Market Strategy 10/18/2021

Key Takeaways

• This week a diverse group of 76 companies across all 11 sectors will provide greater clarity on revenue and earnings growth and how managements are traversing the transition to the next new normal.
• Financial companies last week surprised positively, which bolstering investor sentiment and sent the market up sharply on Thursday and Friday.
• Retail sales data last week surprised to the upside suggesting consumer demand remains resilient. Meanwhile, inflation has lingered for longer and at higher levels due to persistent supply chain disruptions.  

The current transitional phase as the US and world economy move away from pandemic oppression and toward economic recovery and the “next new normal” reminds us of the recorded admonition riders hear on the London Tube when boarding and disembarking from the carriages at every station. Essentially the message is not so much a dire warning of the risk the rider takes as a reminder to remain aware while traversing the space between the station platform and the rail car.

Similarly as investors navigate the current landscape it’s important to keep things in context and right size one’s expectations as markets and asset classes reflect progress as well as set-backs that are the norm whenever economies and markets are exiting a major crisis be it financial or pandemic.

The week ahead should provide investors further insight as to the health of the stateside economy as well as the strength and resilience of S&P 500 corporate earnings. Last week a glance under the hood of how things are going was provided when five of America’s biggest banks reported results with enough positive surprises among them to counter concerns that had jostled stocks ahead of their reporting.

With 13 of 65 financial sector companies having reported (20% of the sector) as of last week (and with five of the largest banks among those delivering results that showed to varying degrees overall improvement) the sector showed earnings up 43.9% on back of 9.45% revenue growth. We’d say, “none too shabby” as the banks’ trading operations benefited from market volatility and investment banking stood out from a surge in M&A activity. Consumer loan growth showed opportunity for further improvement when economic activity gains greater traction and the yield curve likely steepens some in the quarters ahead.

With just a little over 8% (41) of companies in the S&P 500 having reported through last Friday it’s too early to jump to conclusions but so far so good.

This week a diverse group of some 76 companies belonging to sectors that include financials, information technology, health care, energy, consumer staples, consumer discretionary, communications services, real estate, materials, and industrials are scheduled to report results. Widely followed names including airlines, advertising, chemicals, credit card issuers, gaming, transportation, health care, industrial equipment, mining, fast food, entertainment, gaming and telephony are likely to provide greater clarity as well as clues as to the shape of things to come in the current quarter and into next year

We’re often asked where the risks and opportunities lie on the investment landscape as we see it. We’ve encapsulated our responses below:

• Potential for COVID-19/delta variant disruptions of economic re-openings in the US and elsewhere around the world;
• Continued disruption of the global supply chain;
• Inflation in goods and services;
• Labor shortages;
• Potential for the overstimulation of the US economy by politicians in Washington which could boost inflation higher and add to its “stickiness;”
• Higher corporate taxes that could hit future earnings potential, curb investment and innovation and hurt the competitiveness of US companies among their global peers;
• Domestic and geopolitical risk.

• The US economy continues to show resilience evidenced in economic data;
• Q3 earnings season “so far so good;”
• Q2 earnings season delivered strong earnings and revenue growth with over 80% of companies reporting beating analyst expectations;
• The Labor Department’s JOLTS index shows more than 10 million jobs open;
• A traditional infrastructure program for the US economy could result from bipartisan efforts in Congress;
• M&A activity is gaining momentum as companies look to position for “the next new normal;”
• Global competition likely to re-emerge and check the pace of inflation as supply chain disruptions and labor shortages are addressed.

• Stocks likely to move higher (though not in a straight line) as institutional and private investors seek investments with potential to meet longer-term goals and objectives in what remains a low interest rate environment;
• We upgraded our 2021 year-end price target for the S&P 500 on August 2 of this year taking it to 4,700 from 4,300;
• Interim volatility to be expected on any catalyst that presents opportunity for some profit taking without FOMO (fear of missing out) as well as potential to “buy the dips;”
• With interest rates and yields worldwide near record low levels bonds offer little competition to stocks;
• Look for yields to rise moderately (not drastically) with continued economic improvement;
• Fed likely to seek to avoid a taper tantrum;
• Expect the Fed to taper sooner than later and perhaps as early as next month (November);
• Modest adjustments to the Fed’s benchmark rate likely by mid-2022 if not earlier next year;
• Favorite sectors: information technology, consumer discretionary, financials and industrials;
• Materials and energy sectors likely have further upside, in our view, as the economy gains momentum and while supply chain disruptions continue to fan inflation near term;
• Diversification key across: Sectors (cyclicals favored over defensives); Style (favoring “growthier” value and “garpier” growth) along with diversification across market capitalizations (large, mid and small-cap stocks);
• Overweight US equities as uncertain times favor dollar assets while maintaining meaningful exposure to international emerging and developed markets on valuation and longerterm growth prospects;
• Look for US economic recovery to move toward a sustainable domestic expansion at a moderate pace (similar to pre-COVID levels of economic growth);
• US expansion likely to provide a boost to trade that could well spark a synchronous global economic recovery;
• With increase in trade look for dollar to come off its high perch with foreign currencies of exporting nations gaining some strength against the dollar.

Fundamentals, Fundamentals, Fundamentals— Economics, Revenues and Earnings, Job growth.

• Look for progress not perfection.
• Stay diversified.
• Know what investments you own and right size your expectations.
• Always remember the adage attributed to Mark Twain, “History may not repeat itself but it often rhymes.”

Utilize a barbell strategy using both growth and value sectors to navigate markets prone to rebalancing and rotation on a weekly even day to day basis.

Barbell growth and value with:

• Tech and consumer discretionary on one end and financials and industrials on the other.
• In our view, value sectors energy and materials have room to run higher from here until supply chain disruptions are resolved and the reality of how long it will take for alternative energy to scale up before oil and natural gas dependency can be reduced is adapted to the current political and market narratives.
• In our view there is a need to acknowledge that fossil fuel is essential near term to bridge the gap between now and when alternative energy will be at scale to provide the cost efficiencies and capacity offered by the traditional energy complex.