Portfolio Intelligence podcast: amid uncertainty, is stock rotation the way forward?

This podcast is being brought to you by John Hancock Investment Management Distributors, LLC, member FINRA, SIPC. The views and opinions expressed in this podcast are those of the speakers, are subject to change as market and other conditions warrant, and do not constitute investment advice or a recommendation regarding any specific product or security. There is no guarantee that any investment strategy discussed will be successful or achieve any particular level of results. Any economic or market performance information is historical and is not indicative of future results, and no forecasts are guaranteed. Investing involves risks, including the potential loss of principal.

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John P. Bryson:

Hello and welcome to the Portfolio Intelligence Podcast. I'm your host, John Bryson, head of investment consulting and education savings at John Hancock Investment Management. Today is May 13, 2024, and Emily Roland and Matt Miskin are co-chief investment strategists here at John Hancock Investment Management, have just released their mid-quarter Market Intelligence update. So I've invited them to the podcast to share their views. But first, Matt, Emily welcome to the podcast. Emily, how was your Mother's Day yesterday?

Emily R. Roland:

It was wonderful. You know, besides the three loads of laundry and dishes and cooking I did, I was spoiled rotten.

John P. Bryson:

Okay. All right. well, at least you finish that comment strong. You were spoiled rotten. We’ll hold on to that. That's good. All right. Nice! Matt, how did you treat your wonderful wife?

Matthew D. Miskin

Well, you know, we did the typical brunch, and got out and some of this nice spring weather. So, I think, I give myself a B+, but I’ll have to double check with her on how … if she would agree with me.

John P. Bryson:

Alright, fair enough. We'll have a separate podcast with her to talk about it to see if you get the same grade. Very good, very good. Yeah. I also think I did well, so I'll just leave it at that. We had a very nice day. Excellent. All right. Hey, listen, you just released, the Market Intelligence mid-quarter update. Matt, I'm going to start with you with your B+ Sunday. Let's see how we do on Monday. Where do we stand right now in the key question of, of inflation.

Matthew D. Miskin

Yeah. So, inflation is the number one variable the markets are focused on and it all comes back to the Federal Reserve. The Fed has been remarkably dovish this year and Powell just doesn't really want to raise rates anymore. He would, I think, prefer to be cutting rates sooner than later but inflation has been sticky in the last couple of months … we've gotten more like 4.1% annualized… not going to get to 2% anytime soon. So, you're in this kind of tricky backdrop where the Fed is saying they want to cut―they’re dovish―but the inflation data is coming in a bit hotter. What we've seen is somewhat of a rotation in the equity markets. So even though tech and communication-services stocks have reported great earnings up 30%–40% for the second … sorry, for the first quarter, they're not doing as great, frankly, as some on the value side of the market. Non-U.S. markets are doing a bit better in Q2. You're seeing mid-cap value do a bit better, in particular. And so, the macro backdrop with this, a bit more inflation is … is causing rotation in equities and we do have value, we have mid-caps as opportunities there. On the bond side, bonds are still not moving that much, frankly. You know we're at about 4.5% on the 10-year, a little bit lower than lower than that … and you're just getting this chop. So we think it's all gonna be about receiving income in the bond market, and just being patient but the inflation trends … we've got another CPI report coming out this week. We'll obviously be watching that closely.

John P. Bryson:

Yeah. That's going to be a big one this week. So, Emily, Matt started to kind of hit on a couple of things that I want to dig into. But I want to keep it a little bit high level with you. What's your view right now on the U.S. economy ..its strength? How the Fed's going to treat the rest of this year and get into fixed income and expectations going forward?

Emily R. Roland:

Yeah, sure. John. So, you know, the U.S. economy was really strong in the first quarter and a lot of that was because we had, you know, the Fed pivot which started about six months ago … with the Fed kind of just talking about the possibility of rate cuts, which loosened financial conditions and caused this kind of jump in the economic picture, jump in the wealth effect, and risk assets as well.

You know, the April data is not looking as great. Things like consumer confidence fell to a two-year low. Last week, we got University of Michigan consumer sentiment, which fell. We look at things like business survey data. PMIs … below 50 now in the United States, both on the manufacturing and services side. And then looking on the labor side of the mark, of the economy, we’re seeing some cracks.

The JOLTS report, for last month showed that, there were lower job openings than expected. The jobs report was well below estimates last month. Just last week, things like initial-jobless claims, jumped actually to 231,000. It might have potentially just been an anomaly over the course of the month but it happened and we've seen this kind of turn up in economic data starting to fade here a bit when we look at things like the U.S. Economic Surprise Index, which is, which is hooked lower.

And all of this is sort of suggesting to us that we may be exiting this little mini-cycle that was spurred on by, again, by that Fed pivot. And Matt talked about this, but what we're seeing is that risk assets are responding in this kind of bad-news-as-good-news fashion, to the weaker data, because it's sort of reviving hopes that the Fed can start cutting rates in 2024.

So we're seeing, you know, financial conditions easing again, risky assets surging, unprofitable companies outperforming, high-yield bond spreads below 3%. When we look again at the bond market and Matt touched on this, you know, we're seeing, about a tie between one or two cuts being priced in for the rest of 2024 and it's resulting in a lot of volatility in the bond market. We're seeing prospects for growth and inflation really shift all over the place … as Matt talked about that chop and the incoming economic data. And we've seen actually, the 10-year Treasury yields has dropped pretty significantly over the last couple of weeks to the tune of about 25 basis points. We got to a high of 470 basis points and we're just below 4.5% on the 10-year now.

And again, that's sort of reflecting that disappointing April data. If we're starting to see a slowdown materialize, we would really be looking at any back-up in bond yields opportunistically here. We see income at these levels as really attractive. The yield on the Aggregate Bond Index is over 5.3% and that is not far from the 20-year high of 5.9%.

In fact, the 20-year average is about three and a quarter. So we see the potential for a, you know, six-ish percent total return in high-quality bonds as one of the best risk-adjusted return opportunities long-term investors can have today.

John P. Bryson:

All right. So Matt, when we talk about the economy and how the markets are reacting in this good news versus bad news and how to play it forward, what are your expectations for U.S. equities right now?

Matthew D. Miskin:

So, the S&P 500 price-to-earnings ratio is now back over 20x on a forward basis and that's getting rich, frankly, it's getting expensive. A lot of this has been multiple expansion versus earnings improvement. But the earnings growth in Q1 wasn't bad. You know we're tracking about 5% earnings growth and relative to last year where we got no earnings growth … that’s not … that's pretty good. But a quarter from here, we get a higher bar from analysts on a bottom-up basis and they're looking for more like … high-single digit to double-digit earnings growth for Q2, Q3, Q4. And I think that's going to be tough, frankly. So, you're starting with a higher multiple and really lofty earnings estimates, which makes it more challenging.

What we are seeing is that, still, you go down in cap at all, and if even you just remove in essence the top 10 stocks, you’re looking at a much cheaper multiple and stocks that do prefer more inflation or better economic growth. you know, the top, more tech heavy stocks prefer disinflation and weaker growth. But you could see a rotation playing out within equities and in some of these, even the tech names that have reported good earnings, tech-related names, they actually … the stock didn't even move. In some cases, the stocks have actually kind of just hung in there whereas other parts of the market, if the earnings did come in pretty well, they responded.

So, within U.S. equities, you know, we've seen some decent results. We like the quality there. We just have to be careful in the valuations and we’re tilting a bit more down into mid-caps for opportunities today.

John P. Bryson:

Okay. So, it's not so much the adage of sell in May and go away, but maybe it's the keep an eye on valuations and allocate lower in the market cap to where you can find the values.

Matthew D. Miskin:

There you go.

John P. Bryson:

Okay. Very good. All right, Emily, let's talk overseas. European equities are having almost as good a year as U.S. equities. What's going on there?

Emily R. Roland:

Yeah. European stocks have been catching up to the U.S if you look at year-to-date performance. There have been a number of catalysts there. We've seen headlines that that Chinese policymakers are employing or are thinking about employing stimulus there. And those headlines have really helped move global equities. You've seen Europe, which has a lot of sensitivity to, to Chinese equities rallying on some of that news.

And we've also seen supportive economic data there. Sentiment indexes are popping. We've seen … we talked about the poor, or below 50 PMI readings here in the U.S., they’re actually above 50 and moving higher. in Europe, a lot of that's tourism demand. I feel like every person I know is talking about their trips to Europe that they have planned this summer.

I know we're going to Italy in October and so we're seeing a lot of, again, positive economic developments there. European stocks do tend to … they're more cyclical so they're more sensitive to the global economic cycle and they tend to do well in periods of relatively strong economic growth. And that's what we're seeing and Matt had been talking about the strength that we've been seeing in U.S. large cap, high-quality stocks here. You know, we may be seeing a rotation that's favoring more cyclical stocks … that's favoring European equities here. So, you know, again, some pretty supportive dynamics here that are, that are reflecting that. You know, the one thing that we are watching closely is from an earnings standpoint, we are seeing more attractive earnings revisions here in the United States than we're actually seeing overseas. So we still have a modest underweight to non-U.S., developed, and emerging-market equities, but we do have exposure there. In particular, we like international value stocks with, what you're seeing, some of the best earnings trends across global markets today.

John P. Bryson:

Okay. So that old adage of don't sell in May but go to Italy in October still hold. That's a great idea.

Emily R. Roland:

I highly recommend it.

John P. Bryson:

Very good. So, Matt, Emily mentioned China and kind of the ripple effect it can have around the world. What are your expectations for China going forward?

Matthew D. Miskin:

So, we’ve been hearing this, you know, dribs and drabs of stimulus and it's whether or not it's actually going to move the dial economically. It doesn't necessarily … it doesn't look like it, frankly. So, one of the things they're doing is removing restrictions for home purchases. So before, they had basically created this massive housing market in apartments and they have ghost cities there of unused apartments and houses.

And, at a point it was almost overheating, like there was just so much investmen in China around this real estate that they wanted to kind of make sure that people weren't buying a third or fourth house, you know, as an investment. So now they have so many of them, they don't know what to do with it.

So they're saying you can buy more and they don't care if there's more speculation in the housing market because they need and asset speculation to get it going. I don't know if that's going to move the dial, because I think that's kind of pushing on a string. If people don't want to buy a third or fourth house or an investment property in a ghost city, I don't think move removing the restriction is going to do much.

The other thing they're talking about is removing some taxes on dividends. If you wanted to buy shares in Hong Kong … Again, I don't know if that's enough to really change the economic trajectory but every single headline hits and there's program-based trading that will run with it. And you're seeing Chinese stocks … they're up over 20% and have, you know, basically just had a significant uptrend.

I think there's, you know, more trend-following investors that are looking at that as a tactical trade. but for us, it's difficult to have more of a structurally positive view because they're still dealing with the weight of the real-estate market. They're basically still in deflation. They just released, money flow data and loan growth data that actually contracted, meaning, again, pushing on a string.

You're trying to get people to get the economy going, but even if you lend them money, or you offer them money, they're not necessarily taking it. So it's something that, I mean, we have a piece in the portfolio and our views … we are underweight. We've been underweight for years but, you know, for us right now, we haven't changed our structural view on it yet.

John P. Bryson:

All right, that's helpful. your comment of an investment property and a ghost city. I think that's like a great Netflix series. You could get something going there.

Matthew D. Miskin:

There you go. Exactly.

John P. Bryson:

Hey, listen. You both covered a lot. and, Matt, I know you got a new blog out. but, Emily, any final thoughts from the mid quarter update that you'd want to highlight?

Emily R. Roland:

Sure. So, make sure you check it out. It's now available on our website and we always update the data after the first month of the quarter. Nothing's changed in terms of our views. We continue to look at opportunities across equities, quality at a reasonable price is our mantra right now as it relates to the view.

So really thinking about continuing to emphasize companies that have great balance sheets, but also, you know, lots of cash, low interest burdens, but also, think about not overpaying for those. So be mindful of valuations. Look to areas like U.S mid-cap stocks which are benefiting from onshoring themes, which are benefiting from the fiscal spending that's going on―right or wrong―in the United States right now ... through things like the Infrastructure and Jobs Act and the Chips Act, that are supporting industrial production in the United States today. Mid-caps are the best place, in our view, to play that trend. International, we covered as well, you know, emphasizing value there where stocks are cheaper than their long-term history, they're showing better earnings.

And then just letting bonds play a bigger role in portfolios. You know, as we move through the back half of the year, the income that's available in high-quality bonds is historically very attractive right now so we're looking to areas like MBS, investment-grade corporates, municipal bonds, as places where there's been a ton of value that's been unlocked and a lot of income that's now available to investors.

John P. Bryson:

Very helpful. Folks, the markets never sleep, nor do Matt and Emily. They're always keeping an eye on and keeping us up to date of what's going on. So make sure you're following Market Intelligence on our website. We'd also love it if you follow our Portfolio Intelligence podcast. You can find it on iTunes or our website, jhinvestments.com. And you can check out a number of market-trending and business-building ideas there. As always, thanks for listening to the show.

Important disclosure:

This podcast is being brought to you by John Hancock Investment Management Distributors, LLC, member FINRA, SIPC. The views and opinions expressed in this podcast are those of the speaker, are subject to change as market and other conditions warrant, and do not constitute investment advice or a recommendation regarding any specific product or security. There is no guarantee that any investment strategy discussed will be successful or achieve any particular level of results. Any economic or market performance information is historical and is not indicative of future results, and no forecasts are guaranteed. Investing involves risks, including the potential loss of principal.