An Interview With Jeremy Grantham

Asset allocators will be sorely tested in the coming year, says a skilled practitioner of the art:

Duck and cover. That about sums up
this investing great’s view of how best to cope with what he thinks is
likely to be a difficult year in the financial markets. A founder of
Boston-based Grantham, Mayo, Van Otterloo, and steward of $80 billion
for institutions and the wealthy, Grantham sizes up asset classes and
seizes the best opportunities across the broad spectrum of available
investments. Now, for the first time in his career, he’s faced with
what he calls the "asset-allocator’s nightmare": asset classes of all
stripes are either overpriced or fairly priced. So, what’s an investor
supposed to do? Grantham offered his advice in an interview conducted
in late December. For some of the best advice in the business, please
read on:

click for larger chart:
Chart courtesy of Barrons

"Underweight equities globally because they are expensive. Only
emerging-market equities are close to fair value, and now could be
considered a little overpriced."


Q: The past few years have been very rough on short sellers. Are you suggesting a new golden period for them?

It will probably be a pretty darn good period, and conservative hedge
funds are the answer to a maiden’s prayer. Even if they turn out to
deliver a lower return than you expect going in because of the sheer
volume of the competition — say you expect 10% but get 5% — that may
turn out to be brilliant in the next couple of years. I personally have
50% of my money in such funds, which includes a net short fund but
mostly conservative market-neutral funds. Of the balance, I’m very long
emerging and international. I’ve shorted a few S&P 500 contracts
against them, just to take some of the sting out of the next few years.
Our highest-confidence strategy would be going long emerging markets
and short S&P 500 contracts.

Our seven-year forecast for asset classes expects a real return of
around 6% from emerging markets. We expect to add three or four points
to that from active management for a total return of 9%. We expect the
S&P 500, on the other hand, to deliver minus-2%. That’s an 11-point
spread. And emerging markets have never looked higher-quality than now.
Their reserves are fabulous. Their currencies, consequently, all look
pretty good. Their growth rates are fabulous. The back page of the
Economist lists the 24 emerging countries. If you were to take the
gross-domestic-product growth rate of the European Union for the last
year and add it to that page, it would rank dead last on a list that
includes Egypt, Israel, Turkey and Slovakia. They are all beneficiaries
of China, have a terrific fundamental strength at the moment and a good
qualitative position. Still in all, they may go bump in the night. But
on a three-year basis, I think they are going to hammer the S&P


"Nightmare" Time?
An Interview With Jeremy Grantham
Barron’s, MONDAY, JANUARY 3, 2005

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