Donald Coxe, chief investment strategist at Coxe Advisors LLP, has renewed his warning in his "Basic Points" for September 2010 that pension funds will have a difficult time generating positive returns in the years ahead. First of all, the Federal Reserve's Zero Interest Rate Policy (ZIRP) on short-term debt is hitting bond investors hard. Those who traditionally depend on fixed-income markets for returns are being "systematically sacrificed" in the government's effort to protect homeowners and lenders who took on too much risk during the housing bubble. Writes Coxe, "the longer this Japonisation of the debt markets continues, the greater the debilitation of the pension systems -- public and private -- across North America."
So where is a fund manager to turn? Coxe points out that U.S. stocks have been a loser, with the S&P 500 down by a third in the past decade. He sees that underperformance continuing. He recommends that U.S. pension funds commit only 17% of their total portfolio value to U.S. stocks (MainePERS, at 33.2%, had nearly double that exposure as of June 30, 2010). Another 20% should go to foreign stocks (MainePERS was at 25.7%). Coxe likes commodities (especially precious metals) and commodity stocks and would put another 12% there. He considers long-dated bonds to be relatively safe and recommends a total bond exposure of 41% (compared to Maine's 29.5%). Finally, he feels better with 10% in cold cash (Maine's stated target is 0%).
Coxe is particularly sour on financial stocks and urges an underweight there. "If U.S. house prices fall a further 10-20%," states Coxe, "the increase in putrescent assets on banks' balance sheets will overwhelm the writedowns to date." Alas, as I detailed here, MainePERS owns a boatload of wasting assets in this sector. Coxe would argue that the MainePERS portfolio is in need of an extreme makeover, sooner rather than later.
MainePERS Portfolio, 06-30-2010
On the prospect for home prices, Rick Sharga, senior vice president at RealtyTrac, told Bloomberg in a telephone interview that "we're on track for a record year for homes in foreclosure and repossessions." Bank repossessions of homes occupied by delinquent borrowers climbed to a record 95,364 in August, up 25% from a year earlier. The number of new default notices (Step One in the foreclosure process) declined to 96,469. But Sharga believes that banks are holding back so as not to flood the market. "If the market is left to fend for itself, you may see more serious price depreciation," he said. "Whether things fall precipitously depends on government and lenders controlling the inflow of new foreclosure actions."