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Stocks rise, adding to year-end advances

Yahoo Finance’s Zack Guzman and Akiko Fujita break down today’s market action with Delos Capital Advisors Chief Investment Strategist Andrew Smith.

Video Transcript

[MUSIC PLAYING]

ZACK GUZMAN: Welcome back to Yahoo Finance Live. Of course, we are seeing the impacts coming through on the latest stimulus bill, at least in terms of expectations for growth in GDP next year. Goldman Sachs updating their forecast there-- a 5% growth here in Q1 next year versus the 3% they had previously expected. For more on terms of what the market implications of some of those updated GDP forecasts here might be, I want to bring in our next market guest.

Andrew Smith is Delos Capital Advisors chief investment strategist. He joins us right now. Andrew, I mean, we've talked so much about-- you know, how the stock market does not necessarily reflect the underlying economy here. So updated GDP forecasts or one thing-- we've heard from a lot of market guests saying that, look, earnings are going to be the main focus. So how do you square maybe the updated expectations with next year now that we have stimulus passed? What does it look like to you?

ANDREW SMITH: Yeah, definitely. So first off, glad to be here, and happy new year to everybody, but really wrestling with this market has been a little bit of a challenge. When I last came on the show, we talked about the amount of liquidity that was injected into the financial markets via the Federal Reserve had suspended really any major drawdown or catalyst event. So even as COVID cases rose, or as hospitalization rates were rising, we really saw this range bound market. In fact, to be honest, over the last one-month period, the market's only up 1.1%.

Now we have to wrestle that and understand we have seen leading economic activity really pick up since the March lows. We've really seen this kind of wall of worry collapse amongst investors, and what happens with markets is that the easy returns, or those rebound returns, they've already been captured-- so we need new positive catalysts going forward that haven't necessarily baked into the market, which we've already talked about ad nauseam with the stimulus package that has just been passed of the $600 check, but now we need that earnings story to start coming into play.

So investors need to grapple with the fact that the S&P 500 or headline indexes might continue to be flat for the overall foreseeable future, but what goes on underneath the surface with those sectors that have had bad earnings stories for 2020 will start to recover in 2021, which will lead to those positive upside surprises.

AKIKO FUJITA: So Andrew, when you talk about those upside surprises, and largely the focus on earnings, are we talking about this being a Q1-Q2 story, or is this largely going to depend on the trajectory of the virus, which we've talked about, to your point, ad nauseam here saying, look, the vaccines are finally going to come to market, the economy is going to start to reopen in the second half of the year. Where do you see the catalyst forming?

ANDREW SMITH: Yes. So I think the catalysts are going to form a lot sooner than expected. We've already started to see earnings revision ratios, so basically earnings that have more upside than downside move up for those beaten-up sectors, and let's go ahead and define those. The beaten-up sectors have been our industrials, our materials, our energy, our financials, which-- that's the business cycle playbook. When we get this trough in economic activity to leading data, those cyclical sectors start outperforming, and we see that happening because the earnings story starts becoming less opaque, and really we get clarity.

And that's a Q1-Q2 story, and we think that will continue all the way into the end of 2021, but we have to note those sectors are the smallest weights within the S&P 500. So that's why investors that go by the SPY or investors that are more weighted towards those technology growth names really might not benefit from a better risk adjusted return while being exposed to those cyclical names.

ZACK GUZMAN: On the topic of maybe runaway enthusiasm, you also point out that you haven't seen levels in terms of the drop off in short interest here in quite some time, and also, we talked about risks and what investors are saying. Deutsche Bank's investor survey before, a couple of weeks ago, spotlighted the risk that a vaccine-- or not a vaccine, a strain of coronavirus that might not be picked up here was the number one investor risk, and now we're seeing that with the first confirmed case here of the UK variant in Colorado. I'd be curious to get your take on maybe how so many people had moved into the bullish camp here, that some of those fears might be overlooked, and what the impact of maybe that drop-off in short activity might mean to you for risks.

ANDREW SMITH: Yes, and that's the perfect question, right? We wrote a note to our clients that was titled, "The Pause That Refreshes," and it really had to do with what I had mentioned earlier. The wall of worry collapsed, and everyone-- you know, we look at the investment sentiment indicators, or survey indicators, and everyone was just uber and bullish, and when you have those, it really shows for returns being pretty flat. Now we have to also look at the actual positioning data. So if we look at the CFTC or the actual-- you know, contracts open for speculative on the SPY indexes and future contracts, they're still pretty under owned, so we're seeing kind of two different stories develop.

We see sentiment very bullish and uber, but to use a pretty crude term, no one's really putting their money where their mouth is in regards to actual positioning. Inflows have been pretty light into cyclical ETFs, and so we think the story still maintains. The problem is, is the variant of a new virus, the new wall of worry that could spike up, and with everyone so enthused, that creates a really ripe environment for modest pullbacks-- 5%, 7%, 10%-- but that also creates those environments to allocate capital into those economic-sensitive beneficiaries.

AKIKO FUJITA: Andrew, really quickly, we're coming off of a record year for IPOs. How do you think-- see things shaping up in 2021, and ultimately, the enthusiasm that we have seen, especially for some of these software names, the tech space overall, is that healthy?

ANDREW SMITH: Uh. Yes and no. So really, you know-- yes, it shows that there's ample liquidity within the financial system, and we've seen that in the IPO market this year. The IPO just-- record surges. But in the sector space, what happens is that those things are priced to perfection, if not overvalued, and so the risk-reward comes really into question now of, hey, am I really wanting to pay this premium when there's other opportunities in the market that has presented themselves? And I think investors really need to be aware that valuations have gotten a little loosey goosey, and don't make much sense on a go-forward basis given all the other opportunities that we're seeing, and other investors I think will begin to see in Q1 of 2021.

AKIKO FUJITA: Yeah, a good cautious note to end on there. Andrew Smith, chief investment strategist at Delos Capital Advisors. Great to talk to you today. Thanks so much for your time.