A few weeks back we introduced you to Bill Nygren, manager of the Oakmark Select fund. In the video Nygren plainly states his belief the market is presenting investors with a lot of opportunity to purchase undervalued but high quality companies. In his 2009 semi-annual letter to his fund holders, he reiterates this view. He says,
We continue to believe that today’s long-term investors will increase their capital more by investing in stocks than by investing in other assets. Further, we believe that the long-term return for stocks purchased today is likely to be higher than historical average returns. Here are a few of our main reasons for such optimism.
In his letter, Nygren sites three factors that influence his position – valuation, historically high levels of cash, and lots of skepticism amongst investors. In regard to valuation, Nygren points out that with the S&P 500 trading at about 900, and operating earnings in 2009 expected to be in the $60s, stocks appear reasonably valued with a mid-teens P/E ratio. But Nygren strongly suggests a $60 range for earnings is not normal. Nygren argues that operating earnings were nearly $90 in 2006 thus normal earnings are probably somewhere north of $60.
Nygren also talks about cash, the amount of money market balances which remain historically high. These funds have to go somewhere and the stock market is its most likely destination. The following graph illustrates this point:
In regard to the market’s skepticism, Nygren says:
As value managers, we’re used to having people disagree with us. In fact, we prefer it that way. The consensus opinion, almost by definition, is usually reflected in current prices. So when we differ from consensus, we’re excited by the opportunity. We believe that today’s consensus stock market opinion is that the magnitude of the market increase since March has not been matched by fundamental improvement in the economy. The implication is that an investor should wait for the market to fall before increasing their investment in stocks. While we applaud the effort to tie stock price movements to fundamentals, we have to ask, where were these fundamentalists when the market was in freefall?
All in all, Nygren makes for a good fundamental argument to be an investor in today’s market.