Meb Faber Waves Red Flag On Dividend ETFs

September 29, 2014

Income-hungry investors need to be aware of factor fatigue in the U.S.-dividend-ETF space.

U.S. stocks are expensive, and buybacks are at record levels, but nothing is as concerning as the appetite and the underwhelming performance of dividend-yield ETFs this year.

Meb Faber, a widely respected quant analyst who is also head of Cambria, the ETF issuer behind funds such as the Cambria Shareholder Yield ETF (SYLD | B-44) and the Cambria Global Value ETF (GVAL | F-25), tells that investors better steer clear of dividend ETFs, focus on value in the buyback space and, above all, keep their portfolios heavily allocated to foreign stocks—cheap foreign stocks. What’s your latest take on U.S. stock valuations?

Meb Faber: The U.S. market is a little bit expensive. And one of the challenges of the valuation is that people want to fall into one of two camps. They either want to believe that things are cheap (“It’s screaming buy!”) or that things are expensive (“It’s going to crash!”). People think in very binary terms, and they hate thinking in terms of it being a spectrum of future probabilities.

It’s boring to hear, but the more the market goes up, the fewer future returns there are going to be over the next, say, 10 years. The more it goes down, the higher the returns will be. We expect future returns to be in the 4 to 5 percent nominal range going forward.

It’s not horrific. It's better than bonds. But you run into some problems as the market gets more expensive. The higher it gets, the higher the chance you have of a large drawdown.

There’s a study out now that tracked the median stock valuation for the S&P 500, and on a price-to-sales basis, going back to 1960s, it’s the highest it’s ever been—ever!

The good news is most of the rest of the world is really cheap, and in some places, it’s exceptionally cheap. In our global value fund [the Cambria Global Value ETF (GVAL | F-25)], we look at the bottom quartile of developed and emerging countries, and that bucket is the cheapest it’s been since the bottom in 2009, the bottom of 2003 and the early 1980s. And if you wondered what the three best times to invest in our lifetime are, those are pretty good starting points. Yes, but GVAL is actually down more than 2.5 percent year-to-date. Are those value traps, or have these value opportunities not materialized yet?

Faber: In any active strategy you would expect it to outperform in the majority of years, maybe 60 percent of the time. And we expect it to outperform the global index by quite a bit. But any active strategy—because it’s so different from the global market-cap portfolio—could have a year, two years, three years of relative underperformance. Over time, we think it’s going to be much better. And we actually think right now is a particularly great time.

But what happens in the irony of these markets is that when you buy the basket of cheap countries, you usually get a pretty diversified lot: We have Russia and Brazil in there and then a lot of Europe. If you were to ask people what the best-performing countries in that fund were and what were the worst, they would be surprised, but Russia's the second-best-performing, and it’s had the worst headlines since launch in March.

The best performer is Brazil, but it’s just been lights out. Europe is struggling with potential deflation, but I've been putting more of my own money into it. When the stories start to fade away, when things start to get better, I think you're going to have really, really explosive returns. Obviously, I'm biased, but the valuation levels are exceptional right now.



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