As part of the NZAM commitment, GMO has submitted its initial net zero targets and transition plan, including:

• reducing the carbon intensity of included investment portfolios by 65% by 2030, compared to levels in GMO’s baseline year of 2019, and
• increasing the percentage of GMO assets covered under this target from 53.5% to 60% by 2025.

GMO efforts to meet these goals will include growing the proportion of GMO investments in companies that have put in place science-based targets in line with net zero, engaging with issuers on net zero targets, refining its measurement capabilities to go beyond Scope 1 and 2 emissions to include Scope 3, developing new climate and net zero-aligned strategies, and partnering with the Grantham Foundation on climate solutions.

“There are stark differences between how the world will be impacted by warming of 1.5 degrees Celsius and warming of 2 degrees Celsius, or more, which we believe would pose challenges to our ability to earn returns for our clients. Therefore, we think supporting the goal of net zero emissions by 2050 or sooner to limit warming to 1.5 degrees Celsius is critical to our future investment success. Setting initial net zero targets is an important step in our efforts to aid the fight against climate change and demonstrates our commitment to leading on this issue within the investment industry,” said Deborah Ng, Head of ESG and Sustainability.

“Climate change is the greatest challenge humanity has ever faced. It is the race of our lives. Investing in sustainability means investing in our grandchildren, in our civilization, in our survival as a species. Initiatives aligning with net zero are critical ways our industry can show the leadership that will be a necessary part of combating these challenges. All of us need to make sustainability integral to what we do. It is the fight for our very existence on this planet,” said Jeremy Grantham, Co-Founder and Long-Term Investment Strategist, and a leading global advocate for climate change efforts and investment.

The Net Zero Asset Managers initiative was launched in December 2020 and is designed to enable asset managers to play their part in helping to deliver on the goals of the Paris Agreement. Its signatories now include 291 asset managers with $66 trillion in assets under management, more than half of the entire asset management industry globally in terms of total funds managed.

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Executive summary

The largest companies in the U.S. have seen marked improvement in their profitability on a number of measures over the last 30 or so years, while smaller companies have seen very little change. The improvement for the largest companies is probably due to increasing market power for these firms and a playing field that has tilted in their favor. It is my guess that the field may well be starting to tilt back away from them in a way that will hurt their profitability in the future. But the safer bet is that that process will be slow and uncertain. Given that our valuation models assume margins revert relatively quickly, we may well be a little too tough on these companies, but even giving them the full benefit of the doubt on their future profitability would still leave them looking expensive versus the rest of the world.

If you will accept a little oversimplification, the last decade or so of global equity market performance can be summarized as follows. U.S. stocks have profoundly outperformed stocks in the rest of the world, whether other developed markets or emerging markets. This outperformance has been partially driven by U.S. P/E ratios expanding more than in other markets. But the largest driver of the outperformance has been the massive superiority of earnings growth in the U.S. relative to anywhere else. This superior earnings growth has been driven not so much by strong top-line growth, but by expanding profitability by U.S. companies relative to sales, gross profits, or other measures that can plausibly be used as proxies for economic capital. Unlike in past cycles, this rising profitability seems to have been neither a result of, nor a driver of, increased corporate investment. Digging a little deeper, we can see that the improvement in profitability has occurred only in the largest companies. These companies have been out-earning their smaller brethren by increasing margins over the past 25 years or so. The long period of their improvement suggests this effect is not something we should expect to correct over a single business cycle, but my guess is that the world in the future will be less favorable to these large, dominant companies than is true of the current environment. If we were to adjust the assumptions of margin reversion in our forecasts to account for a slower pace of this reversion, our forecast for U.S. large cap stocks (as well as high quality stocks) would improve noticeably, but the adjustment would still leave them looking meaningfully worse than the other groups of equities we forecast.

For a very long time, U.S. corporate profits seemed to be an exceptionally well-behaved mean-reverting series. Exhibit 1 shows corporate profits relative to GDP in the U.S. since 1929, with dotted lines marking the average level across the 20th century and the period 2004 to 2019.

EXHIBIT 1: U.S. CORPORATE PROFITS/GDP

As of March 2019 | Source: Federal Reserve
Note: U.S. Corporate Profits after tax with IVA and CCadj.

Up through the 2001 recession, this series was remarkably mean-reverting, with the expected fluctuations across the business cycle and the only outlier occurring in the depths of the Great Depression. Sometime around 2004, however, this series experienced a decided upward shift and since then has averaged 9% of GDP versus the 6% average for the 20th century. Though it has maintained its cyclical variations, the series seems very clearly to have been varying around a different mean. This shift, as profound as it seems to have been, has not actually been that widespread among companies. Exhibit 2 shows a conceptually similar series, profits as percent of value-added for corporations.¹ It isn’t exactly the same as profits/GDP, but it is available on an individual company basis.

EXHIBIT 2: PROFITS/VALUE ADDED FOR U.S. COMPANIES BY MARKET RANK

As of 7/31/19 | Source: GMO, Worldscope

What we immediately see from Exhibit 2 is that the increase in profitability has not been at all evenly distributed. With the number of lines on the chart, however, it’s probably easier to understand the magnitudes in table form.

TABLE 1: PROFIT/VALUE ADDED AVERAGES ACROSS PERIODS

As of 7/31/19 | Source: GMO, Worldscope

The shift in fortunes for different companies clearly predates the shift in overall profits. Breaking down the period into the first decade, second decade, and last 13 years shows² that the top 50 companies really started to distance themselves from the pack by the late 1990s and today have opened a huge gap on the rest of the listed universe. Smaller companies, by contrast, have seen little or no change over the period, which leaves the large majority of public corporations in the U.S. enjoying no benefit from the greatest advance in overall corporate profitability in U.S. history!

There was another interesting change in the profit picture as this shift was taking place. The relationship between profits and investment appears to have completely broken down, as we can see in Exhibit 3.

EXHIBIT 3: U.S. CORPORATE PROFITS/GDP VS. NET BUSINESS INVESTMENT

As of 3/31/19 | Source: Federal Reserve

While net business investment has always been a volatile series, up until the early 2000s there used to be a meaningful relationship between profits and investment – high profits were associated with high rates of investment and low profits the opposite. The correlation between them was about 35%. But just at the time that the profit series made its lurch upward, net business investment made a lurch downward, from which it has not recovered.

On the face of it, this is extremely odd. If profitability is high, corporations should naturally respond by increasing investment. While in principle this tendency could be stopped by there being a particularly high cost of capital, it is pretty obvious this has not been the case over this period. Exhibit 4 shows the Shiller earnings yield of the S&P 500 (the inverse of the Shiller P/E). This may not be a perfect measure of the cost of equity capital for corporations, but it’s a pretty good one, and you certainly couldn’t describe the period since the early 2000s as being a high-cost environment for raising equity.

EXHIBIT 4: SHILLER EARNINGS YIELD

Source: Robert Shiller

It has also not been an expensive time to raise capital through borrowing. Exhibit 5 shows the yield of Baa corporate debt, which again has been conspicuously low in this period.

EXHIBIT 5: BAA CORPORATE BOND YIELD

As of June 2019 | Source: Moody’s via Federal Reserve Bank of St. Louis

One complaint that one could reasonably make about the data I have shown is that the change in corporate business models has not been matched by a change in financial accounting standards, so perhaps stated profits aren’t a good proxy for what is truly going on. Moving from accounting income to economic profit is a tricky and inexact business, but our Global Equity team has spent several years going meticulously through corporate accounts to try to properly account for the expenses that are really investments and adjust for inconsistent inventory accounting, among other corrections. While there is always more to be done, the team can now generate adjusted earnings figures that are almost unquestionably closer to economic reality. Exhibit 6 shows a version of the earlier chart on profitability by market rank.

EXHIBIT 6: ECONOMIC PROFITS/VALUE ADDED FOR U.S. COMPANIES BY MARKET RANK

As of 7/31/19 | Source: GMO, Worldscope

You would be forgiven for not noticing the difference between this and Exhibit 2, but the data is at least subtly different. Interestingly enough, when comparing the three periods this version of the data shows a slightly smaller advance for the largest companies and a small decrease in profitability in smaller cap firms, although the basic pattern is very similar.

TABLE 2: ECONOMIC PROFIT/VALUE ADDED AVERAGES ACROSS PERIODS

As of 7/31/19 | Source: GMO, Worldscope

The largest 50 companies have seen a 50% improvement in their adjusted profitability since the earliest decade, while the next 450 have seen a much smaller 24% increase and the rest an 8% decrease. Clearly, the upward shift in profitability is not driven by archaic accounting standards, although it is interesting to see that properly accounting for R&D, advertising, and other expenditures that analysts argue GAAP gets wrong doesn’t particularly flatter recent years relative to the more distant past.³

But the gap between the improving fortunes for the largest firms and stagnant fortunes for the bulk of companies does help explain the odd lack of relationship between profits and investment. The largest firms fund their investments more or less entirely out of internal cash flow. The only notable exception to this is when they buy other companies, and that, while certainly an investment from the firm’s standpoint, is not an investment from an overall economic perspective because assets are only shifted around, not created.⁴ The companies that do use outside money to make investments are generally small companies. Because the profitability of smaller companies is not particularly high, it cannot be much of a surprise that they feel no burning need to raise capital to ramp up their investments.

This still does leave the question as to why the largest firms are not using their enhanced cash flow to increase their own investment rates. After all, if these companies have increased their profits significantly, they could increase their investments out of internally generated cash flow. But the payout ratios of these companies, inclusive of the money they spend on stock buybacks, has instead grown substantially over the past 33 years, as we can see in Exhibit 7.

EXHIBIT 7: EFFECTIVE PAYOUT RATIO

As of 7/31/19 | Source: GMO, Worldscope

Actually, given the gyrations of stock issuance by smaller companies and their occasional swoons in profitability, it’s a little hard to see the shifts displayed in the exhibit.⁵ Table 3 shows averages for the groups in the same periods as the profitability figures.

TABLE 3: AGGREGATE PAYOUT AS PERCENT OF ECONOMIC PROFITS

As of 7/31/19 | Source: GMO, Worldscope

All groups have shown a significant increase in payout. In the case of larger companies, they are now paying out over 70% of their earnings to shareholders. Smaller cap companies pay out much less than their larger counterparts at just over 30% of earnings, but until fairly recently they paid out nothing net of equity issuance, making their shift over the period the largest of any group.

So why would we have a combination of enhanced profitability and decreasing investment? The most plausible answer seems to me to be that increased industry concentration and market power by the largest companies means the bulk of their profits takes the form of economic rents in the businesses in which they are dominant.⁶ Because the firms are already dominant in their spaces, there may not be a lot of expanding they can do short of branching out into new business lines, where their position will likely not be as dominant and their profit margins far less enticing.

The investment opportunities of these extraordinary companies do not seem to have grown on pace with the economic rents they are capturing in their current business. And the rest of corporate America is not profitable enough to justify ramping up its investment. What does that tell us about the future of growth and profits in America? The plus side of low rates of investment is that it means less chance of overcapacity, which pushes down profit margins, being created. The minus side is, of course, slow growth. While it is probably unfair to entirely blame the slowdown in U.S. productivity growth on the fall-off in corporate investment,⁷ the period since 2005 has been a uniquely dismal one for productivity growth in the U.S. We can see this in Exhibit 8.

EXHIBIT 8: 5-YEAR MOVING AVERAGE PRODUCTIVITY

As of 3/31/19 | Source: Federal Reserve

While productivity has risen from the truly dismal rates in the immediate aftermath of the Global Financial Crisis, productivity growth is half that of the first 55 years as shown in Exhibit 8 and a third of what we saw in the glory days of the late 1990s and early 2000s. It’s hard to see what would prompt a strong recovery in productivity in the absence of a strong recovery in corporate investment, and there aren’t a lot of reasons to expect a strong recovery in corporate investment. The largest companies presumably quite like the world as it is, given their place in it. While that should not stop them from making investments where they foresee a high return on capital, they have a lot to lose from change and are likely to actively work against disruptive progress. Even apart from a desire to maintain the status quo, dominant companies may well not be in a position to want to aggressively grow for fear of attracting the attention of regulators in the U.S. and abroad. That attention is certainly more clearly focused on the largest technology firms today, although to date the fines and business restrictions placed on them have not put much of a dent in their business models.

As to the question of what this suggests for the future of the U.S. stock market, it’s hard to know for sure, but a few points seem worth making. First, if the shift upward in the profitability of the largest companies has been going on over multiple business cycles, we shouldn’t expect it to unravel the same way that prior cyclical peaks in profitability did. That is not to say that there is not a cyclical element to profitability today, but rather that the cyclical factor looks to be superimposed on another longer-term shift. Our equity forecasts split the difference between assuming profitability is stable over time and that enduring shifts can happen, but they are biased toward an assumption of stability, with two-thirds of the weight on models that assume profitability is stable in the long run.

Because the profitability shift for the largest companies in the U.S. is unprecedented, it’s hard to look back at history to determine how we expect the future should evolve for them. The trend has certainly been in their favor and absent any change in the environment it is tempting to assume things will continue to get better for them. There are a couple of potential flaws in that reasoning. The first is the fact that no company’s competitive position is safe forever. Today’s champions have certainly done well historically – they wouldn’t be the largest companies in the U.S. if they hadn’t done well, after all. But the history of dominant companies shows that their extraordinary profitability tends to decay over time. That decay may be slow or rapid depending on the company. For the most stably dominant companies, such as the ones favored by our Focused Equity team in the GMO Quality Strategy, history suggests that their profitability decays to normal over something like a 30-year period. Now, 30 years is a long time to benefit from above-average profitability, justifying a significant valuation premium over average companies. But from the standpoint of forecasting the future profitability for such companies, it argues for a slow reversion rate for profitability, not no reversion.

But while that might be the right way to think about the largest companies individually, a group of companies needn’t act like an individual company. The largest stocks in the S&P 500 are a different group of companies than they were in 1996, or 2006, and yet their aggregate profitability has risen even as some former stars have seen their fortunes fade. On this front, the question is really whether the environment that has favored these dominant firms is likely to remain so biased in their favor. My guess is that it is not. The recent announcement of anti-trust investigations against the largest technology and related communications firms seems unlikely to be a one-off. Apart from the simple issue of their growing dominance and staggering profits, the negative societal and privacy impacts of their basic business models make it harder to paint them as plucky upstarts improving the world and easier for critics to characterize them as disturbing big brother entities feeding off the worst instincts of humanity. Health care companies face a similarly daunting level of unpopularity, driven by their pricing practices combined with the striking disconnect between the amount the U.S. spends on health care versus the rest of the world and the health outcomes that spending seems to deliver. The growing interest in academia and beyond in studying the deleterious effects of large firms beyond looking at the direct impact on consumer prices also suggests a broader push against dominant firms on principle is increasingly likely.⁸

How long these forces will take to play out and how negative they will be for the largest firms is hard to know with any certainty. But it does seem to me that the wiser bet is to assume the world will not remain entirely safe for dominant companies. If we took the stance that the next seven years would see a one-third reversion of the trend of large company margins back to their long-term average, our forecast for the S&P 500 would improve by 1.4%.⁹ Given that our current forecast for that group is -3.8% and -0.9% on our two base scenarios, that assumption would raise the forecast to -2.4% and +0.5%. That is enough to shrink the U.S. “margin of inferiority” relative to other equities, but still leaves it at the bottom of the equity barrel. Even an assumption that the average profitability did not revert at all would not make a profound difference to the forecast, as it would increase the forecast by about 2%, again not enough to lift it out of the cellar in the equity rankings or to meaningfully change the desired holdings for the portfolios we run.¹⁰ To see why, Exhibit 9 shows the forecast for the S&P 500 with and without the potential changes relative to some of our favourite equity assets.

EXHIBIT 9: S&P 500 VS. OTHER EQUITY GROUPS

As of 6/30/19 | Source: GMO

The groups we are excited about within global equities – U.S. small value, international developed value, and, above all, emerging markets value – are all at least at a 4.5% higher forecast return in the friendliest version of the forecast for the S&P 500, with EM value a stunning 10% to 10.6% higher.¹¹

For the moment, we are not making any changes to our “official” asset class forecasts despite a guess that we are being a little tough on the U.S. mega caps. Our preference is to not make one-off adjustments to our forecasts but look for the broader principle behind an issue and find a way to systematically build it into our models. This allows us to test whether a change improves the models across time and region or asset class, as well as making sure that as circumstances change we don’t find ourselves asking every month whether a one-off adjustment is still warranted or should change in magnitude. But a challenge to our models is an opportunity to improve them, and we are researching the general question of how to tease our cyclical aspects of profitability from potential secular changes. Should we find a method that genuinely seems to improve our understanding of asset class valuations, we will adjust our models accordingly.

By Ben Inker, Head of Asset Allocation, GMO

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Mr Grantham says one material advantage is the accelerating burst of green technologies, at a rate faster than anyone expected 10 or even 5 years ago, and that may – in the future – be able to offset much of the accelerating damage from climate change and other problems.

Mr White talks to GMO’s valuation-based approach to delivering high total return by investing in companies focused on climate change mitigation and adaptation. Its universe is global in nature and focused on companies that they believe will benefit in a world increasingly impacted by climate change, either through mitigation or adaptation solutions. This includes clean energy, batteries and storage, electric grids, energy efficiency, agriculture and water, as well as companies that service these industries.

Jeremy Grantham, Co-founder, Chief Investment Strategist and member of GMO’s Asset Allocation team, said:

• 2018 was the year that the general public finally got the point. The latest poll revealed that 73% of Americans feel concerned about the environment. In 2015, this number stood at just 63% – and that 10 points is utterly vital. You’re beginning to eat into what was the hard-headed resistance regardless of the facts, and we are chewing into that, including 3 points in the year 2018 itself. Any advance on the current ratio of 73:27, and we begin to outnumber them 3 to 1. It is indeed a new ballgame.
• A paper from the Proceedings of the National Academy, nicknamed ‘Hothouse Earth’, looks at why, even at 1.5 degrees, we’re not free from the considerable risks associated with the various aspects of the environment getting out of control in self-reinforcing cycles. For example, ice melting in the arctic – where ice reflects sun and then dark ocean water absorbs heat – causes more ice to melt. Similarly, the melting of the tundra releases carbon dioxide (and methane, which is 80 times worse), and the more that is released, the hotter the temperature, and the more the tundra melts.
• On the damage front, ‘Hothouse Earth’ outlines how, in 2018, the melting of the Greenland icecap has increased to a rate three times faster than that of the year 2000. If this acceleration continues, all the estimates are too conservative. And the scariest one of all is that the oceans have been absorbing 40% more heat than has been assumed by the UN in all previous reports. And the oceans absorb 93% of all the heat, with the remaining 7% going into the atmosphere, the soils, and the forests. So, that is the ballgame. And what that means is really the entire system is 40% more sensitive to carbon dioxide release than has been calculated. So, whatever we thought we had to do, that report really means we have to do 40% more, or 40% faster.
• On the technology front, solar and wind continue to drop. They are really now taking bids below the variable cost of coal plants and gas plants and – state by state – wind and solar is becoming the lowest cost provider of marginal electricity. What to do with storage remains a problem, but battery storage continues to fall at double-digit rates, about 12% a year. In 2000, Tesla wanted $1,000. In 2010, Tesla wanted a kilowatt an hour, and next year they’re aiming for below 100, so that’s more than a 90% reduction in 10 years, approximately. And electric car sales have still continued to grow at 25% a year. China had a down year in car sales for the first time in years, but their electric cars were up quite nicely, and Tesla Model 3 is the best-selling US sedan almost out of the starting block. They will also announce a new, cheaper crossover vehicle this year.
• In 2018, $7 billion in venture capital investment went into agriculture: the largest disintermediated industry. This is roughly 13% of GDP and has been left totally alone until now, but suddenly the world is bustling with potential disintermediates going directly from the farmer selling the higher-valued crops to the General Foods of the world.
• My favourite development – a bio-engineered insecticide – has found a way of extracting RNA, which is the engineering instructor to DNA, telling it what to do. The problem for researchers has been that, although they knew it was an invaluable item, it was too expensive, at $1,000 a gram. This new Boston-based enterprise has knocked it down to just 35¢ a gram, if you can get your brain around that. That is the very living definition of disintermediation, or disruption. And their target for next year is 10¢ so, suddenly, the research labs of the world are filling up with a new variable to test.
• And to celebrate the flexibility of this, they themselves set a target to attack one of the more obvious pests: the Colorado beetle that feeds on potatoes. They have one gram of their solution designed only for Colorado beetles (no other insert on the planet), which goes into 10 gallons of water, which spreads over an acre. The droplets sit on the leaf, the Colorado beetle eats it, and the instructions basically go, “Are you Colorado beetle? Yes? If so, go to this place on your DNA and turn this particular switch,” and the company beetle continues to eat the potato but has lost the ability to process it as food, and it dies of starvation and drops conveniently to the floor of the field and is digested happily by its fellow insects. And that is merely the beginning of what will be a flood, in the next several years, of improved ways of dealing with pesticides and also improved seeds.
• In conclusion, I believe we will have plenty of green solutions in 30 years to get all our job done. That will not be the problem. The problem will be the damage that we’ve inflicted on the planet over 30 years, and the fact that there’s enormous inertia in the system, water levels and the temperature will continue to rise for quite a few decades, and – in the case of water –  hundreds of years after we actually turn the tap off, and that’s the scary thought for me.

Lucas White, Lead Portfolio Manager of the GMO Climate Change Strategy, said:

• GMO is focused on investing in companies that help to combat climate change in some way, shape or form, and the two main categories of companies that we’re looking at are those either helping to mitigate climate change, or helping the world adapt to climate change. On the mitigation side, we’re looking at clean energy companies and alternative energy companies such as wind, solar, geothermal and clean power generation.
• We looked at electric grid companies because when you’re dealing with intermittent renewables the big challenge is incorporating a lot of renewables into the electric grid. You don’t know when they’re going to generate electricity and when they aren’t, because it depends on when the wind is blowing or when the sun is shining, and our grid needs electricity at all times. It can’t be just wherever it shows up
• A lot of work needs to be done on the electric grid to be able to incorporate a larger proportion of renewables, or we need a solution for storage – a utility-scale store – and historically utility-scale storage has been a pretty small fraction of what goes on in the electricity-generation industry. Going forward, we obviously expect it to have a bigger presence.
• We’re looking at other companies involved in incorporating renewables into our grid, at electric grid companies that are focused on enhancing and building out the grids and making them capable of incorporating a larger proportion of renewables, and at utility-scale storage companies. We see this as a nascent industry, but it’s certainly something that we’re keeping our eye on and paying attention to.
• Energy efficiency effort is great for helping to mitigate climate change. If you can just use 20-30% less energy to get the same unit of work done, that’s brilliant. So whether that’s energy-efficient building material, energy-efficient lighting, energy-efficient electrical components or electric vehicles themselves, anything that reduces our energy impact on the world is brilliant.
• Looking at electric vehicles as an example, we believe it’s a wave that’ll take over the world, and they are the future of the automobile industry. Right now, the big players are Tesla in the US and BYZ in China, but BMW, Mercedes, Volvo, Ford and GM are also getting into the game. We want to be smart about how we allocate capital and, in the absence of knowing who’s going to win the market-share game and when you’re looking at very expensive valuations for companies like Tesla and BYZ, we look for other ways to express that view. And we may do it via lithium, nickel, cobalt, copper – the major materials that go into the production of electric vehicles.
• Copper is used three or four times as much in an electric vehicle as in an internal combustion engine vehicle, and the whole electric vehicle-charging infrastructure is going to be very copper-intensive as well, so we look for other ways of expressing the same kinds of views. We might not be in the most obvious companies.
• On the adaption side, the two big things are food and water. Agriculture is heavily impacted by climate change, so any company focused on keeping agricultural productivity as high as possible in the face of all these extreme weather events, extreme hot days, and extreme downpours, and floods and droughts and everything else would fit within our universe. These could be irrigation companies, precision agriculture companies, fertiliser companies, and companies working on drought-resistant seeds.
• It’s a similar story with water. Climate change has a major impact on water distribution and water pattern. You end up having more water than you ever wanted in some places and not enough water in other places. So, treating water like the natural and valuable resource that it is going to become increasingly important in a world impacted by climate change. So those companies focused on recycling of water and purification fall within our universe.
• We see a lot of growth coming down the pike for those kinds of companies. Climate change isn’t something that we’re going to address in the next 5 or 10 or 20 years; this is something that’s going to take decades. It took us 150 years to build up the energy infrastructure that we have in the world today, and it’s going to take many decades to build out a new energy infrastructure that’s cleaner and more reliable in some ways.

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Resource equities are a great way to gain commodity exposure, while also accessing the equity risk premium.

Given their somewhat hybrid nature, with one foot in the equity market and the other foot in the commodity market, resource equities display some unusual characteristics; over various timeframes, resource equities may move more with equities or more with commodities and can look more or less risky than the broad market.

Perhaps due to their quirky nature, resource equities are generally unloved and possibly misunderstood. However, we believe that resource equities present a compelling investment opportunity, both strategically and tactically, and that long-term investors could benefit from larger allocations to these assets.

Download and read the full White Paper by Lucas White and Jeremy Grantham here.

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In this short White Paper GMO shows that this has been standard operating procedure for the Fed since Greenspan’s tenure began. However, the transmission mechanism doesn’t appear to be lower rates, lowering the discount rate. Rather, it seems to come from the influence that the FOMC announcements have on market sentiment or “animal spirits.”

They find find that Federal Reserve influence on the stock market has become particularly pronounced since the onset of its unconventional policies.

They construct an alternative valuation measure (the Monetary Policy-Adjusted CAPE) that modifies Robert Shiller’s Cyclically-Adjusted P/E ratio (CAPE) in order to gauge the impact the Federal Reserve policies have been having on the S&P500.

Read the full White Paper here.

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To read the Quarterly Letter, click here.

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Problems threaten from almost every direction: the fiscal cliff looms, the U.S. Presidential Cycle is upon us, Europe’s troubles are clear for all to see, China appears to be slowing…indeed, the possibility of a global recession is non-egligible.

Well-known and respected observers have publicly voiced their concerns. For instance, Howard Marks of Oaktree Capital recently wrote, “The world seems more uncertain today than at any other time in my life.”

John Bogle has said, “The economy has clouds hovering over it…And the financial system has been damaged.”

Economists have come up with measures of uncertainty that combine things like the number of newspaper stories about uncertainty with the spread of economists’ forecasts into a single measure. Exhibit 1 shows an example of this kind of index, and a cursory glance confirms the situation outlined above: the one thing we have been certain of is that uncertainty is high!

To read the white paper, click here.

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Even fewer remember that heavy rains in Thailand further disrupted the global production chain at the end of 2011. With so much accomplished, why do so few Japanese companies see bright days ahead?

This paper will first look briefly at the resolution of the five potential earthquake- and tsunami-related bottlenecks.

To read on, click here.

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