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Seven Burning Questions for Investors and Fund Managers

Big issues we'll learn about at the Morningstar Investment Conference.

Last year, the economy hacked a path into uncharted territory. We'd never seen a financial meltdown like this one and the market meltdown and government response took us a long way from where we'd ever been. Today things feel a lot better than in the winter, but we still don't have much visibility as we hack our way through the jungle. With that in mind, I'll outline seven burning issues that will tell the tale of where we go next.

When some of the best investing minds gather at Morningstar's annual investment conference May 27-29 in Chicago, these issues will be front and center. I expect a fierce debate from all quarters and I think this year's lineup is our best ever.

1. How Will the Great Unwind Work? 
In cartoons, characters get hit with a frying pan, shake it off, and their faces go back to normal. This recession is not like that. Although past recessions may have worked that way, we've got years of hangover ahead of us with this one. Maybe the hardest part to predict is how the government will unwind its foray into the private sector and how the economy will react. The Fed has bought $300 billion in Treasuries and $750 billion in mortgage-backed securities and could buy more. How do they start to unwind those positions without crushing the market? How does the government start to sell off its banks, insurers, and automaker holdings in an orderly way? What will become of Fannie and Freddie? That's a lot to sort out and it's going to have a huge impact on the economy and the markets.

There's also the matter of inflation. One way of thinking about the global stimulus plans is that governments are spending trillions in order to avoid the devastation of deflation. So if their goal is inflation, isn't there a chance they'll meet that goal? Generally printing a lot of money leads to inflation. But not in the case of Japan in the 1990s.

PIMCO's Bill Gross (of  Total Return  (PTTRX)), FPA's Bob Rodriguez (of  FPA Capital) , and GMO's Jeremy Grantham were prescient in their predictions for the economy the last two years. All three will be speaking at the conference, so it will be fascinating to hear their take on where we are headed and what that means for the bond and stock markets.

Maybe the economy will gradually but steadily grow from here or maybe all of these tectonic shifts will have us lurching up and down for years. When you consider how important housing and autos are to the economy and how long it will be before either is healthy, you have to think we've got at least some trouble ahead.

2. What Are the Lessons of the Bear Market?
When the markets go down as much as they did in 2008, it's easy to let emotions get the best of us and to point fingers and swear off investing in an industry or a security type forever. But the investors who can keep their heads and continue to do superior research will profit the most. In other words, you don't want to overreact but you also don't want to put your head in the sand and refuse to adapt. You also want to learn from what you got wrong. The best investors do this while the worst fight the last war.

Our conference features some great managers with solid long-term records, but several of them, like Chris Davis of  Selected American (SLADX) and Diana Strandberg of  Dodge & Cox (DODFX), got singed by financials last year, and it will be interesting to hear their takeaways. In fact, that really applies to all the managers at the conference. We have some very experienced managers such as Marty Whitman of  Third Avenue (TAVFX), Chuck Royce of  Royce Funds (PENNX), and John Rogers of  Ariel (ARGFX) who can share their perspective on how this mess compares with other messes they've seen.

3. Should Investors Change the Way They Allocate Assets?
It's not correct to say diversification didn't work last year. After all, the typical stock fund lost about 30 percentage points more than the typical bond fund--that's a huge gap. But the deleveraging of the markets and the panic that came along with it did mean that many more asset classes were crushed at the same time than you normally see. This comes at a time when investors have commodities and long-short strategies, so they've got more tools available to them.

Does this mean asset allocation should change? Christine Benz will lead a discussion on this very subject with Vineer Bhansali of PIMCO, Mark Balasa of Balasa, Dinverno, Fotz and Hoffman, and Tom Idzorek of Ibbotson Associates. No doubt Jeremy Grantham will have plenty to say, too, and we'll also have a discussion on the value of MPT statistics and how well they worked in the bear market.

4. Will the Bond Market Return to Normal?
Everything to do with bonds has been thrown out of whack. Issuers are having a hard time raising money, spreads versus Treasuries are near historic highs, and the world has understandably developed a tremendous skepticism for newfangled debt like subprime. Hedge funds had been huge buyers of convertibles and munis but so many of them have been wiped out or are suffering redemptions that it's hard to see the markets for those securities returning to normal any time soon. Our conference features a high-yield panel and a muni panel, which will address two of the hardest-hit pockets of the bond world.

 

5. Where Are the Best Opportunities in Equities?
A few months ago there was near universal agreement that stocks were a tremendous bargain, but now that we've enjoyed a strong rally, I'd imagine some will say the market is fairly valued. I'm sure everyone will have favorite spots and as well as areas they hate. David Winters and Rajeev Bhaman of Oppenheimer can go anywhere in the globe, so their take on this topic should be a good one. In addition, Carl Kawaja of American Funds, Sarah Ketterer of  Causeway Capital Management (CIVVX), and Amit Wadhwaney of  Third Avenue Funds  focus outside the U.S. so they can tell us where they are finding the best foreign stocks.

We also have great stock-pickers with a wide array of strategies such as Bruce Berkowitz of  Fairholme (FAIRX), Tom Marsico of  Marsico Focus  (MFOCX), Wally Weitz of  Weitz Partners Value  (WPVLX), Jeff Cardon of  Wasatch Small Cap Growth  (WAAEX), Bill Nygren of  Oakmark (OAKLX), and Glen Fogle of  American Century Vista  . In addition, Morningstar's equity crew of Pat Dorsey, Paul Larson, and Josh Peters will share their insights on what looks most attractive.

We even have two managers who can take both long and short positions. Steve Romick of  FPA Crescent  (FPACX) and Chuck Bath of  Diamond Hill Large Cap  (DHLAX). (I hope they can tell us what they're betting against.)

6. What Could the Fund Industry Do Better?
In 1999, the fund industry rolled out a slew of trendy Internet funds and then shareholders got crushed when the bubble burst. Many fund companies swore off trendy fund launches and yet some launched global real estate funds two years ago amid the real estate mania--and shareholders got torched. Likewise, ETF companies have shown no hesitation at all when it comes to launching trendy garbage. So has the industry learned anything? What lessons should it take to heart? Vanguard founder Jack Bogle will have the answer. He was right on the money when it came to where the industry was wrong and where corporate America had lost its way, and it will be great to hear what his prescription is today. We'll also have a panel discussion of Morningstar researchers featuring Don Phillips that will no doubt touch on what's going on in the industry and where it's headed.

We also have an ETF panel led by Morningstar's Scott Burns, which will discuss the best and worst innovations in the ETF world and where the best opportunities are.

7. What Does Downsizing Mean for Fund Investors?
An unprecedented bear market has led to unprecedented layoffs of managers, analysts, and traders in the fund industry. By my count only a handful of big fund companies have been able to avoid job cuts, and we'll have managers from firms that cut and those that didn't who can explain why they pursued their course.

Will fund companies that made cuts be able to deliver strong performance in the next decade? Will they be hit with an exodus as soon as the industry starts hiring again? When we look back 10 years from now, I'm sure more of the winners will come from the group that didn't cut and more of the losers will come from the list of those that made major cuts.

If you can't make the conference in person, stay tuned to Morningstar for more blog and article coverage, plus video interviews with several of the conference presenters during and after the May 27-29 event. 

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