The stock market perked up nicely during the back half of 2006, but being the contrarian that I am -- and given all the volatility we've experienced this week -- I think savvy investors ought to at least contemplate whether we're heading for a market correction. That's particularly true when a talented money manager has assessed the situation and decided that now's an exceedingly good time to be ... cautious.
Dialing down risk
Last year, Jeremy Grantham -- the "G" of the world-class GMO money management outfit -- chimed in on what he called "the Wile E. Coyote" economy. In his most recent quarterly report, Grantham is relatively sanguine about the year ahead. Still, he also points to "small, but increasing odds of a major setback over the next four years" and suggests that "there is not even a one-in-three chance of missing a major setback." The upshot? GMO remains cautiously positioned, with Grantham (in an earlier report) advising risk avoidance and saying that, "If you insist on holding stocks, emphasize large, high-quality blue chips."
Now, normally, as I do my homework for the Fool's Champion Funds newsletter service, I put little stock in market prognosticators. Grantham is one of a handful of exceptions, though, and I share his view that tried-and-true big boys look attractively valued -- particularly after the lengthy run-up in smaller-cap stocks.
Meanwhile, the more growth-oriented likes of Dell
Being cautious, of course, is in the eye of the shareholder. Avoiding stocks -- or simply reducing your exposure to them -- is one way of getting that job done, but so is favoring less volatile investments. One option: mutual funds that favor the kinds of stocks that trendy types -- you know, the ones who inflated the market bubble during the late 1990s, only to watch it burst in early 2000 -- typically avoid.
That means tilting toward prospects with the best relative valuations -- stocks that have less room to fall when the market heads south, and greater upside potential when Mr. Market turns cautious. Indeed, a manager at one of our Champion Funds recommendations made out like a proverbial bandit in the post-bubble era, racking up a gain of more than 75% between March 2000 and December 2002, while the S&P shed some 33% of its value over that stretch of time.
Impressive, yes? And what's more, while this fund plays it close to the vest with its picks -- American International Group
The Foolish bottom line
Make no mistake: I think the key to being a successful long-term investor is designing a well-diversified asset-allocation game plan that suits your timeline and tolerance for risk, and sticking to it over the course of many years. That said, it's possible to be intelligently opportunistic along the way -- and a top-notch fund that specializes in out-of-favor stocks is a great way to do just that.
With that in mind, if you'd like to sneak a peek at this contrarian pick -- not to mention all the others we've recommended since Champion Funds first opened for business -- you're in luck: A free guest pass is just a mouse-click away. Your pass provides access to our back-issue archives, model portfolios, and complete list of recommended funds.
This article was originally published on May 16, 2006. It has been updated.
Shannon Zimmerman runs point on the Fool's Champion Funds newsletter service. At the time of publication, he didn't own any of the securities mentioned above. Dell, Best Buy, and Starbucks are Motley Fool Stock Advisor recommendations. Dell is also an Inside Value pick. US Bancorp is an Income Investor selection. The Fool has a strict disclosure policy.