Investors are again being offered an extraordinary opportunity to put capital to work in high-quality companies at a good price, says Columbia professor Bruce Greenwald.
Ryan Leggio: Generally speaking, we've been hearing some investors say that these high-quality businesses, the Johnson & Johnsons of the world, American Express, which can do well in deflationary and inflationary environments, are some of the cheapest stocks in the market. Would you agree with that?
Bruce Greenwald: That is the most extraordinary thing about this market, that when you build a portfolio, and you're diversified so you're not betting everything on your judgment about one thing, you've stayed away from the high leverage stocks that can kill you, you've got a good margin of safety so you're going to get a good return, and you're not overpaying. What you're left with is the macro risks. And the macro risks are deflation and inflation.
If you own fixed income, you're going to get killed by inflation, and you're going to be OK in deflation. If you own real estate, natural resources, competitive businesses like steel companies, you're going to get killed in a deflationary environment. If you own the Microsofts and the Johnson and Johnsons or the Coca-Colas, they will raise prices in a deflationary environment, and they will raise prices in inflationary environment.
Leggio: The best of both worlds.
Greenwald: And they will do really well. So they're very low risk, and normally they're very expensive. Today, you can buy Microsoft at a 9% earnings return after you subtract the cash and investments. There's got to be some growth in that, right? So if our target is this 10% return after inflation, all we need is 1% real growth there, and we're getting a 10% return on massive cash, a franchise that has the power to pass on costs.
Coca-Cola looks the same. 8.5% is what you get in Johnson & Johnson. American Express, it may be as high as 10%-12%. WellPoint and other health care stocks, it's probably 12%-13% and they're not going away, and they've got an ability to raise prices.
If I were going into the market today, I think it's almost... I don't want to say it's once in a lifetime opportunity because we had a better opportunity back in March of '09. But it is again starting to be an extraordinary opportunity to put capital to work, where in the long term it's fully protected, and you're going to make a really more than adequate return.
We're always looking for the area where that's available. So even though the overall market is not cheap, we are going there to make investments.
Leggio: Talking about high-quality companies being cheap right now, what do you think the margin of safety is, or do you think there's a margin of safety in long-term government debt or some of these other asset classes that have been seeing a lot of flows?
Greenwald: I mean, look, government debt is probably trading--I don't track it--but it's definitely below 4%. Inflation, even after the crisis that we've been through, is 1.5% at least. So you're getting a 2.5% real return and you're tying up your money for the next 30 years in principal.
Any time there is a burst of inflation, I just think people don't know. Or if there is a drop in confidence in the government's ability to pay, you're going to get slaughtered. I think the risk of permanent capital impairment there is very high, and the reward is de minimis.
