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A positive fourth quarter remains likely for U.S. stocks: Clearnomics CEO

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James Liu, Clearnomics Founder & CEO, joins Yahoo Finance to discuss expectations for Q4, the latest action in Washington, and inflation outlook.

Video Transcript

ALEXIS CHRISTOFOROUS: Want to stick with the markets now and bring in James Liu, Founder and CEO of Clearnomics. James, good to see you here. So as we look ahead to the fourth quarter, do you see another big leg down for stocks? Or do you think that we're going to be able to rally into the new year?

JAMES LIU: Well, hi, Alexis. Good to chat with you. We're generally positive on the fourth quarter of the year. I think the big picture to understand, especially with all the volatility in the markets the last two weeks, is that the overall economy and the story is transitioning from this recovery phase to a sustained recovery.

And that sustained recovery has a lot more nuances to it-- it's a balancing act in order to keep things going from here. And that, of course, translates into monetary policy and fiscal policy, both of which are driving stock market swings on a day-to-day basis. So overall, the economy is still on solid footing.

You know, we're going to get earnings numbers in the next few weeks. It looks like in the third quarter, earnings probably grew by about 30%, which is absolutely remarkable. There are going to be margin pressures coming up. There are still high valuations. But we think the fourth quarter is still going to be a positive one for the S&P 500 and US stocks in general.

ALEXIS CHRISTOFOROUS: You talked about monetary policy, that could certainly be a catalyst for this market. Do you believe, though, that investors have priced in the eventual tapering of the bond asset purchases by the Fed?

JAMES LIU: Right. I think that pricing in is happening on a gradual basis, which is exactly what you want. In order to avoid a 2013 taper tantrum situation, the Fed needs to broadcast it well in advance, which they've done, and the market needs to adjust over time. None of those adjustments feels great. So we've had today and also on Tuesday when the market made fairly large adjustments with interest rates spiking and backing up.

But that's kind of what you want. You don't want it to happen all at once. You want it to be a gradual process. And right now where we stand is that tapering is very likely to happen at the Fed meeting early November. It'll last throughout most of next year. And then maybe at that point we're talking about raising rates. So regardless of whether or not the market is worried about tapering at this moment, it's going to be a very slow, gradual process, especially because the Fed's main goal will be to get the unemployment rate down to pre-pandemic levels, which will take quite some time.

ALEXIS CHRISTOFOROUS: How concerned are you about what's happening in Washington right now and the debt ceiling quickly coming now-- that deadline October 18, the US possibly going to default for the first time ever-- how concerned are you about that?

JAMES LIU: It's a great point, Alexis. The challenge with problems in Washington, they can often be a sideshow. However, the problem for investors is that there's really only downside risk. There's really no upside risk here. You know, the most likely scenario is that there's some sort of 11th hour deal. We have 2 and 1/2 weeks to get that done. Obviously, it's very political, there's a lot of posturing.

But there's been a decent record of averting a technical default crisis. However, you know, it still counts as downside risk and it's going to create uncertainty in the markets before that even happens. If there is any upside risk whatsoever, it has to do with the infrastructure bill which, again, is bipartisan. And so you would think that that would be the easiest thing to get through. It's gone through the Senate, it will be voted on in the House, and then we also have the remaining up to $3.5 trillion bill, although that's going to come down a bit.

So overall, you know this is going to be a tricky time to watch for in Washington. It's really the only downside risk. In the end, we think both Washington will get through it, the American people will get through it, and also the markets will get through it as well.

ALEXIS CHRISTOFOROUS: When you look out to the fourth quarter, I know you say you're bullish on the rally, but where do you think the leadership is going to come from? Because we saw tech take a big drubbing here late in the third quarter-- is it going to be able to find its footing, you think, and rally into the fourth quarter?

JAMES LIU: Well, that's really the question for the overall market that we've seen so far this year. The overall market has done quite well, but when you look under the surface, there have been multiple rotations not just amongst sectors, but also amongst styles with growth and value kind of changing leadership here and there. So longer term, we think the underlying dynamics, as you say, are that interest rates are rising, but they're rising gradually-- you know, the last two weeks notwithstanding.

And that does basically favor areas like financials. And it does put downward pressure on areas like technology and utilities. However, the story with technology especially is not sort of the shock to interest rates, per se. It's this long-term secular trend. So although there are these shocks that happen on day-to-day basis, we think those areas-- you know, information technology, communications, parts of consumer discretionary-- we think that those can rebound in the fourth quarter as the rate story stabilizes.

So overall, we're still very positive on the overall market. But as you say, it's very important to watch what's underneath the hood and the changes in leadership there.

ALEXIS CHRISTOFOROUS: You know, today, Fed Chief Powell went before the House Financial Services Committee along with Secretary Janet Yellen and he echoed some comments he made earlier in the week to the Senate in which he was talking about inflation. He still believes that inflation is going to be moderate and that we're going to see it sort of ease as these bottleneck issues ease late in the year or early next year. Do you believe in the Fed's timeline when it comes to inflation and how they've been dealing with it?

JAMES LIU: Well, we think the Fed is correct that many of the issues that we call inflation and the forces affecting it are quote unquote "transitory," because they are based in supply and demand and supply chain dynamics. However, we think that timeline is far too optimistic. Even look at the semiconductor issues, those have been plaguing us since last year and we're in the fourth quarter, just about, of 2021, and they're basically nowhere close to being resolved.

So we think it'll take quite some time. And the other challenge when you look at the supply chain problems right now are that it's all along the supply chain. It's both at the point of delivery-- ships stuck in port-- but now we're looking at energy prices and supply constraints in China and the rest of the world also at the point of production. So you know, all of that will take quite a bit of time.

We do think inflation eventually will moderate. However, if it takes longer than expected from what Jay Powell is saying, it puts them in a dilemma, because they need to think about interest rates both in the context of controlling that inflation but also they want to keep employment high and joblessness low. And that puts him in a bind there.

So overall, we think the Fed will stay dovish here. You know, they're going to be very slow and steady with interest rates and with the tapering process. However, it will create monetary policy challenges in 2022.

ALEXIS CHRISTOFOROUS: All right, James Liu of Clearnomics, thanks so much for being with us today.