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It's time to play defense as the bull market turns two: Strategist

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Yahoo Finance's Jared Blikre is joined by Callie Cox, Senior Investment Strategist with Ally Invest on today's Getting Technical: Time for Defense

Video Transcript

ZACK GUZMAN: Welcome back to Yahoo Finance Live. Right now, we do have all three major indices in the green, with the S&P 500 teetering here on all-time highs. We got that index up by about a quarter of 1%. The Dow jumping ahead, though, now up by 100 points.

A little bit of a mix when you look at the sectors on the S&P 500, but of course, it's an interesting time here as we move along in 2021, as we move past what some strategists had as their year end price targets, depending on who you ask. And for more on how we should be navigating the next few quarters, I want to bring on Jared Blikre, who has a special guest here standing by. Jared.

JARED BLIKRE: That's right. I have Callie Cox from Ally Invest. She's a senior investment strategist there. So Callie, I got your slide deck. And I know you're talking about what happens in year two of a bull market. And I'm going to pull up this chart here. I just want to know, what happens? Should we be worried?

CALLIE COX: Yeah--

JARED BLIKRE: Or should we be bull?

CALLIE COX: --that's a loaded question, Jared. And I'll start off by saying that year one was incredible. I mean, the S&P rallied nearly 80% and clocked its best 12-month return in history. And we dealt with a low expectations, high growth kind of market. I mean, a year ago, we were all scared what the future could hold for us. And we weren't sure where the economy was going because the COVID pandemic had just started. And it turns out, you know, the economy blew its estimates out of the water.

So here we are, sitting at the beginning of year two, wondering where we're going to go. You know, we think investors should lower their expectations a little bit. It's hard to say-- well, it's definitely hard to say that we're going to see 80% gains in the second year. But we think that it's even hard to say that the market is going to rally with the momentum it's had recently for a few different reasons.

JARED BLIKRE: Mm-hmm. And go ahead, I know you're looking at earnings. Expectations are extremely high. GDP growth is knocking it out of the park here. Is this a little bit of too much FOMO?

CALLIE COX: Yeah, so we think so. So like I said, low growth, high expectations up until now. But we believe the market's shifting into a high growth, high expectations period, which, honestly, we haven't seen that in years-- I mean, probably decades. You know, expectations are super high. And we think growth is going to boom. And, you know, earnings as well, earnings are expected to increase about 15% to 16% in the first quarter.

But, you know, if you look at the earnings season, the earnings seasons we've seen over the past three quarters, real earnings growth has beaten estimates by 10 percentage points because estimates were that low. And going into Q1, estimates are high again. So, you know, we think investors could get a little confused as they see-- or real earnings growth come in that's not quite as high compared to estimates as it's been. So it's really like a mind shift that we're dealing with.

And if you think about it, too, bull markets, if you look at history in the bull market playbook, a year or two is typically a slower year as well. All bull markets have gained a year or two, so I'll preface it with that. But--

JARED BLIKRE: Yeah, and you've got some stats here. I want to bring up these stats because this is important. We have these incredible year one returns. What happens historically in year two?

CALLIE COX: Yeah, so a year two, every bull market since 1950 has gained in year two. And no bull market has ended a year two. So that's good news. But if you notice in this table, gains do slow down. So it's typical for the bull market to lose a little bit of steam going into year two. And that's going back to the low expectations, high growth kind of thing. Expectations start rising and makes it harder for the market to kind of beat everybody's expectations. And that leaves a greater chance for disappointment. And to be clear, again, we're not calling for doom and gloom. We just think the market is due for a breather up in the next quarter or two.

JARED BLIKRE: So what are the headwinds that you're looking at? People are talking about inflation, you know, Fed potentially tapering. Not on the radar right now, but the markets look ahead six months. So what are the potential headwinds that we could be facing?

CALLIE COX: Yeah, definitely. Well, I think you hit it on the head, Jared. You know, people are worrying about a lot of things. You know, people are worrying about an inflation scare. They're worrying about the Fed possibly having to raise rates if we see high growth. They're worrying about a corporate tax hike, which we all think are things that are coming on the horizon, maybe not in the next 12 months. But it doesn't mean investors can't worry about them. And that worry could manifest itself in where the market goes.

So we think these risks are low. We think inflation might climb higher as growth increases. But we don't think inflation is really going to blow it out of the water or force the Fed's hand in raising rates. But again, you know, investors are trying to anticipate that. And we'll probably-- you know, you'll probably see that reflected in the market with this tug of war between bulls and bears.

JARED BLIKRE: All right, so where should investors be parking their money? [INAUDIBLE] defensive sectors tick up a little bit over the last few weeks. We even have tech coming back this week. Who knows if it's going to be there next week? If you're a little bit defensive, where do you go right now?

CALLIE COX: Yeah, well, that's a great question, Jared. And, you know, if the market does stay where it is right now or if it does lose some steam, it is a great time to look for opportunity. And we think that there are opportunities below the surface level of the market. If you want to get defensive, we really like consumer staples and healthcare. We've seen less of the recovery gains go to those sectors.

And those are the types of sectors that can do well when the market kind of stagnates or if it sells off. Those are defensive. So investors typically rush to those areas. I mean, I feel like based on what we've seen, you can't really rule out tech ever. We're feeling a little less optimistic about tech, just because it's gained so much. And in a high growth environment, growth stocks like tech stocks typically don't do as well. But then, again, the market has surprised us a lot over the past year or so. You know, I make these predictions, but I have no idea what's going to happen. And we are optimistic on tech longer term.

JARED BLIKRE: And that's kind of the nature of predictions, isn't it? Callie, thank you for joining us. Callie Cox of Ally Invest. Sending it back to you, Akiko.

AKIKO FUJITA: Thanks so much for that, Jared.