Investing in the 'new normal'

There's no question that this isn't a typical recession, and money manager Ron Muhlenkamp says it's time to reset expectations.

EMAIL  |   PRINT  |   SHARE  |   RSS
 
google my aol my msn my yahoo! netvibes
Paste this link into your favorite RSS desktop reader
See all CNNMoney.com RSS FEEDS (close)
By Mina Kimes, writer-reporter

ron_muhlenkamp.03.jpg
Ron Muhlenkamp: "In my business, you make money on the difference between perception and reality."
muhlx.mkw.gif
Mutual Fund Screener
Domestic Stock Funds

Search the full range of fund types
Return of at Least:
Over the Past:

Expense ratio less than:



NEW YORK (Fortune) -- Money manager Ron Muhlenkamp gets a lot of credit for his bold, macro-driven investing style, and he deserves it: His namesake fund has returned 9% annually over the last 15 years, 2% better than the S&P 500.

Last year, however, his portfolio took a heavy blow: The Muhlenkamp Fund (MUHLX), which owned holdings in the insurance and mortgage sectors, lost 40% of its value, worse than the blue-chip index.

But when the market was at its nadir, Muhlenkamp hunted for values, picking up shares of beaten-down names like IBM (IBM, Fortune 500) and Legg Mason (LM, Fortune 500). Those picks have since soared, and his fund has recouped much of its losses: It's up 25% so far this year, 18 points higher than other large-value funds, according to Morningstar.

Despite his improved outlook, the manager, who lives on a farm in Western Pennsylvania and loves Harley Davidson motorcycles (he believes Harley's (HOG, Fortune 500) stock is an economic bellwether), says the days of go-go growth are over.

"We fell off a cliff last fall, and things have basically flatlined," he said in a recent conversation with Fortune. "This is not a normal cyclical recession -- this time, people have reset their expectations."

In your latest quarterly letter to shareholders, you wrote that the economy is setting a lower base for expansion. How will that affect the market?

A lot of folks talk about "the new normal." The consumer went from spending 100% to 95%. If you drop by 5%, it takes three years just to get back to where you were. During that time, margins are going to be tight. Every industry we can find has ample capacity, and profitability is going to be less than what it was.

For the market, fair value today is about 15-20% lower than what it was a year ago. We think there will be a 15% drop in return on equity, our favorite metric. Price to earnings ratios should be below what they were.

Does "the new normal" offer any opportunities for growth?

In 2001, we had a normal recession. Coming out, we owned a lot of homebuilders and discretionary stocks, but the things that lead one expansion don't lead the next. If I'm right and the consumer has really cut back this time, then you want to go where the consumer is going with his savings. So there's that extra 5% -- where does it go?

One area where I think there's going to be huge demand is financial advice. What I haven't been able to get a handle on is -- which vendors of financial advice still have a good reputation?

Right now, we own Bank of America (BAC, Fortune 500), which, along with Merrill Lynch, serves some 50% of the households in the U.S. If they can capitalize on that, there's a huge opportunity.

You wrote this spring that you were puzzled by the continued decline in share prices of "great companies." Since then, many blue-chip stocks have bounced back. Is it time to look at lesser known names?

The little stuff has come back more, and all year we've found more value in the big stuff. Size is irrelevant, though. If companies earn good money over time and don't blow it, their stocks will reflect that. Cisco (CSCO, Fortune 500) or IBM or Oracle (ORCL, Fortune 500) at 12 times earnings? That's a good bet.

They're world class companies that sell to a world market. As China and India and Brazil grow faster than the U.S., that's a way I can participate with accounting I trust.

Nearly a quarter of the stocks in your portfolio are in the health care sector, including managed care company UnitedHealth. Are you worried about headwinds from potential reform?

How can you have a health care system without UnitedHealth (UNH, Fortune 500)? The best time to buy pharmaceutical or health care stocks has always been in election years, because that's when everyone beats up on the industry. Right now, any positive news about health care would be a surprise.

In my business, you make money on the difference between perception and reality. When everyone expects the bad, that's when you get the chance to buy Pfizer (PFE, Fortune 500), which we own, for cheap.

Is there any sector you're bearish on?

We don't own any utilities -- the time to own them was last year. Of course, we didn't own them then (laughs). If we're any good at picking and choosing stocks, we should do better than utilities. They generate average returns, and I've never aspired to be average. To top of page

Company Price Change % Change
Ford Motor Co 8.29 0.05 0.61%
Advanced Micro Devic... 54.59 0.70 1.30%
Cisco Systems Inc 47.49 -2.44 -4.89%
General Electric Co 13.00 -0.16 -1.22%
Kraft Heinz Co 27.84 -2.20 -7.32%
Data as of 2:44pm ET
Index Last Change % Change
Dow 32,627.97 -234.33 -0.71%
Nasdaq 13,215.24 99.07 0.76%
S&P 500 3,913.10 -2.36 -0.06%
Treasuries 1.73 0.00 0.12%
Data as of 6:29am ET
More Galleries
10 of the most luxurious airline amenity kits When it comes to in-flight pampering, the amenity kits offered by these 10 airlines are the ultimate in luxury More
7 startups that want to improve your mental health From a text therapy platform to apps that push you reminders to breathe, these self-care startups offer help on a daily basis or in times of need. More
5 radical technologies that will change how you get to work From Uber's flying cars to the Hyperloop, these are some of the neatest transportation concepts in the works today. More
Worry about the hackers you don't know 
Crime syndicates and government organizations pose a much greater cyber threat than renegade hacker groups like Anonymous. Play
GE CEO: Bringing jobs back to the U.S. 
Jeff Immelt says the U.S. is a cost competitive market for advanced manufacturing and that GE is bringing jobs back from Mexico. Play
Hamster wheel and wedgie-powered transit 
Red Bull Creation challenges hackers and engineers to invent new modes of transportation. Play

Most stock quote data provided by BATS. Market indices are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer. Morningstar: © 2018 Morningstar, Inc. All Rights Reserved. Factset: FactSet Research Systems Inc. 2018. All rights reserved. Chicago Mercantile Association: Certain market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. Dow Jones: The Dow Jones branded indices are proprietary to and are calculated, distributed and marketed by DJI Opco, a subsidiary of S&P Dow Jones Indices LLC and have been licensed for use to S&P Opco, LLC and CNN. Standard & Poor's and S&P are registered trademarks of Standard & Poor's Financial Services LLC and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC. All content of the Dow Jones branded indices © S&P Dow Jones Indices LLC 2018 and/or its affiliates.