Wow, what a great year to invest in stocks. The
typical U.S. stock fund gained about
30%
, and other
developed markets were buoyant, too. Emerging
markets had modest gains, however, and rising inter-
est rates led to small losses for most bond funds.
Ben Inker of
GMO
is throwing cold water on this party.
He forecasts that U.S. stocks will not even keep
pace with inflation over the next seven years.
GMO
projects the S
&
P
500
will return negative
1
.
7%
annualized after inflation and the Wilshire
5000
will
return negative
2%
after inflation. U.S. small caps
are projected to have a negative
4
.
5%
return after
inflation. The crux of
GMO
’s argument is that corpo-
rate profit margins are unsustainably high. When they
revert to the mean, stock prices will trend lower, too.
GMO
is more positive about U.S. high-quality stocks
(
2
.
7%
annualized above inflation), foreign developed-
markets equities (
1
.
4%
for large caps and
1
.
0%
for
small caps), and emerging-markets stocks (
3
.
2%
). How-
ever, it projects a mere
0
.
1%
return above inflation for
U.S. bonds.
GMO
’s profit-margin argument is sound, but few
models or forecasts get everything right. More impor-
tant than the absolute projections
GMO
makes is
its basic point that most stocks have gone from super
cheap to something like fully priced over the past
five years.
Thus, if you are a stock investor, you should curb your
enthusiasm and diversify.
GMO
isn’t dumping all its
U.S. equities. Nor should you. I’ll share my ideas for
where you should invest in
2014
and beyond. There
aren’t a lot of screaming buys, but there are some
areas that look better than others. It makes sense to
nudge your portfolio in that direction rather than do
anything drastic. I have some more ideas on Page
10
,
where I update our annual Buy the Unloved report,
and Dan Culloton has some good ideas in
Income Strategist.
Europe
This time last year, I said European and Asian stocks
were attractive, and I was mostly right. European
stocks produced a nifty
21%
return in
2013
, while
Japan-stock funds gained
24%
. However, Pacific/
Asia ex-Japan funds were flat for the year.
Europe still looks like the best place for equities, as it
started off at an exceptionally low level that priced
in near-disaster. The
EU
is expected to finally emerge
from recession in
2014
, and many of the savviest
foreign-equity investors I’ve spoken to still say Europe
offers superior opportunities compared with the rest
of the world. With that in mind, I continue to like
Van-
guard European Stock Index
VEUSX
as a cheap
pure play on the region.
Meanwhile, there are some great foreign-equity
funds with big Europe bets that are well worth a look.
Causeway International Value
CIVVX
has a
Morningstar Analyst Rating of Gold and is run by
Harry Hartford and Sarah Ketterer. They’ve pro-
duced great long-term results, yet unlike many of my
favorite foreign funds, they aren’t awash in assets.
Where to Invest in 2014
and Beyond
Fund Reports
4
Causeway International Value
Harbor Bond
USAA International
Vanguard European Stock Index
Morningstar Research
8
The Empire Strikes Back
The Contrarian
10
Buy the Unloved
Red Flags
11
Don’t Be Fooled By These Funds’
Five-Year Returns
Market Overview
12
Leaders & Laggards
13
Manager Changes and News
14
Portfolio Matters
16
The Beauty of HSAs
Tracking Morningstar
18
Analyst Ratings
Income Strategist
20
FundInvestor 500
22
FundInvestor 500 Spotlight
23
Follow Russ on Twitter
@RussKinnel
RusselKinnel,
Director of FundResearch and Editor
FundInvestor
January 2014
Vol. 22 No. 5
Research and recommendatio s for the s riou fund investo
SM
Continued on Page 2
