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Stay-at-home stocks still have ‘plenty of room’ to reprice: Strategist

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Niladri Mukherjee, Merrill and Bank of America Private Bank Head of CIO Portfolio Strategy, and Megan Horneman, Verdence Capital Advisors Chief Investment Officer, join Yahoo Finance to discuss how the markets closed on Wednesday, earnings season, and portfolio strategies.

Video Transcript

[MUSIC PLAYING]

BRAD SMITH: And that's your closing bell for this Wednesday, April 20, 4:20, everyone. Major averages closed the day mixed with the Dow as the lone gainer. Close is higher by 250-ish points there. 7/10 of a percent in positive territory. The S&P 500, you also saw that closed lower here on the day as well as the NASDAQ. That was down flat, but to the downside by about 6/100 of a percent, just 2, 3-ish points to the downside there on the S&P.

The NASDAQ composite, that was lower by about 166 points on today's activity. Brad Smith here with Rachelle Akuffo and Dave Briggs. And joining us now for our markets panel, we've got Niladri Mukherjee who is the mayoral and Bank of America private bank head and CIO portfolio strategy. And we've also got Megan Horneman, who is the Verdence Capital Advisors chief investment officer. Great to have you both here with us today.

First and foremost, from today's tape, one thing that we did see, it was certainly all the way into the finish, at least for the NASDAQ, a hit directly on the head largely because of Netflix, but also because of what this could signal more so about tech as a whole. And I would love to start with you, Niladri, because when we think about what this means for the growth prospects, especially in the tech space, what would you extrapolate from these earnings and apply perhaps across the board in the sector?

NILADRI MUKHERJEE: Yeah, when you think about corporate earnings and you just step back, I think the story is still pretty good. Companies on aggregate are beating earnings. We're looking at about 5% to 7% earnings growth on a year over year basis. Obviously, the big beneficiaries in this earnings season are those commodity exposed sectors like energy and materials, et cetera. But when it comes to technology, I just want to make one distinction. And I think it's really important for investors to think about technology like this.

Many of the long duration, low cash flow kind of companies, consumer facing technology companies so to speak, they're housed in the communication services and the consumer discretionary sectors. And then you have the corporation, the enterprise facing technology companies, that are housed in the traditional technology index. Those are the companies that we like. I think with interest rates moving higher, with real yields now almost in positive territory, I think you'll see more and more pressure on those long duration, non profitable companies.

And the other thing that you're seeing with respect to Netflix is some of the COVID winners that had a massive multiple expansion. Their share prices are really, really well. Now that is falling by the wayside in a dramatic way. And the market is rotating into the reopening winners so to speak.

RACHELLE AKUFFO: And Megan, as you look at some of the diversification within the tech stocks as well, as we heard this, when these work from home pandemic stocks versus perhaps chip makers and others, which ones do you see some potential in? And which ones do you think it's time to perhaps rotate out of?

MEGAN HORNEMAN: I think the stay at home stocks obviously. They've been challenged for quite some time now. They also were some of the biggest beneficiaries. So you saw the price to earnings multiples rise to really astounding numbers. These things were not necessarily sustainable. So I think there still is plenty of room for those stocks to reprice what is not only a higher interest rate environment but also bigger reopening trade going forward.

- And Nilardi, to your point prior about the disaster that was for Netflix, should we brace ourselves for more of those earnings, bad beats, the next couple of days?

NILADRI MUKHERJEE: I think broadly, earnings is a very good story for the stock market. I would expect corporate earnings to remain fairly strong over the next couple of quarters at least. We're not going to get the kind of earnings growth that we saw in 2021 where we had 25%, 30% plus earnings growth and we had regular beats on the top line and the bottom line. It's going to be more in the single, low single digit, high single digit kind of range earnings growth.

And the driver of earnings growth is going to be the high level of nominal GDP growth that we are experiencing in this economy. So I would expect earnings to be one of the foundational forces that powers the stock market higher at least over the next couple of quarters.

BRAD SMITH: Megan, one of the other foundational forces right now that is certainly impacting the markets, or at least that investors have to continue to think through, is the fed. And so none of us love to talk about a recession but we'd like to be prepared in the instance that the fed tips us into one because of the tightening pathway and policy that we may be set forth on now. What would be the instance that we're able to avert that, if there is one from your perspective?

MEGAN HORNEMAN: So I think you have to just take a step back. And everybody is going to focus on, when's the next recession? When that typically happens, nobody can pinpoint the exact time frame. And also, remember that equity and bond markets are going to price that in well in advance of that happening. I think what you need to do when it comes to investing and looking at the potential for a recession, whether it's in 2023 or 2024, what areas of the market are already reflecting in a worst case scenario, or at least pricing in the majority of the downside risk?

That's where I would focus. Because if you have a long term time horizon and you can withstand some of the volatility, you can take advantage of some of these opportunities that should rally coming out of a recession when and if that does occur. Some of those areas that we're looking at, the small and mid-cap area, these areas have been extremely beaten down. These offer, I think, some good long term potentiation there.

RACHELLE AKUFFO: And Nilardi, in terms of the sort of questions that you're getting from clients in this environment when they're wondering how aggressive the fed is going to be based on some of the economic data, and whether or not the US economy really can, does have the strong enough fundamentals to withstand a recession, what are their top concerns?

NILADRI MUKHERJEE: Well, the top concern is inflation obviously. And nobody has a really good handle on the inflation picture. And that's what's making investors really nervous. And we really haven't experienced inflation at these levels in a long, long time. Our view is that inflation will remain elevated. There's some powerful underlying drivers of inflation such as wage growth, a tight job market. The rents story is still pretty powerful in terms of putting upward pressure on inflation.

But inflation will moderate. Perhaps it goes from the 8 and 1/2% levels to more like a 4% to 5% level by the end of this year. But that's still going to be way above where the fed likes to see inflation, which is to 2 and 1/2%. So what that means is that the central bank will have to be very aggressive with their interest rate hiking cycle, the monetary policy tightening cycle. We think that they will hike by 50 basis points each in the next three meetings and then 25 basis points in every meeting after that. And they'll bring the fed funds rate to a level of 3 and 1/4 to 3 and 1/2% in the next 12 months.

And that's going to create a lot of volatility for the stock market. And so what we are advising our clients is that, listen. This is still an environment of high nominal growth, good corporate earnings, valuations are a little bit more reasonable for the equity markets. And so remaining overweight equities, US equities, but remaining cautious on the bond market and staying below duration in the benchmarks in the fixed income market. So it's a tough and volatile market environment, and a very uncertain environment. But we think that the fed will be aggressive. And eventually, it's their actions which will bring inflation under control. But that's going to be a story for 2023.

BRAD SMITH: All right. We're going to be watching those timelines very closely. We appreciate the time and insights from both of you, Niladri Mukherjee, who is the Merrill and Bank of America Private Bank head of CIO portfolio strategy, and Megan Horneman who is the Verdence Capital Advisors chief investment officer. Thanks both of you today.