investor.
Personally, I don't pay that much attention to EM valuations and “buying opportunities.” But by conscientiously re-balancing into this asset class whenever its portfolio allocation is low, one is accomplishing much the same thing.
Cordially, Todd

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Re: Rob Arnott: Dump US stocks buy EM

Post by Uncle Pennybags » Tue Aug 29, 2017 5:37 pm

Arnott said; "You know, it’s almost impossible to forecast returns over the next year, but it’s surprisingly easy to do it over a longer time period, like 10 years." I could be eaten by a black bear by then. A black bear is worse than a black swan IMHO.

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Re: Rob Arnott: Dump US stocks buy EM

Post by lazyday » Tue Aug 29, 2017 6:49 pm

https://www.gmo.com/docs/default-source ... f?sfvrsn=3

Emerging Value and Margin of Superiority
Ben Inker
But, on a
measure that really matters to us for portfolio construction, emerging value today is the best asset we
have ever seen. That measure is its “margin of superiority” – the amount by which it is better than the
next best asset on our forecasts [excluding close-cousin assets]
My favorite emerging value fund: FNDE

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Re: Rob Arnott: Dump US stocks buy EM

Post by patrick013 » Tue Aug 29, 2017 6:55 pm

According to MSCI Emerging Markets have several things investors
like lately. Increased revenues, EPS, and exports. China and
EM ETF's are high on brokers' buy today lists. Is it the start of a little
bull market ? Now forecasts for EM GNP's are rising. Have to
wait and see.
age in bonds, buy-and-hold, 10 year business cycle

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Re: Rob Arnott: Dump US stocks buy EM

Post by Uncle Pennybags » Tue Aug 29, 2017 7:38 pm

patrick013 wrote:
Tue Aug 29, 2017 6:55 pm
China and
EM ETF's are high on brokers' buy today lists.
China is an emerging market? A US China war on the Korean peninsula would not even be a black swan.

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Re: Rob Arnott: Dump US stocks buy EM

Post by whodidntante » Tue Aug 29, 2017 7:53 pm

lazyday wrote:
Tue Aug 29, 2017 6:49 pm

My favorite emerging value fund: FNDE
That fund overweights South Korea at about 20% of total. Just FYI.

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Re: Rob Arnott: Dump US stocks buy EM

Post by Uncle Pennybags » Tue Aug 29, 2017 9:10 pm

I can list the components of the S&P 500. Can anyone list the components of the EMs?

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Re: Rob Arnott: Dump US stocks buy EM

Post by triceratop » Tue Aug 29, 2017 9:22 pm

Uncle Pennybags wrote:
Tue Aug 29, 2017 9:10 pm
I can list the components of the S&P 500. Can anyone list the components of the EMs?
I can do neither. With the help of a spreadsheet, yes, to both.

By the way, your argument also argues against using a total market fund in favor of the S&P500. Or, to be more extreme, FANG.
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Re: Rob Arnott: Dump US stocks buy EM

Post by lack_ey » Tue Aug 29, 2017 9:45 pm

Uncle Pennybags wrote:
Tue Aug 29, 2017 9:10 pm
I can list the components of the S&P 500. Can anyone list the components of the EMs?
For reasons stated above and elsewhere I think that's not a great way to think about investments, but top components of EMs are I guess Samsung if you include South Korea, Tencent (really big Chinese internet/gaming/media/services company), Alibaba if you include it (it's not in some EM indexes for reasons dealing with the structure, domicile, etc.) with Baidu also somewhere up there, and TSMC (should be obvious if you know about chips/technology). I assume some big Chinese manufacturing and financial companies are up there, and telecom providers there and elsewhere such as Korea's SK Telecom. Then some more stuff like Hyundai and Shinhan Bank in Korea, Mediatek in Taiwan, I guess Petrobras? Not sure how far they've fallen and I don't think the free float is huge. Tata in India, making cheap cars. I think the recognizable Taiwanese tech brands like Asus are a bit smaller but probably in the top 100 with Acer etc. even lower. I'm sure I'm missing a lot.

I sure can't list the smaller components of the S&P 500 either though most would get further.

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Re: Rob Arnott: Dump US stocks buy EM

Post by Uncle Pennybags » Tue Aug 29, 2017 9:55 pm

triceratop wrote:
Tue Aug 29, 2017 9:22 pm
By the way, your argument also argues against using a total market fund in favor of the S&P500. Or, to be more extreme, FANG.
Facebook, Amazon, Netflix and Google, despite what they say, are evil. Vanguard's VIT and VOO are the same to me but different to the Tax Man; I understand them. I found it interesting that there are more "authoritative" definitions of EMs than I have fingers. There is a common thread in 90% of the EMs. A less than total democratic government; that has black bear written all over it. Is Venezuela an EM?

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Re: Rob Arnott: Dump US stocks buy EM

Post by asif408 » Tue Aug 29, 2017 10:13 pm

I got rid of almost all of my US stocks last year, except for about 10% in US energy companies. The rest is in EM, developed ex-US, and a small slice in precious metals equities (PME). I've been shifting to more international for the last several years, but initially started off doing it slowly. I am convinced that the price you pay matters, and the multiple valuation indicators, depressed currencies, investor sentiment indicators, and fund flow data, along with stock market history, all point to better returns ahead for any stocks outside the US. There has been a mass exodus of investors from EM and most other stocks markets outside the US over the last 5 or so years (though the trend has reversed somewhat this year). I know that if US stocks crash, EM stocks and most other stocks will likely crash along with them, though they might not crash as much, and they may recover faster (see 2001-2007, when EM stocks fell less, recovered faster than US stocks, and dramatically outperformed). The late 1990s/early 2000s had a similar divergence in valuations between EM and US stocks, and EM stocks went on to dramatically outperform US stocks over the next 10+ years, though the first few years were rocky, and depending on when you jumped in it could have taken a few years to see the outperformance show up.

Based on all the indicators I mentioned above I think there is a better than 50/50 chance most other markets outside the US will have better returns over the next 10-20 years, and that's what matters most. Of course, I am not 100% confident EM will be the best performer as Mr. Arnott is, so I don't take his advice fully and put all my eggs in the EM basket. And I'm not sold on the fundamental indexing they are fans of, so I stick to plain vanilla market cap index funds. But with almost half of my stocks in EM stocks, and a high equity allocation, I imagine I am in a small minority here. But I am ok with tracking error and have determined over the last few years of poor emerging markets returns that my stomach is cast iron and I can handle the increased volatility, which hopefully (of course, no guarantees) will provide a higher return down the road. I am also humble enough to say I may be wrong, but I've learned a lot about market history, and history has shown these bouts of outperformance by country do not last forever, and the longer they go the less likely they will continue going forward.

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Re: Rob Arnott: Dump US stocks buy EM

Post by triceratop » Tue Aug 29, 2017 10:32 pm

Uncle Pennybags wrote:
Tue Aug 29, 2017 9:55 pm
triceratop wrote:
Tue Aug 29, 2017 9:22 pm
By the way, your argument also argues against using a total market fund in favor of the S&P500. Or, to be more extreme, FANG.
Facebook, Amazon, Netflix and Google, despite what they say, are evil. Vanguard's VIT and VOO are the same to me but different to the Tax Man; I understand them. I found it interesting that there are more "authoritative" definitions of EMs than I have fingers. There is a common thread in 90% of the EMs. A less than total democratic government; that has black bear written all over it. Is Venezuela an EM?
The point with FANG is that one might very well know what companies that acronym refers to but not know the constituent members of the S&P500. The fact that this argument makes no sense is supposed to draw attention to the absurdity of your investing theory.

The Vanguard EM fund owns no Venezuelan securities, and I assume the same is true for similar funds. This is all public information that you can look up if you so choose.

By the way, without straying too far into politics and staying strictly in history (specifically, the plain reading of the US Constitution, an historical document), I think you'll find that the United States also meets your criterion of a "less than total democratic government". It is a federal republic with many anti-democratic features. Better not invest in the US!
"To play the stock market is to play musical chairs under the chord progression of a bid-ask spread."

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Re: Rob Arnott: Dump US stocks buy EM

Post by AlohaJoe » Tue Aug 29, 2017 10:39 pm

triceratop wrote:
Tue Aug 29, 2017 9:22 pm
Uncle Pennybags wrote:
Tue Aug 29, 2017 9:10 pm
I can list the components of the S&P 500. Can anyone list the components of the EMs?
I can do neither. With the help of a spreadsheet, yes, to both.

By the way, your argument also argues against using a total market fund in favor of the S&P500. Or, to be more extreme, FANG.
FWIW, I can name (approximately) the same number from each by memory. But I'm not a cloistered American who doesn't pay attention to anything that happens outside of America. I mean, Uncle Pennybags really hasn't heard of Tencent, Bank of China, Infosys, Tata, Petrobras, Gazprom, Unilever (Indonesia), Woolworth's (South Africa), Foxconn, Wipro, Haier, Nestle (India), Embraer, Jollibee, or Taiwan Semiconductor?

I admit the some of them may not be widespread outside of Asia -- everyone in Asia has heard of Haier appliances and Jollibee hamburgers. But surely even Americans must have read news articles about Gazprom gas lines arguments, Foxconn building the iPhone, Petrobras bringing down a government, Wipro & Infosys outsourcing all IT ... and they've probably flown in an Embraer regional jet.

I agree with you that the overall argument is ridiculous.

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Re: Rob Arnott: Dump US stocks buy EM

Post by JBTX » Tue Aug 29, 2017 10:42 pm

lazyday wrote:
Tue Aug 29, 2017 6:49 pm
https://www.gmo.com/docs/default-source ... f?sfvrsn=3

Emerging Value and Margin of Superiority
Ben Inker
But, on a
measure that really matters to us for portfolio construction, emerging value today is the best asset we
have ever seen. That measure is its “margin of superiority” – the amount by which it is better than the
next best asset on our forecasts [excluding close-cousin assets]
My favorite emerging value fund: FNDE
I was just about to post the same thing

https://www.gmo.com/docs/default-source ... ?sfvrsn=46

GMO is saying almost exactly the same thing as Arnott this time around. Expected returns on EM much comparatively higher (although still below longer term average), international better than US, and what little US they have is US "Quality"

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Re: Rob Arnott: Dump US stocks buy EM

Post by JBTX » Tue Aug 29, 2017 10:48 pm

asif408 wrote:
Tue Aug 29, 2017 10:13 pm
I got rid of almost all of my US stocks last year, except for about 10% in US energy companies. The rest is in EM, developed ex-US, and a small slice in precious metals equities (PME). I've been shifting to more international for the last several years, but initially started off doing it slowly. I am convinced that the price you pay matters, and the multiple valuation indicators, depressed currencies, investor sentiment indicators, and fund flow data, along with stock market history, all point to better returns ahead for any stocks outside the US. There has been a mass exodus of investors from EM and most other stocks markets outside the US over the last 5 or so years (though the trend has reversed somewhat this year). I know that if US stocks crash, EM stocks and most other stocks will likely crash along with them, though they might not crash as much, and they may recover faster (see 2001-2007, when EM stocks fell less, recovered faster than US stocks, and dramatically outperformed). The late 1990s/early 2000s had a similar divergence in valuations between EM and US stocks, and EM stocks went on to dramatically outperform US stocks over the next 10+ years, though the first few years were rocky, and depending on when you jumped in it could have taken a few years to see the outperformance show up.

Based on all the indicators I mentioned above I think there is a better than 50/50 chance most other markets outside the US will have better returns over the next 10-20 years, and that's what matters most. Of course, I am not 100% confident EM will be the best performer as Mr. Arnott is, so I don't take his advice fully and put all my eggs in the EM basket. And I'm not sold on the fundamental indexing they are fans of, so I stick to plain vanilla market cap index funds. But with almost half of my stocks in EM stocks, and a high equity allocation, I imagine I am in a small minority here. But I am ok with tracking error and have determined over the last few years of poor emerging markets returns that my stomach is cast iron and I can handle the increased volatility, which hopefully (of course, no guarantees) will provide a higher return down the road. I am also humble enough to say I may be wrong, but I've learned a lot about market history, and history has shown these bouts of outperformance by country do not last forever, and the longer they go the less likely they will continue going forward.
My sentiments are close to yours, although I haven't acted on them nearly to that degree. I may marginally boost EM and international and reduce domestic, but I just don't make big speculative moves. I tend to lean pessimistic at times as an investor, but I have learned such instincts typically don't serve me well, so I'll make marginal moves to make me feel like I'm doing something but don't shoot myself in the foot.

If US stocks crash, EM stocks will likely crash harder, but would probably have a much more robust long term recovery.

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Re: Rob Arnott: Dump US stocks buy EM

Post by Always passive » Tue Aug 29, 2017 10:52 pm

Uncle Pennybags wrote:
Tue Aug 29, 2017 5:37 pm
Arnott said; "You know, it’s almost impossible to forecast returns over the next year, but it’s surprisingly easy to do it over a longer time period, like 10 years." I could be eaten by a black bear by then. A black bear is worse than a black swan IMHO.
This is Benjamin Graham talking. " in the short run, the market is like a voting machine. But in the long run, the market is like a weighing machine"
Valuations count. We all agree on that, but the question is whether PE10 is the right tool. Arnott thinks so.

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Re: Rob Arnott: Dump US stocks buy EM

Post by Portfolio7 » Tue Aug 29, 2017 11:08 pm

garlandwhizzer wrote:
Tue Aug 29, 2017 1:27 pm
Arnott suggests that investors with high risk/volatility tolerance should dump US stocks and load up on EM, especially EMV which of course his EM fundamental indexes target. He also suggests that in the US market the factor currently with the most attractive valuation characteristics is QUAL.
Lower risk investors can still take advantage of such situations with modest adjustments to their AA. I know nothing about QUAL, but regarding EM and Int'l Dev, I'm overweighted.

There are certain conditions that just cry out to be noticed. At the beginning of this year, EM/Int'l had 1) poor overall recent performance over several years, and 2) carried relatively low valuations vs other assets and vs it's own history, despite 3) improving global economic conditions.... so I decided to overweight ex-US roughly 10%. I didn't even mention Bogle's own methodology of looking at the likely 10 year return of the S&P, which isn't optimistic.

The way I figure it, it's like Buffett says - you don't have to swing at any of the pitches. I am ok at my standard AA if I see no special opportunities - but when I see a hanging curveball, I take a swing. Heck, I'm not even going for the fences, just trying to get a single.
An investment in knowledge pays the best interest.

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Re: Rob Arnott: Dump US stocks buy EM

Post by aj76er » Tue Aug 29, 2017 11:59 pm

I like how Swedroe used to put it:

"If you're gonna sin, only sin a little"

Valuations matter, but I don't think there's a free lunch here. I don't feel there are any asset bubbles just yet, and I believe the market is good at pricing risk/reward. Thus, "if" you get higher returns for EM over the long term, prepare for a bumpy ride. And I'm not sure how to quantify currency risk, but I have a feeling it is significant and it could end up muting expected returns.
"Buy-and-hold, long-term, all-market-index strategies, implemented at rock-bottom cost, are the surest of all routes to the accumulation of wealth" - John C. Bogle

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Re: Rob Arnott: Dump US stocks buy EM

Post by Always passive » Wed Aug 30, 2017 12:00 am

Given that we are discussing allocation, i am curious to hear from people that are shifting away from US to EM. What is your current allocation?
To start, I am retired and mine is and has been for the past 2 years or so:
40% US
40% DW ex US
20% EM
With 30% Total Equity in portfolio.

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Re: Rob Arnott: Dump US stocks buy EM

Post by AlohaJoe » Wed Aug 30, 2017 12:05 am

Simplegift wrote:
Tue Aug 29, 2017 5:20 pm
nedsaid wrote:
Tue Aug 29, 2017 4:10 pm
It isn't about short term timing but about improving both your odds and future expected returns. Over long periods of time, and I emphasize long, cheap beats expensive. Pretty much your odds for success are better with cheaper assets than with expensive assets.
This is particularly true with emerging market stocks, I believe, which seem to regularly go on sale every few years (red arrows below) — offering good buying opportunities for the long-term investor.

Personally, I don't pay that much attention to EM valuations and “buying opportunities.” But by conscientiously re-balancing into this asset class whenever its portfolio allocation is low, one is accomplishing much the same thing.
(This is essentially the same conversation as another thread currently running about rebalancing international.)

Say you have a portfolio that is 50% US and 50% EM.

...if you never rebalance then the CAGR is 8.37% (from 1995 to 2017, since that's when VEIEX was created)
...if you rebalance every month then the CAGR is 8.39%
...if you rebalance quarterly then the CAGR is 8.43%
...if you rebalance semi-annually then the CAGR is 8.59%
...if you use rebalancing bands of 5/25 then the CAGR is 8.60%

(You can see the tension between betting on mean-reversion and betting on momentum in the above progression of CAGR.)

So there's very little evidence those five "buying opportunities" over the past quarter-century turned into anything you can spend at the end of the day. And that's with a massive 50% of your portfolio allocated to EM. If you use a more realistic allocation (probably less than 15% of your total portfolio even for those who tilt) then it dilutes any possible "buying opportunity" to nothingness.

Over the years I've become less and less convinced of the value of rebalancing.

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Re: Rob Arnott: Dump US stocks buy EM

Post by Simplegift » Wed Aug 30, 2017 12:54 am

AlohaJoe wrote:
Wed Aug 30, 2017 12:05 am
Over the years I've become less and less convinced of the value of rebalancing.
In your example, you are rebalancing from U.S. stocks into emerging market stocks. Wouldn't most investors usually be rebalancing from U.S. bonds into emerging market stocks? Personally, our portfolio has been 50% stocks/50% bonds for ages, and in last 25 years we’ve never sold stocks to rebalance into more stocks — we’ve always sold bonds to rebalance into stocks (and vice-versa).

What do your numbers look like if the rebalancing is between U.S. bonds and EM stocks?
Cordially, Todd

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Re: Rob Arnott: Dump US stocks buy EM

Post by triceratop » Wed Aug 30, 2017 1:09 am

Simplegift wrote:
Wed Aug 30, 2017 12:54 am
AlohaJoe wrote:
Wed Aug 30, 2017 12:05 am
Over the years I've become less and less convinced of the value of rebalancing.
In your example, you are rebalancing from U.S. stocks into emerging market stocks. Wouldn't most investors usually be rebalancing from U.S. bonds into emerging market stocks? Personally, our portfolio has been 50% stocks/50% bonds for ages, and in last 25 years we’ve never sold stocks to rebalance into more stocks — we’ve always sold bonds to rebalance into stocks (and vice-versa).

What do your numbers look like if the rebalancing is between U.S. bonds and EM stocks?

Say you have a portfolio that is 50% 10-yr US Treasuries and 50% EM (results are similar if you use live funds VBMFX and VEIEX).

...if you never rebalance then the CAGR is 6.26% (from 1995 to 2017, since that's when VEIEX was created)
...if you rebalance every month then the CAGR is 7.18%
...if you rebalance quarterly then the CAGR is 7.44%
...if you rebalance semi-annually then the CAGR is 7.50%
...if you use rebalancing bands of 5/25 then the CAGR is 7.58%

It seems as if you have a point.
"To play the stock market is to play musical chairs under the chord progression of a bid-ask spread."

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Re: Rob Arnott: Dump US stocks buy EM

Post by AlohaJoe » Wed Aug 30, 2017 1:31 am

Simplegift wrote:
Wed Aug 30, 2017 12:54 am
AlohaJoe wrote:
Wed Aug 30, 2017 12:05 am
Over the years I've become less and less convinced of the value of rebalancing.
In your example, you are rebalancing from U.S. stocks into emerging market stocks. Wouldn't most investors usually be rebalancing from U.S. bonds into emerging market stocks? Personally, our portfolio has been 50% stocks/50% bonds for ages, and in last 25 years we’ve never sold stocks to rebalance into more stocks — we’ve always sold bonds to rebalance into stocks (and vice-versa).
Let's say you had a portfolio that was 50% bonds, 40% US equities, and 10% EM. In 1995 the returns were 20% for US bonds, 37% for US, and 0% for EM.

You started the year with $50 in bonds, $40 in US, and $10 in EM. At the end of the year you have $59 in bonds, $55 in US, and $10 in EM. Your target, though, is $62 in bonds, $50 in US, and $12 in EM. So you need to sell $5 US and put $3 in bonds and $2 in EM. You just sold stocks to rebalance into more stocks.

Selling stocks to rebalance into more stocks should be a relatively common occurrence. A quick check with the simba backtesting spreadsheet suggests that since 1985 it would have happened in 1986, 1987, 1992, 1993, 1994, 1995, 1997, 1998, 2005, 2007, 2013, and 2014.

Maybe we're talking about different things because I don't see how you've never had to rebalance between stocks. Stocks will usually be going up, so you'll usually be rebalancing from equities to bonds. And some equities will be going up faster than others, so you'll need to sell the faster growing equities and rebalance into the slower growing equity.

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Re: Rob Arnott: Dump US stocks buy EM

Post by Simplegift » Wed Aug 30, 2017 2:22 am

AlohaJoe wrote:
Wed Aug 30, 2017 1:31 am
Maybe we're talking about different things because I don't see how you've never had to rebalance between stocks. Stocks will usually be going up, so you'll usually be rebalancing from equities to bonds. And some equities will be going up faster than others, so you'll need to sell the faster growing equities and rebalance into the slower growing equity.
I should have mentioned that ours has always been an all-taxable portfolio (we sold a business in the 1990s and lump sum invested into a 50% stock/50% bond allocation) and we've had embedded capital gains in the stock portion almost from the beginning. So we've been quite reluctant to sell appreciated shares over the years, unless absolutely necessary to reduce risk. I guess you could call our rebalancing strategy "opportunistic only," to save the tax hit.

Anyway, not to highjack this thread into a rebalancing discussion, but the EM stock "buying opportunities" was in reference to selling bonds to fund the purchase, not selling other stocks. This is the way we've always done it.
Cordially, Todd

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Re: Rob Arnott: Dump US stocks buy EM

Post by restingonmylaurels » Wed Aug 30, 2017 2:53 am

Simplegift wrote:
Tue Aug 29, 2017 2:28 pm
Personally, our portfolio has a considerable tilt toward emerging markets. But I wouldn’t be selling U.S. stocks to load up on emerging markets, based on Arnott’s 'reversion to the mean’ forecasts. U.S. stocks can easily stay expensive for years and still provide healthy returns.
Living outside the US (note the posting time) has given me an up close and personal view of both EM and developed economies from the consumer and producer perspectives.

My view is that EM countries, just like the US, prioritize growth over stability, while developed non-US countries (Europe, Japan) prioritize stability over growth.

This is why I have long been invested in EM, despite the regular buggy rides. Developed non-US may be a good value play at times, but because stability is their primary objective, they tend to be catching up with and not leading innovation.

Considering populations, demographics, and a flat world, I perceive that the proper long-term investment focus should be on the US and EM.

To determine how much one would allocate to the US versus EM, kick around areas such as political stability, legal protections, tax policy, innovative capability, culture vs. capitalism, and demographic trends.

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Re: Rob Arnott: Dump US stocks buy EM

Post by selters » Wed Aug 30, 2017 4:25 am

whodidntante wrote:
Tue Aug 29, 2017 7:53 pm
lazyday wrote:
Tue Aug 29, 2017 6:49 pm

My favorite emerging value fund: FNDE
That fund overweights South Korea at about 20% of total. Just FYI.
That's not too bad. South Korea's weight in the MSCI EM index is something like 12-13% to begin with.

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Re: Rob Arnott: Dump US stocks buy EM

Post by in_reality » Wed Aug 30, 2017 7:30 am

lazyday wrote:
Tue Aug 29, 2017 6:49 pm
My favorite emerging value fund: FNDE
Yeah mine too, but it's been tough to hold.

$10,000 invested 09/05/2014 to 01/29/2016

EWX: $7,059 (emerging small)
VEMAX: $7,007 (Vanguard emerging)
DGS: $6,947 (emerging small dividend)
FNDE: $6,195

In it's lifetime overall, FNDE has performed similar to VEMAX. These dates are obviously cherry picked to show what one might experience holding that fund.
By comparison in the same (bad) time:

VTSAX: $9,784 (US total market)
FNDC: $9,011 (Developed small/mid value)
VSS: $8,369 (Ex-US small)
FNDE: $6,195

I'm around 14% of equities in emerging value and 2% in cap weighting. Have rebalanced dutifully.
Last edited by in_reality on Wed Aug 30, 2017 8:29 am, edited 1 time in total.
[60% US _ 26% DEV _ 14% EM] | (-16% LC _ +8% MC _ +8% SC) | [47% FND/VAL _ 40% MKT _ 7% MOM _ 6% REIT] | (+/- 5% or *25% rebalancing bands)

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