If U.S. companies needed more evidence that scrutiny around wages is intensifying, they heard it this week during Federal Reserve Chairman Jerome Powell’s testimony to Congress.
The subject came up several times. One memorable exchange was with Senator Sherrod Brown of Ohio. He asked Powell whether the “Fed’s employment mandate is just to ensure that people are employed” or whether full employment implies something more, that “workers earn a salary and benefits that let them fully participate in the 2019 economy and our country.”
Powell dodged the question, instead reminding Brown that U.S. unemployment is at a 50-year low and that the Fed lacks the tools to “affect every social problem.” It’s true that the Fed’s mandate is to maximize employment, not wages, and that the Fed probably can’t raise wages, even if it wanted to.
But as long as workers continue to receive less than a living wage, no one should be surprised that concerned lawmakers are looking for every opportunity to intervene, however implausible or ill-advised. If companies won’t raise their employees’ pay, the government will try to do it for them.
The Fed’s mandate of maximum employment makes it a tempting target. After all, the point of employment is to make a living, so it’s natural to ask how well the Fed is achieving its mandate when millions of workers earn less than a living wage.
By now it’s no secret that equity hedge funds have had a horrible decade. The real surprise is that a record $955 billion was invested in those funds at the end of September 2018.
Which raises the obvious question: Why are so many investors still hanging around?
During the go-go 1990s and the boom years between the dot-com and housing bubbles in the 2000s, the pitch for hedge funds was simple and sexy: “Give us your money and we’ll make you rich!” Sure, the fees were absurdly high, but investors weren’t as fee conscious then as they are now, and in any event, they were making too much money to care.
Managers had good reason to be confident. In 1990, there was a scant $14 billion invested in equity hedge funds, so there were more opportunities for outsized returns than money chasing them. Hedge funds took full advantage, and the HFRI Equity Hedge Total Index returned 16.6 percent a year from 1991 to 2007, outpacing the S&P 500 Index by 5.2 percentage points, including dividends.
Investors piled in along the way, and by the end of 2007, assets in the strategy ballooned to $685 billion, far more than equity hedge funds could realistically manage if they wanted to continue outpacing the market. The 2008 financial crisis didn’t help, either. It whipsawed hedge funds, as it did many other investments, and managers struggled to regain their golden touch. But they weren’t keen on returning the money to investors and giving up their lucrative fees, so they did the next best thing: They pivoted from making money to not losing it.
Active bond managers could use more of Bill Gross’s swagger.
No sooner had the hall-of-fame bond manager announced his retirement on Monday than the financial press declared his downfall. The Wall Street Journal headline proclaimed “Bill Gross, Onetime Bond King, Retiring After Messy Last Act,” and another in the Financial Times read “How the ‘bond king’ Bill Gross lost his crown.”
That messy last act refers to Gross’s stint as manager of the Janus Henderson Global Unconstrained Bond Fund since 2014. Gross made some big bets at Janus Henderson that didn’t pay off, most famously a wager last year that rates on U.S. Treasuries and German bunds would converge, resulting in sagging performance for his unconstrained bond fund.
Even though Gross’s calls didn’t turn out the way he and his investors had hoped, Gross was right to bet boldly on his best ideas, and active bond managers would be wise to follow his example.
The pivot to unconstrained investing was a brave departure for Gross, who had spent the previous three decades perfecting the “total return” approach to bond investing with the Pimco Total Return Fund he founded in 1987. The strategy attempts to outpace the broad bond market by taking modestly more risk, often by buying lower-quality bonds than are reflected in broad-market bond indexes while targeting a similar average maturity.
No one did it better than the Bond King. The institutional share class of Gross’s total return fund outpaced the broad bond market, as represented by the Bloomberg Barclays U.S. Aggregate Bond Index, by 1 percentage point annually during his run from June 1987 to September 2014, a huge margin for a bond manager. And he did it with only modestly more risk, as measured by annualized standard deviation (4.3 percent for Gross’s fund compared with 3.9 percent for the index).
As U.S. stock investors contemplate the biggest long-term risks facing the market, such as a global economic slowdown, trade tensions or rich equity prices, they shouldn’t overlook a critical one: the pay disparity between corporate bosses and workers.
In 2015, the Securities and Exchange Commission adopted a rule that required public companies to disclose the median compensation of employees and that of the CEO, beginning with fiscal year 2017. The numbers have confirmed what many suspected: Chief executives are paid tremendously more than workers.
The numbers also revealed that hundreds of the biggest U.S. public companies pay their workers less than a living wage. That’s not sustainable. As the grim pay disclosures pile up year after year, the backlash against the corporate elite will intensify. If corporate boards can’t find a better balance in their pay structure, outside forces will, and at a potentially far greater cost to companies and their shareholders.
My Bloomberg colleagues Alicia Ritcey and Jenn Zhao compiled the CEO-to-worker compensation ratios for companies in the Russell 1000 Index, which represents roughly the 1,000 largest U.S. public companies by market value, and laid them out in a superb interactive chart.
If you’re baffled by environmental, social and governance investing, PG&E Corp.’s recent troubles are likely to raise more questions than answers.
The California power company has been devastated by wildfires that ripped through the state in 2017 and 2018. PG&E’s liabilities are estimated at $30 billion and a bankruptcy filing is imminent. Its stock has tumbled 89 percent from its high on Sept. 11, 2017, through Wednesday.
Not to be confused with socially responsible investing, which avoids businesses that some investors find ethically or morally questionable, such as tobacco, gambling or weapons, ESG attempts to identify companies that are exposed to higher-than-average environmental, social or governance risks. The idea isn’t necessarily to beat the market but to engineer a smoother ride by limiting investment in high-risk companies.
It’s a worthwhile endeavor, but it’s easier said than done. The strategy didn’t flash many warnings around PG&E, and it’s not the first time a company has turned out to have crucial vulnerabilities that failed to show up on ESG’s radar.
The Vanguard Group founder and father of the index fund, better known as Jack, died on Wednesday at the age of 89. A lot will be said about his influence on the financial industry in the coming days, and deservedly so. He transformed money management, making investing cheaper, simpler and more accessible than ever before, lifting the financial well-being of millions of people in the process.
But the most remarkable thing about Bogle is that he created billions — and perhaps trillions — of dollars in value for others and kept relatively little of it for himself. That stands in sharp contrast to the unabashed accumulation of riches among corporations, even as wealth inequality rises to alarming levels. Bogle’s life is a reminder that business leaders have the power, indeed the responsibility, to shrink the wealth divide between their companies and the workers and consumers who sustain them.
If Bogle were anyone else, he’d be a billionaire. His brand of investing — buy low-cost, broad-based index funds and hold them forever — seems obvious now, but it wasn’t inevitable. When Bogle launched the first index fund available to individual investors in 1976, the industry ridiculed it, calling it “Bogle’s folly.” Bogle was undeterred, and today Vanguard is among the largest money managers in the world, with $5 trillion in assets, roughly two-thirds of which is invested in index funds.
Jeffrey Vinik, who rose to fame as manager of the Fidelity Magellan Fund in the 1990s, told CNBC last week that he was getting back into the stock-picking game. He will resurrect Vinik Asset Management, a hedge fund he closed in 2013.
Only this time, Vinik won’t just be competing with the market and other managers. He will also have to outmaneuver the computers that are increasingly displacing stock pickers.
It’s a brave move. Stock pickers have struggled to perform in recent years and investors are abandoning them. Actively managed stock mutual funds have experienced net outflows for five consecutive years, a total of $918 billion from 2014 to 2018, according to estimates compiled by Bloomberg Intelligence. Hedge funds managed to hang on to their assets for most of that period, but after a disappointing 2018, investors are pulling money from them, too.
While others bemoan a profession in decline, Vinik sees a resurgence. “I think this is an incredible opportunity for old-fashioned stock picking,” Vinik told CNBC. “We’ve had decades, maybe 10 or 20 years, of active managers underperforming passive managers.”
It’s fashionable to blame a bad environment for stock picking for active managers’ woes, but it’s not entirely true. Sure, value investing has lagged the broad market over the last decade, but other styles of active management, such as growth, quality, momentum and low volatility, have beaten the market. In other words, active managers have underperformed, not active management.
Investors in U.S. growth stocks have been richly rewarded in recent years, but their fortunes are set to turn if President Donald Trump can’t resolve his trade disputes.
Bloomberg News reported on Wednesday that China and the U.S. had wrapped up three days of trade talks and “expressed optimism that progress had been made.” For Trump, that’s a clear departure from his usual tough talk on trade.
That shouldn’t be surprising. As I pointed out recently, the president fancies himself a champion of American business and gauges his success by the level of the stock market. The market’s steep drop in December signaledthat the country’s biggest companies, which dominate market barometers such as the Dow Jones Industrial Average and the S&P 500 Index, are under increasing stress. They generate much of their revenue overseas, so Trump’s trade disputes are an obvious concern.
If the president was hesitant to connect those dots, Kevin Hassett, chairman of the White House Council of Economic Advisers, was not. He told CNN last week that “There are a heck of a lot of U.S. companies that have sales in China that are going to be watching their earnings being downgraded next year until we get a deal with China.” That was a day after Apple Inc. cut its revenue outlook, blaming in part weaker demand in China.
But Trump’s trade policies don’t affect all companies equally. Growth companies, or those that are expected to grow faster than average, sell more of their products overseas than slower-growth value companies. That means they have more to gain from free trade and, of course, more to lose during a trade war.
The stock market is calling the White House to account, and it won’t be easily distracted.
The S&P 500 Index has tumbled 19.8 percent from its recent high on Sept. 20 through Monday, just shy of a 20 percent decline that customarily defines a bear market. It’s no doubt a bitter pill for President Donald Trump. He fancies himself a champion of American business and gauges his success by the level of the stock market. With stock prices plummeting, the president can’t feel great about how things are going.
Nor should he. Economists have warned for months that Trump’s trade policies could squeeze American companies’ bottom lines and that recordbudget deficits could hamper the economy, overshadowing the boost from his corporate tax cuts. With every decline, the market is warning the administration that those risks are growing.
Rather than rethink its policies, the White House has turned to its well-worn playbook of distraction and blame. It won’t work. Stocks don’t care much for politics, but they care a lot about stability, the economy and how companies perform. If Trump wants to pacify the market, he will have to address the issues it actually cares about.
Lu Zhang, a finance professor at Ohio State University, has something to say about your hot new index funds, and it may not be flattering.
Not long ago, the typical investment portfolio was a grab bag of stocks, bonds and actively managed mutual funds. Today, it is more likely an assortment of index funds. And not just any index funds. Indexes are no longer content to simply track the market. A growing number of them are attempting to replicate traditional styles of active management, also known as “factors.” I counted roughly 900 mutual funds and exchange-traded funds in the U.S. that track factor indexes, and that number is likely to grow.
The pivot to indexing may be new, but it was cultivated by decades of research in economics and finance, which gives it the imprimatur of science, or at least robust inquiry. But a new generation of academics, Zhang prominently among them, are re-examining the research and finding much of it questionable. Their work could derail the indexing revolution and, as might be expected, index providers and fund companies aren’t likely to be happy about it.