'It reminds me a lot of the peak in 2000': Legendary investor Rob Arnott compares today's market to the tech bubble - and explains why value stocks are the 'place to be'
- Rob Arnott, the chairman and chief executive of Research Affiliates LLC, sounds the alarm on investor overzealousness towards the technology sector.
- Arnott also explains why a value factor approach - with an emphasis on emerging-market value - is primed to outperform when the current market cycle shifts.
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As an investor, the last thing you want to hear is today's market environment being compared to a point in time where stocks got chopped in half.
Unfortunately, that's exactly what Rob Arnott - the founder and chairman of the Pimco subadviser Research Affiliates LLC, which advises on more than $200 billion - has done.
"It reminds me a lot of the peak in 2000," he said on The Long View, Morningstar's investing podcast. "We saw narratives back then of a new paradigm of earnings don't matter, what matters is investing for future growth."
And he should know. Considered a modern-day investing legend, Arnott is responsible for some of Wall Street's most innovative and influential strategies and endearingly referred to as "the godfather of smart beta."
Arnott's warning is a stark one. But that notion doesn't seem to be dissuading investors quite yet. And, what's more, they're happily paying premium prices today for what has been perceived as a profitable road ahead.
"You have a history in which the utterly dominant sectors - the ones that are ostensibly poised for assured long-term success - those are the ones that are priced for perfection, and when they fail to deliver perfection, they perform poorly," Arnott added.
These firms are priced like they're already returning gobs of cash to shareholders. And although investor fervor and excitement may remain intact for now, there's no telling how long they'll be able to put up with unprofitable operations.
Read more: Denise Shull made a name for herself training Wall Street's top investors to perform better through psychoanalysis and neuroscience. Here are her top tips for traders.
In today's environment, companies such as Uber, Lyft, Chewy, and Beyond Meat have garnered massive amounts of investor attention as their newly minted issues hit publicly traded markets for the first time.
These firms are largely unproven, carry sky-high valuations, and also lose anywhere from tens-of-millions to billions of dollars. The resemblance to the tech-bubble is uncanny - and Arnott isn't sold on the longevity and sustainability of the trend.
"Today you're seeing similar narratives that these companies are disrupters, that these companies are taking out entire industries," he added. "It bears notice that disrupters get disrupted."
In the 2000s, any company carrying a 'dot-com' at the end of its name was adored and hailed by investors as the next big thing. However, when financials started to trickle in, and losses started to mount, investors recognized their mistakes and fled the scene.
Arnott references the likes of Blackberry Limited and Palm as two prime examples of how quickly pioneering firms can succumb to new entrants. These once ground-breaking, technology giants of the 2000s are more or less irrelevant today.
With that being said, it's safe to say Arnott isn't exactly gung-ho on the technology sector at today's valuations. But just because he doesn't like one specific area, doesn't mean their aren't opportunities - and he thinks value, with an emphasis on emerging-markets value - is the place to be.
"It's trading in its cheapest quintile historically," he said in reference to the value factor. "The spread between growth and value is wide enough that just coming back to historic norms - just getting repriced to the normal growth-value, valuation spread - would deliver over 2,500 basis-points of incremental performance in the US, and over 4,000 basis-points of incremental performance in emerging markets."
It's inherently difficult to rotate into a strategy that has underperformed for such an extended period of time. However, those that are willing to bear the risk may be handsomely rewarded.
For your reference, here are two popular exchanged-traded funds that provide exposure to value stocks: