Eli Salzmann, manager of the Neuberger Berman Large Cap Value Fund (NPRTX), doesn't expect the early-year stock market rally to last. He expects another big leg down in stock prices. That's why he's positioning his top-performing $12.8 billion fund defensively.
"We're about to enter a very challenging, very rough environment," Salzmann said.
Don't let the early-year surge in stock prices fool you into thinking last year's bear market is history, Salzmann says. A nice buying opportunity will come, but just not yet, he says.
Reasons For Stock Market Concern
Salzmann ticks off a few reasons why caution is warranted.
Sure, inflation is coming down. But it's not going away, Salzmann says. He blames anti-globalization trends and less free trade as the long-term culprit. "We believe inflation is going to stay stubbornly high — for a number of years to come," Salzmann said. "It's not transitory."
That means higher interest rates will stick around longer, too, he says.
The economic pain from the Federal Reserve's eight interest rate hikes has yet to be fully felt, due to a lag effect, Salzmann says. The Fed's key interest rate has gone from zero to a range of 4.5% to 4.75% in the past year. The full impact of higher borrowing costs is still working its way through the economy.
The Fed draining stimulus from the economy is going to have a negative economic impact, Salzmann argues. "The question is how negative is it going to be?" he said. Salzmann still believes there's a greater chance of a so-called hard economic landing than a mild downturn.
Why You Should Listen
Whether Salzmann's stock market outlook proves accurate remains to be seen. But given that he's the manager of a fund whose performance has topped 96% of its peers in the past three years, bettered 99% of competitors over five years, and outpaced 95% of rivals over 10 years, his message shouldn't be ignored.
Neuberger Berman Large Cap Value's 1.5% drop so far in 2023, however, trails the S&P 500's 4% gain.
Top Fund Manager's Defensive Stock Market Playbook
Salzmann, who has 36 years of investment experience, and co-manager David Levine have a plan to weather another bout of market volatility.
His favorite stocks share key traits. He likes companies that deliver stable earnings no matter what the economy does. He's also bullish on companies in capital-deprived industries where prolonged underinvestment has led to supply shortages, capacity constraints, and pricing power. Salzmann's also fond of undervalued stocks that have a catalyst to get them back to more normal valuations, or even overvaluation.
"For now, you want to be in value over growth," Salzmann said. Growth stocks, of course, are hurt by higher borrowing costs because it makes their future cash flows less valuable.
Salzmann's stock market view has a lot to do with where we are in the market cycle. He says there are three main cycles. The first phase, which occurs when the economy is in acceleration mode, favors value stocks with lower P-Es. The second phase, when the economy is decelerating and growth is hard to find, favors growth stocks. And the third and final stage — which Salzmann believes we're in now — favors defensive stocks with stable earnings.
This third and final phase, he says, could last 15 to 18 months. And after that, the cycle restarts at stage one when the economy picks up for good and value stocks shine. "When we go from defense back to value, I think we will stay in that value camp (and see outperformance) for three to five years," Salzmann said.
But for now, here's where Salzmann is putting money to work in Neuberger Berman Large Cap Value.
Stock Market: Bullish On "Capital Starved" Stocks
Salzmann loves stocks and industries that have been starved for capital. Within the materials sectors, metals and mining stocks are a good example, he says. "Areas like copper and iron ore is where you want to be," Salzmann said. For most of the past decade, metals didn't get much love from investors when it comes to capital infusions, he says. And the mining sector has an added bonus in that the barriers to entry to get into the business are enormous.
Even if a new mine is discovered, "it takes about seven to 10 years to get a mine up and running," Salzmann said.
Salzmann like Freeport-McMoRan. The stock has been a laggard for a long time, but Salzmann says he really likes it now. Plusses include a revamped management team, jettisoning noncore and underperforming assets, and years of the copper industry being starved of capital.
Another plus: the price of "copper is going to stay higher for longer than anyone could ever imagine," Salzmann predicts.
"Because of the capital deprivation story, Freeport is going to print money for years and years to come," Salzmann said.
Energy is another stock market sector that will benefit long-term from capital constraints that have led to the number of oil drilling rigs in use dropping dramatically, Salzmann says. Investment in oil and gas companies has also taken a hit from investors jumping on the sustainability bandwagon and shifting their investment dollars to cleaner and more sustainable energy sources. The war in Ukraine has also impacted the availability of oil and natural gas.
But after a big run-up last year in shares of traditional energy companies and the uncertain economic backdrop, Salzmann's Neuberger Berman Large Cap Value now has just a little overweight in energy. But despite a short-term blip, Salzmann says he's "very bullish" on energy over the next five years.
Oil giant Exxon Mobil and Chevron are top fund holdings. Salzmann doesn't expect massive amounts of capital to flow back into the oil sector until the price of U.S. crude gets to $130 to $150 per barrel. U.S. crude now trades at around $78 a barrel.
Why Top Fund Manager Likes Staples Stocks
Salzmann loves consumer staples stocks now because of their defensive characteristics and stable earnings profile.
One of his favorites is Procter & Gamble, best known for household brands people use every day, such as Tide detergent, Crest toothpaste, and Bounty paper towels. P&G also has a growth kicker: the reopening of China after Covid lockdowns, Salzmann says. Another big fund holding is snack company Mondelez, which sells Oreo cookies, Ritz crackers, and other popular snacks.
"In the environment we're setting up for, you want boring," Salzmann said. "The beauty of consumer staples is they are somewhat immune to the economy. When the economy turns bad, people still brush their teeth, wash their clothes, and eat."
Health care is another defensive sector Salzmann is bullish on. His two favorites are Johnson & Johnson and Merck. They bring stability to portfolios, Salzmann says, because of their robust drug pipelines and their ability to generate profits in all economic environments.
