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DataTrek co-Founder on his outlook for the S&P 500

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Nicholas Colas, DataTrek Research co-Founder, joined Yahoo Finance Live to discuss today's market moves and his outlook for 2021.

Video Transcript

[MUSIC PLAYING]

ADAM SHAPIRO: All right, 15 minutes to the closing bell. It looks as if we're going to close-- the indices are going to close in positive territory. The S&P 500 could close up about 1%. And I mention the S&P 500 because our next guest, in one of his notes recently to clients, is saying that over the next 20 years, you can expect a compound increase in the S&P 500 on an average of 7% to 9%.

Let's break this down with Nick Colas. He is the co-founder of DataTrek Research. And your note was very inspiring to me. I'm one of the millions of people who are lazy passive investors. There's a lot of warning that comes with that. But that statistic I just said in your call that over the next 20 years, good news or bad news? What am I missing there, news?

NICHOLAS COLAS: You know, on the good news side, we've never had a 20-year period in the S&P where we've had negative total returns either on a real or nominal basis. So a 20-year horizon is a pretty good one to think about when stocks will always break even or do better for you. So that's the good news, we're north of 0 and should obviously be north of 0 for the next 20 years.

The weird bit is that the returns over 20 years can vary dramatically. And I mean dramatically. Like, it can be as much as 17% a year, which means you're doubling every three, three and 1/2 years. It can be as low as 5%, which we actually just had through 2018 for the prior 20 years. So the returns over the very long term can be wildly different.

And by saying 7% to 9%, we're thinking that we're going to see returns that are pretty good. You are going to double your money every 10 years or so, get two doubles over 20 years. But not as good as what a lot of us remember from, say, 1980 to 1999. That was really the best ever time.

SEANA SMITH: So Nick, with that in mind, how should investors be positioned, then? I guess, what sectors-- I don't think you can name specific names, so what sectors do you expect to outperform, then, at least in the near term?

NICHOLAS COLAS: You know, for the near term, and this is talking now three to five years, so near term being not 20, technology still has pride of place, I think, in most people's minds, in our minds about the group that can generate the kind of outsized earnings because of high rates of productivity growth that will generate good returns. Over the next year, just over 2021, we've got to look at more cyclical groups because we all know tech had a fantastic run last year. A lot of the good news is baked in.

And there's not a lot of earnings leverage in the tech sector, really in most cases less than 0, meaning earnings growth is no better than revenue growth. We have to look at financials, industrial, cyclical groups, the stuff in the consumer discretionary except Amazon for the leadership, and that's exactly what we've seen this year. If you look at the S&P year-to-date, all of it, meaning all of it, is due to a little bit of Tesla plus a whole lot of financials and consumer discretionary ex Amazon.

And that's the real tug of war here for the market going through the rest of the year is do we get those cyclical groups to continue to work? I think we do. But that is the subject of debate.

ADAM SHAPIRO: Nick, if I hear you correctly, though, what I'm hearing is that those of us who are passive investors, now may be the time to perhaps consider actively managed investments if we are in that kind of camp, even with the 100 to 200 basis points that we may have to pay or not. Is that what you're actually saying?

NICHOLAS COLAS: That is a great question and the right question to ask. Because let's say you pay 100 basis points of performance, that's 7% to 9% return. We talked about as being realistic over the next 20 years, you're going to give up north of 10% of that return in those active fees. That's a bit of a challenge. This is not a 10% to 15% return market where it's less than 10%.

So you've got to study that calculus very carefully. Are you willing to give up north of 10% of your return to capture some of the upside? And say your active manager gets you 12% instead of 9&, definitely worth it. But you've got to find somebody who you think has the capability of doing that. And it's not as easy as it was back in the late '90s when you're doing 15% to 17% returns, paying 100 bips, not a big deal.

SEANA SMITH: Hey, Nick, the recent action that we've seen in the market, we've seen kind of this push-pull going on. We have the Dow hovering just around 31,000 at this point. What's generating that push-pull action that we've seen in the market lately? Is it all because of stimulus and then worries about COVID? I guess, what are you attributing it to?

NICHOLAS COLAS: Yeah, I think you put your finger on it. Those are the key points. It comes down to how quick we get vaccine rollouts, obviously a big subject of concern. I'm sitting in New York City, and it hasn't been great here.

On the other side, we are looking for more fiscal stimulus. We had presumptive Treasury Secretary Yellen giving testimony today and answering questions. She's clearly in the camp of more sooner is better, which I would agree with. But we don't know exactly what the composition of that's going to be and how tax rates might take a toll on, say, the investor class in terms of what might happen to those.

So it is a real push-pull in terms of how fast will the economy reaccelerate? What sectors are best for that? We talked about financials, industrials versus technology being the safer play. And that's the tug-of-war the market's facing. And it's not easy given the year that we've had to place your bets now in January, given everything that's run so far, so fast.

ADAM SHAPIRO: All right, great to have you here, Nick. Nick Colas is the co-founder of DataTrek Research. We appreciate your insight.