Why Dennis Stattman is cutting out coupons these days

You'll have a hard time finding a better portfolio manager than Dennis Stattman. So why is the famed PM of BlackRock's flagship fund steering clear of the hottest investment going?

Bonds may be winning the popular vote over stocks these days, but Dennis Stattman isn’t buying in.

Mr. Stattman, portfolio manager of the $51.7 billion BlackRock Global Allocation Fund Ticker:(MDLOX), has a free hand to invest across the globe in stocks, fixed-income and cash equivalents. But his fund has almost 50% less bond exposure than the average world allocation fund, according to Morningstar Inc. The BlackRock fund had about 17% allocated to bonds as of Jan. 31, compared with 30% for the average fund.

“To put it simply, I think the bond market in general is bad value right now,” said Mr. Stattman, who has managed the global allocation fund since 1989. A $10,000 investment in the fund in 1994 would be worth approximately $48,549 today, compared with $33,560 for the same investment in the average world allocation fund. The 10-year Treasury, which is currently yielding 1.66%, is of particular concern to Mr. Stattman. “With that yield, it’s easy to imagine losing an entire year’s coupon in a single bad trading session,” he said. “That’s really disturbing to me.”

Treasury inflation-protected securities and high-yield bonds are looking almost as unappealing.

“With TIPS you have to go 16, 17 years out on the maturity to get a break-even yield,” he said. “There’s a great deal of risk in high-yield right now, too. The default rate is about as low as it’s going to get, and the momentum of the economy is not encouraging.”

Mr. Stattman’s fixed-income outlook is contrarian to the general investor community. Year-to-date through the end of May, investors had put over $110 billion more into taxable bond funds than they had taken out, compared with $80 billion of net inflows over the comparable five-month period last year, according to Strategic Insight.

“There’re still reasons to own bonds, like diversification,” Mr. Stattman said. “But I’d rather take my risk in stocks. There’s more value there.”

That helps explain why the BlackRock Global Allocation Fund has a 67% allocation to global stocks, compared with 55% for the average world allocation fund.

Don’t expect Mr. Stattman to have any favorite stock picks, though, given that the fund typically holds anywhere from 500 to 700 individual securities. “No single security is going to make or break the fund,” he said. “We’re not making any big bets, we’re making a lot of really small bets.”

Of course with $50 billion in assets and that many securities, Mr. Stattman is far from alone when it comes to managing the fund. A team of 40 investment professionals assists him, along with co-managers Dan Chamby and Aldo Roldan.

The process starts with a top-down approach that identifies promising regions or sectors, then shifts to a bottom-up process to pick individual stocks or bonds within those areas. Picking individual securities across a broad asset spectrum helps the managers either justify or rethink their top-down ideas, Mr. Stattman said. “It gets us into the nuts and bolts of where the top-down numbers come from,” he said.

Even though the fund has a go-anywhere mandate, it still has relatively low turnover — 31% annually, according to Morningstar. Mr. Stattman manages the fund’s allocation based on his views over a three- to five-year time period, but the flexibility is what has led to the fund’s success, he said. “If the prospects for a given asset class get out of whack,” he said, “we’ll change the allocation.”