Equity markets remain one of the few areas where undervalued assets can still be found, star investor Neil Woodford wrote in a noteon Wednesday.
Heres his thinking and why he may well be right on many of the topics he touched upon perhaps not, though, on the prospects for some of his top holdings, such asBAE Systems, Imperial Tobacco andLegal & General.
A False Sense Of Security
The premise is that Mr Woodford acknowledges inherent risk for financial assets in a market caratherised by low interest rates.
In the first 300 years of the Bank of Englands history, interest rates averaged nearly 5% and never fell below 2%. In the financial crisis of 2008/09, however, they retreated below 2% for the first time in history and have remained at 0.5% since March 2009,Mr Woodford said, adding that with equity markets revisiting historic peaks in recent months, investors could easily be lulled into a false sense of security about the state of the global economy.
Mr Woodford blames loose monetary policies, namely QE a controversial policy, as he labels it.
The first symptoms and cracks havent shown as yet.
The problem has been apparent since the aftermath of the credit crisis: money pumped into the financial system has inflated financials assets, but the so-called transmission effect of money moving from financial markets to the real economyhasnt actually taken place, leading to a sluggish growth in real world where I believe that real wages in the West will have to grow at a much faster pace than in the past to de-lever our Western world, while boosting consumption and savings.
Without an improvement in underlying economic fundamentals, if you keep driving asset prices up, in the end you create a financial asset price bubble, Mr Woodford also noted.
Crunch? What Crunch?
A market crash is not around the corner, we both agree on this matter, and while there are large areas of over-valuation ()there are enough attractive opportunities out there to build a diversified portfolio, both among smaller players and larger entities.
Some dependable sources of dividend yield and dividend growth are also undervalued, sometimes profoundly so.
Where are there bargains, then?
To name but a few, his CF Woodford Equity Income Fund portfolio is invested in:
- BAE Systems:its stock looks a bit pricey, while currency headwinds, among other things, suggest you should avoid it now, in my view.
- Imperial Tobacco:Id rather choose British American Tobacco, whose relative valuation is much more attractive.
- Legal & General:Im not interested, based on its fundamentals, trading multiples and regulatory risk in the sector.
Finally, Mr Woodford talks of over-valuation of bond markets compared to the under-valuation of certain high-quality, dependable growth stocks. I share his view,although pockets of value can easily be found in the bond market, too, if you are willing to take some calculated risks.
Bonds may or may not be your preferred choice, but then if you are interested to know more abouthigh-quality, dependable growth stocks, I’d strongly recommenda free investment report published by our Motley Fool team,which includes a few value plays trading at attractive multiples, some of which have also attracted the attention of Mr Woodford.
The balance sheet, P&L and cash flow statements of these companies — as well as projections on cash flows, growth rates and profitability — suggest that their stocks couldcontinue to rally well into the end of next year and beyond,delivering pre-tax returns north of 20%, excluding dividends.
Our research iscompletely freeand comeswithout obligationsonly for a very limited amount of time, soclick here right awayto find out more about their identities and prospects.
Alessandro Pasettihas no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makesus better investors.