Scott Glasser is a US-based senior portfolio manager and co-director of research at ClearBridge Advisors. He co-manages the ClearBridge US Appreciation Fund. He has17 years of investment industry experience. He shares his views about the US equities market.
Did you make any notable changes to the portfolio over the last three months?
In terms of new additions to the portfolio, we added a position in Visa and increased it over the course of the quarter. The only significant trim of an existing position was in Verisign. The company is involved in a longstanding lawsuit, which will hang over the stock for a period of one to two years until it is resolved. There is a time risk to the stock as this plays out and there is a fundamental risk as it prevents the company from achieving some other anticipated actions such as raising prices. There have been no notable changes in the Fund's top 10 holdings and we feel very comfortable with these holdings.
How is the portfolio positioned in terms of sector weightings?
Glasser: Healthcare remains the biggest underweight, while we brought energy back to neutral and industrials remains the largest overweight.
Technology has had a tremendous run in the market. As a matter of fact, if you look at the relative returns of technology over the course of the last couple of quarters you will find that they are at a two standard deviation extreme relative to the S&P 500, which historically has been close to an inflection point in terms of relative performance. Energy is an area we continue to like over the longer term. However, the recent run up in commodity prices had put stock prices ahead of underlying fundamentals and we saw an opportunity to take some profits.
The industrials sector is an area where we think we are starting to see a bottoming in some of the fundamentals. Being overweight has hurt performance, but I expect the sector to stabilise over the second half of the year and think it is an area of opportunity going forward. In financials, we have remained negative on US large cap banks, but remain overweight on the insurance companies. We own JP Morgan and have a very small position in Bank of America. The US large cap banks did have a significant rebound from the bottom, but from this point forward we don't believe that they will be market leaders. We think there will be clearer differentiation between stocks within the sector though and believe JP Morgan will be a notable beneficiary. Consumer staples and consumer discretionary stocks have not performed well over the last three to six months, but we feel very secure in our holdings. We've had a significant underweight in healthcare, but we are finding some value in biotech companies.
Materials had helped us. I have highlighted before that I thought emerging markets would rebound first and that it would be caused by not only a greater risk appetite, but by the tremendous fiscal stimulus at work in those markets and because the health of the balance sheets in those markets was far greater than that of developed markets. As many of those countries turned their focus inward, we thought materials would be a beneficiary. I think we have seen that.
The market has rallied sharply since March. Do you think the market strength can be sustained?
We have seen a great rebound, but we think that the overall market levels more than discount the actual economic and fundamental recovery we have had in terms of the companies and the economy here in the US. We think that the market is ahead of the actual rebound. Our view has consistently been that this will take a long time to play out. Markets are still in a sideways, highly volatile pattern from which they will eventually emerge. We need to see another couple of quarters of improvement in the general economy. Although conditions have stopped getting worse, and in some cases we have seen some improvement from very low levels, we have some serious doubts as to what will stimulate end demand in the next three to six months. In the long run, the markets will continue to heal and buying power will come back, but in the shorter term, fundamentals continue to be poor and the market is ahead of the underlying fundamentals. Our view is that the recovery will take longer and be more subdued than most believe.
Ultimately, it comes down to the opportunities we are seeing or -- in this case -- are not seeing in the market and where valuations are relative to where we think growth rates will be. We were bullish a couple of months ago, but we have become more cautious now. We believe the upside from where we are is limited and what we are seeing from our stock analysis recently is more opportunities to sell than buy, but we continue to look for things to buy.
Better-than-expected earnings results have provided some support to the market. Are you encouraged by the recent earnings announcements?
Although companies' earnings results are coming in better than expected, my initial observation is that companies continue to be light in terms of their revenues and improvements in demand are not apparent. Three quarters of those companies that missed revenue expectations, all actually beat earnings expectations. The majority of the positive earnings surprises were due to better-than-expected margins and better-than-expected cost reductions. In addition, earnings estimates have come down dramatically. Sell-side analysts are still working off numbers that were put in three months ago and in some cases reflect a continuing declining situation, while conditions have already stabilised.
The recovery is likely to be far stronger in emerging markets than in developed markets. Have you attempted to add stocks from these countries in the portfolio?
The way we take advantage of developments in emerging markets is that we have exposure to certain companies that have a significant part of their revenues or profits sourced from different emerging markets. Certainly, a lot of multinationals, and technology companies specifically, have exposure there. In terms of stock names, I've talked about Celanese Corp in the past. It's a chemical company, which sources a third of its revenues from China. We added to positions anticipating a rebound. A company that we own that is located in an emerging market would be Petrobras, the large energy company. The company will probably have the best volume growth and significant reserve additions of any international oil company over the next 5-10 years. Our position is not only obviously a play on emerging markets, but clearly also on energy and reserve growth over the next five or more years.