Bloomberg TV
The equity market is quiet — some might say too quiet.
For evidence of that, look no further than the CBOE Volatility Index, or VIX, which serves as stock market fear gauge and on Monday closed at its lowest level since 1993.
It’s a development that has confounded Wall Street traders and strategists alike for weeks. They have debated whether the environment is as calm as it seems or whether the depressed VIX is masking a stock market shock brewing under the surface.
John Manley, a chief equity strategist for Wells Fargo Funds Management, which oversees about $ 230 billion, doesn’t necessarily think the rock-bottom VIX is cause for alarm. To him, a lack of concern is troubling only when it is widespread enough to eliminate any semblance of caution.
In an interview with Business Insider, the Wells Fargo equity stalwart spoke about the low-volatility environment, stock valuations, postelection share moves, and the future of the bull market.
This interview has been edited for clarity and length.
Joe Ciolli: What do you make of the low VIX? You hear comments ranging from it being broken to investors simply being too complacent about market shocks. Where do you come out?
John Manley: I think people are complacent. But complacency is like any other metric. It’s easy to measure where it is, but it’s hard to tell how persistent it is. What causes really big bear markets is not just when people are overly complacent — it’s when that complacency is sticky. As long as the skepticism can refresh itself, I think that the markets are still quite viable.
People are getting tired of being constantly on edge. Maybe that means they do let down their guard or that they’re complacent. What does it take to shake that? A 5% correction? A 10% one? Those kinds of declines are unfortunately something you put up with. And I think that when push comes to shove, investors in the VIX will react.
Ciolli: What could actually derail this bull market? Nothing has been able to do it for years. The closest we’ve gotten in recent years was the sell-off in 2015 after the surprise yuan devaluation. Since then we’ve gotten geopolitical risks — Brexit, the US presidential election — that you might assume would be a reason to sell, but all anyone wants to do is buy the dip.
Manley: There’s an old line that goes, the truck you see 400 yards down the road is not the truck that hits you. When we see these problems coming, they usually get defused. Brexit may have been a surprise, but we recognized it as something that could possibly happen.
What caused 2008, in my opinion, is that people just didn’t see the risk. These people that took on all this risk didn’t think they had it — they thought they hedged it all away. As long as there’s a perception of risk, and a culture of looking for risk, it’s going to be hard to deflate us.
What could do it? Number one, if earnings fail. I know expectations have been going up for the past four or five months, but suppose they start to retreat. That would make me wrong, but it would also make the market go down. Contrarily, suppose earnings get really strong because the economy all of a sudden really starts to heat up, and you end up in a situation where there’s eight years of deferred spending and household formation. That could result in it getting overheated.
I always think of the economy as going down a pretty broad road that has mud on either side — for inflation and deflation. What hurts the market is when we unexpectedly swerve into one of those mud banks.
Ciolli: Is the stock market overvalued? People are die-hard one way or the other — some think we haven’t seen valuations like this since the dot-com bubble and we’re doomed to fail, and others think there’s nothing to worry about. Where do you rest along that spectrum?
Manley: We’re probably overvalued, but I prefer the term highly valued. We’re at the low end of highly valued, which means that if something bad happens at these valuations, stocks will go down harder than usual. But if nothing happens, they won’t be pulled down by themselves. It’s not cheap.
The fundamentals that drive returns — better earnings, a Fed that’s not going to try and choke off the economy, maybe tax cuts, certainly less difficult regulation — if those things happen, valuations can continue to go higher.
It was in 1996 that Chairman [Alan] Greenspan wondered about “irrational exuberance,” and there were four more years to go. When I came into the business in 1979, the market had been cheap for five years — and then stayed cheap for four or five more. Things can get high and continue to go higher.
It’s tough to use value as a timing tool. I think valuation is a product of what goes on in the marketplace, not a driver.
Ciolli: What area of the market do you think is poised to do best from this point forward, given how far we’ve run up in areas like financials and industrials, which have been seen as benefiting most from President Donald Trump’s policies?
Manley: I still think technology is going to be a good place to be. I don’t know if it’s too expensive right now — maybe it is. When I think three or four years from now, I think we’ll see some wage pressure, but I don’t think management gives in. If managers see wages being forced higher, they’re going to have to force productivity higher, because they don’t think they can price it away. That means they’re going to spend more on technology, so they can pay their workers more, because the workers can produce more.
The other kind of technology is healthcare. Nobody likes the healthcare industry, but on the other hand, everyone wants to live longer. The way I look at it, there’s going to be tremendous pressure with healthcare as a percentage of GDP rising with new technology, an aging population, and a business model that basically keeps people alive longer to consume more healthcare products.
Meanwhile, you have a decent valuation because both Trump and the Democrats have said terrible things about the healthcare companies. If healthcare companies think they can make money in the US, the rest of the world will go along for the ride. At the end of the day, we may not like the cost of healthcare, but it’s going to be pretty dang hard to contain it.
Ciolli: What area do you think gets hit most? What’s your dog of the S&P?
Manley: There’s nothing I really hate, because I’m still pretty constructive on the market. I don’t think it’ll be financials because, while they have done up quickly, things really are getting better there. When sentiment gets ahead of improving fundamentals, it’s usually corrected. I don’t want to get too negative on that area, because there’s still potential there.
I worry about things that are more bond substitutes — REITs, utilities, telecoms — the pure dividend plays. What’s getting better is the economy and technology. What’s not going to get better are interest rates. They’re not going down an awful lot from here, if at all. Nothing sizzles. Mediocre is kind of poor in that environment.
Ciolli: More philosophically, what’s the best piece of advice you can give to an investor just starting out right now?
Manley: Be flexible. Don’t be afraid to change your mind. If you’re wrong, change your mind. If you go down the wrong path, and you’re down 10-12%, it’s better to sell down 15% versus 50%. If you have an idea that something is going to happen, you’re predicting the future, and it’s OK to be wrong. Where you can go wrong is by making a prediction that doesn’t come true, and then sticking with it.
I tell people the biggest mistake of my life came in the fourth quarter of 2000. I raised the technology weighting in September, which was a stupid move. But that wasn’t the biggest mistake. The biggest mistake was not pulling it in November when I found out it wasn’t working in October.
Being flexible is incredibly important. You can change your mind. I understand not wanting to flit around, jumping at something little, but you also need to ask yourself if the reasons you’re in an investment are still the reasons you should be. It’s hard for your ego and it’s hard to call clients, but you have to do it.
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