Change Your Thinking On Portfolio Construction

Wells Fargo economist says generating income has become more difficult; here’s what he says to do.

Senior ETF Analyst
Reviewed by: Sumit Roy
Edited by: Sumit Roy

Brian Jacobsen, Ph.D., CFA, CFP, is chief portfolio strategist at Wells Fargo Funds Management. In addition to his role at Wells Fargo conducting research and giving presentations on the markets and the economy, Jacobsen is an associate professor at Wisconsin Lutheran College. His research and teaching center on economics, finance and investing. recently caught up with Jacobsen for his thoughts on the global economy and financial markets. Everyone is focused on the “Brexit” vote coming up next week. Do you think that it's a major risk for the global economy if the U.K. leaves the EU?
Brian Jacobsen:
I really don't. I tend to believe that the biggest risk is more to the financial markets as far as the sudden shifts in sentiment that can happen because of the uncertainty that's induced about how things will play out.

Economically, the effects are likely to be fairly minimal. If they do vote to leave, it triggers a two-year process by which they can basically negotiate the terms of their divorce. So they'll have to decide who gets the Crown Jewels, who gets the dog, that sort of thing.

But ultimately, they'll negotiate a relationship with the European Union that's very similar to what they currently have. But that doesn't mean the financial markets aren't going to react negatively to it.

To quote Thomas Hobbes, I would say that the market reaction could be "nasty, brutish, but short." I would view any adverse move as a buying opportunity. For those who are wondering if they should sell beforehand, I would encourage them to ride through it. You may just have to grit your teeth right on through the vote. Brexit aside, are any of your recession indicators flashing red right now?
When I look at the probability of going into a recession, over any given 12-month horizon, there's about an 18% probability of going into one; that's just sort of the historical average.

Right now, I think that we're about average for the likelihood of going into a recession. I don't like the fact that we had the weak payrolls number, but I'm encouraged by the fact that the manufacturing work week hasn't been contracting. That tends to be a very good leading economic indicator. I'm also encouraged by building permits staying relatively high. That tends to be a good leading economic indicator.

But on the flip side, you have the new orders for durable goods looking not all that great, and those tend to be good leading economic indicators as well. So things look kind of balanced. That's why I say the risks of recession are probably just about average right now. A big story in the financial markets is the fact that sovereign yields continue to probe new lows around the world. The U.S. 10-year is below 1.6%; the German 10-year is in negative territory. Can they go even lower, and how should investors position themselves?
The dominant idea has been that rates would rise eventually, but that's become almost sounding like Little Orphan Annie was thinking that the sun will come out tomorrow.
[Fed] Chair [Janet] Yellen did a good job explaining why we should just get comfortable with uncomfortably low rates; maybe not as low as they are now, because they're being pushed low because of the uncertainty with the Brexit vote.

If that resolves favorably, I could see rates moving back up toward 2% on the U.S. 10-year Treasury. But even that is still low. If you think about the Fed hiking back in December, the 10-year Treasury was at 2.25%, and now we're down below 1.6%.

Investors need to look at where they can beat inflation. Don't just look at the nominal yield; that's going to depress you. You have to think of it in inflation-adjusted terms. If you hit 2% inflation, where can you do better than 2%? It's not in Treasurys, unless you're willing to go out to the 30-year. I'd be encouraging people to look more at short-term high-yield and lower-grade investment-grade corporate bonds.

If you're looking for income in the fixed-income markets, that's the only place to really find it. Otherwise, you have to look at preferred stocks, MLPs, REITs and dividend-paying equities.

We have to get used to low interest rates; and that means a shift in the way in which we build our portfolios to generate income. U.S. stocks have been flat for more than a year now. Which way do you see them ultimately breaking out?

Jacobsen: More of the opportunities are outside of the United States than inside, because right now I peg fair value on the S&P 500 at around 2,050 to 2,080 ―around where it is now.
It doesn't mean it can't go higher. In fact, for me, fair value means you can anticipate real returns over the next year of about 4-5%. Fair value is good; it's decent value, but it's not outstanding.

Earnings are the driver for the outlook. We need to see corporate earnings tick up to pull us out of this profit recession. My expectation is that second-quarter earnings per share for the S&P 500 will show that improvement. But if we suddenly see a strengthening of the dollar or another move down for energy prices, those are distinct risks to that view.

I'm not forecasting a stronger dollar or a significant drop in oil prices. That's why we could move higher. I wouldn't be too shocked if we see all-time highs on the S&P 500 over the course of the next few months. You mentioned you see better investing opportunities outside of the U.S. Can you go into that?
Where I see more of the value is in emerging markets and in places like Japan and Europe. The big reason for that is, when we get close to all-time highs on the S&P 500, it tends to take a catalyst to push us to a higher level. In emerging markets and other markets outside the U.S., we're nowhere close to all-time highs. That makes it so there's a little bit less resistance for upward movements in those markets.

Contact Sumit Roy at [email protected].


Sumit Roy is the senior ETF analyst for, where he has worked for 13 years. He creates a variety of content for the platform, including news articles, analysis pieces, videos and podcasts.

Before joining, Sumit was the managing editor and commodities analyst for Hard Assets Investor. In those roles, he was responsible for most of the operations of HAI, a website dedicated to education about commodities investing.

Though he still closely follows the commodities beat, Sumit covers a much broader assortment of topics for, with a particular focus on stock and bond exchange-traded funds.

He is the host of’s Talk ETFs, a popular video series that features weekly interviews with thought leaders in the ETF industry. Sumit is also co-host of Exchange Traded Fridays,’s weekly podcast series.

He lives in the San Francisco Bay Area, where he enjoys climbing the city’s steep hills, playing chess and snowboarding in Lake Tahoe.