Leuthold Funds will distribute capital gains to shareholders of record as of November 16, 2016, with the x-date and payable date of November 17, 2016. For the details, click here.
The Reach For Yield...And Its Consequences
- Yields on long-term Treasury bonds have ticked up from their record July lows, but the bond market still managed to make history last month as junk bond yields fell to an all-time low of 6.73% on August 30th. (Yields near the 7% level have typically spelled trouble for the junk market.)
- Maybe we’ve forgotten the economic law of scarcity, but we remain struck that investor infatuation with portfolio income is higher than ever (read any recent issue of Barron’s), just as there’s less of it available than any time in history.
The chart on the following page shows that the total yield on a conventional 60/40 balanced portfolio fell below 2% for the first time ever in July and remains there today (August 31st portfolio yield = 1.98%). This is less than half of this portfolio’s median (1878-to-date) yield of 4.16%.
As Paul Macrae Montgomery (Universal Economics newsletter) points out, yields are not just another market indicator but a component of one’s return as well. In the case of the 60/40 portfolio, the combined yield provided by stock dividends and Treasury coupons has contributed more than half of the portfolio’s 7.75% annualized return since 1878. What do today’s low yields say, then, about prospective returns on the 60/40 portfolio?
Does the total yield on a balanced portfolio (in this case, the tradi- tional 60/40 mix) give us any insight into the probable future gains from that portfolio? Unfortunately, yes.
The chart below overlays the 60/40 portfolio yield with the 10-year forward return for the portfolio. (This is analogous to many studies we’ve presented on the predictive ability of stock market valuation measures.) There’s a stunning correlation of 0.66 between the two series back to 1878, which is an exceptionally tight correlation, on par with the best of our equity-only valuation tools (i.e., Normalized P/E, Price/Cash Flow, etc.).
It’s no coincidence that the best 10-year returns for the 60/40 portfolio occurred after the portfolio’s total yield peaked out above 9% in 1981 and 1982. Despite the huge gains in stock and bond prices off their early 1980’s lows, note the beginning portfolio yield still comprised more than half of the 60/40 portfolio’s 17% annualized return over the subse- quent ten years. Yield matters—even in a major bull market.
Portfolio yield is far from a 19 perfect predictor of long-term portfolio returns. For example, the 60/40 portfolio yield dropped to the then-record low below 3% in 1945-46, but subsequent 10-year portfolio returns still reached a fairly healthy +10% annualized. Then again, equity valuations were very depressed at the beginning of that period. The same cannot be said of today. Based on current portfolio yields, the 10-year future return to a passively managed, 60/40 portfolio is, unfortunately, likely to be even lower than the past ten years’ annualized return of +6.9%. Strategies emphasizing flexible asset allocation and fairly concentrated equity bets stand the best chance of outperforming in this otherwise underwhelming world.
The Leuthold Group, LLC provides research to institutional investors. It is also a registered investment advisor that uses its own re- search, along with other data, in making investment decisions for its managed accounts. As a result, The Leuthold Group, LLC may have executed transactions for its managed accounts in securities mentioned prior to this publication.
The information contained in The Leuthold Group, LLC research is not, without additional data and analysis, sufficient to form the basis of an investment decision regarding any one security. The research reflects The Leuthold Group, LLC’s views as of the date of publication, which are subject to change without notice. The Leuthold Group, LLC does not undertake to give notice of any change in its views regarding a particular industry prior to publication of their next research report covering that industry in the normal course of business. The Leuthold Group, LLC may make investment decisions for its managed accounts that are inconsistent with, or contrary to, the views expressed in current Leuthold Group, LLC reports.
As with any investment, there can be no assurance that any of the funds’ investment objectives will be achieved or that an investor will not lose a portion or all of his or her investment in a fund. Limited Partnerships may offer limited liquidity, may engage in speculative investment practices, may offer limited valuation information to investors and will not be registered. A prospective investor should consult its own tax advisor regarding tax consequences of an investment in a fund.
This report does not constitute an offer or a solicitation of an offer to buy a security. Any offer of solicitation for Limited Partnerships must be made only by means of a delivery of a definitive private offering memorandum. The Partnership’s performance data have not been compiled, reviewed or audited by an independent accountant, and data for recent periods may be adjusted as a result of a subse- quent audit of the year of which those periods are a part.
Because the views expressed in Leuthold Group, LLC research relate to industry groups rather than individual securities, industry group ratings cannot be assumed to apply to each individual security within a group. Thus, if industry group “A” is ranked “Attractive,” The Leuthold Group, LLC may still decide to sell one or more of the component securities in group “A.”
Weeden Investors, L.P., Weeden & Co., L.P.'s parent company, owns 22% of Leuthold Group’s voting securities. An Executive Man- aging Director of Weeden & Co., L.P. is a member of The Leuthold Group, LLC board of directors.
Weeden & Co., L.P. makes a market in AAPL, ABCO, ALGT, ALXN, AMAT, AMKR, AMTD, AMZN, APKT, ARBA, ARUN, ATVI, AZPN, BIDU, BIIB, BRKS, CACC, CATM, CAVM, CELG, CERN, CHKP, CIEN, CLMT, COST, CRAY, CREE, CSCO, CSGP, DELL, DLLR, DLTR, EFII, EZPW, FFBC, FISV, FITB, FULT, GHDX, GPRO, HA, HBAN, HGSI, HMIN, IMAX, INTC, IPGP, IPHS, ISIL, JAZZ, JDSU, JKHY, KALU, LBTYA, LSTR, MAT, MDCO, MGLN, MSCC, MSFT, NFLX, NIHD, NTAP, NXTM, ONNN, OZRK, PACW, PDLI, PRXL, PSMT, QLGC, QSII, RVBD, SATS, SCHN, SCHW, SFLY, SINA, SLAB, SMCI, SNDK, SPLS, STLD, STX, SUSQ, TEVA, TQNT, TRMB, TTWO, UHAL, UMPQ, VMED, VOD, VPHM, VRTX, WBMD, WERN, WRLD and ZBRA.
Weeden & Co., L.P. Member FINRA, NASDAQ, and SIPC.