April 16, 2024 - The Secular Trend for Risk Assets Remains Bullish

In today's video Observations and Expectations, Virtus Senior Managing Director and Chief Market Strategist, Joe Terranova, puts current market volatility in perspective, noting that we are experiencing a much needed and normal correction and that the secular trend for risk assets remains bullish. He reminds listeners that time is the enemy and that patience is the key to being rewarded over the long term.

Transcript

Intro: In today's video Observations and Expectations, Virtus Senior Managing Director and Chief Market Strategist, Joe Terranova, puts current market volatility into perspective by noting that we are experiencing a much needed and normal correction and citing that the secular trend for risk assets remains bullish. He reminds listeners that time is the enemy, and that patience is the key to being rewarded over the long term.

Joe Terranova: The second quarter for the capital markets has begun with a little consternation for risk assets. Certainly the challenges surrounding rising yields, inflation friction, and Mid-East tension is weighing on prices and it's all reflected in what has been a much needed price decline. Let's observe that price decline and place into context where we are after a very powerful rally from the fall of 2023.

First, let's look at the S&P 500, [it’s] broken below it's 50-day moving average. It's 3.9% off of its all time high. The NASDAQ, very similar type of price action, below the 50 day moving average, 4% off of its all time high. It's really the Russell 2000, that small cap index that's struggling well below, well below its high from 2021 at 19.6%. And let's understand the conditions why the Russell is challenged right now. A large component of that index can be characterized as not profitable in an environment where investors are questioning the length in which the Federal Reserve will remain on hold. Therefore, meaning that rates will remain higher for longer. That most challenges the Russell 2000. I think the critical thing to watch for investors is ultimately, when does the Russell 2000 come out of its current earnings recession? Let's keep in mind [that in] 2023, in fact, that is absolutely what the S&P and the NASDAQ did.

I want to be clear on something. There are still very strong favorable conditions in place to support what is a bull market. A bull market that began with a bottoming of the 2022 decline in the fall of 2022. We've carried it through 2023. And, what has been a significant catalyst for that has been the factors of the Federal Reserve no longer being adversarial, earnings and profit margin expansion, disinflationary trends, despite some of the friction that we're seeing recently. And let's keep in mind some of that friction is attributable to fiscal spending. That fiscal spending is not going to be going way for the balance of 2023.

So, I want everyone to understand that the secular trend for risk assets is a bullish one. Until we see the Federal Reserve is no longer adversarial, and there's no evidence to suggest that they are moving away from looking for a reason, looking for a reason to change monetary policy to become more accommodative. Let's remember, just last week when the inflation reading came out, that very evening the business media quietly dropped into the news the conversation regarding the Federal Reserve potentially pausing or paring back quantitative tightening. The reduction of securities off of the Federal Reserve's balance sheet. Here's a chart that shows where we are. We've made significant progress from the highs we witnessed in the second quarter of 2022. The Federal Reserve is looking, they're looking for a reason to become more accommodative in their monetary policy.

Also, keep in mind, not very many people are discussing this. We're coming up on the quarterly refunding announcement from the Treasury. We’ll get that in early April. Let's remember in both February and in November, the quarterly refunding announcement was a very positive catalyst in terms of placing a ceiling on Treasury yields that were rising at that point.

Earnings are so critical and here we are coming up on a very important earning season. The week of April 22nd, a third of the S&P 500 will be reporting earnings. 166 companies, in fact, five of the magnificent seven: Microsoft, Alphabet, Amazon, Tesla, and Meta. Apple reports on May 2^nd. NVIDIA reports on May 22^nd.

Collectively, we want to look towards industries right now that have pricing power. I'm going to identify five industries that you should keep on your watch list. They have the pricing power. It all begins with semiconductors, semiconductor equipment. We then move to software and software services, insurance companies, [has] remarkably strong pricing power right now, as does private equity and let's not forget about commodities. I know that there's the fear amongst investors about the typical boom-bust cycle for commodities. But I truly believe having exposure, secular long-term exposure, single-digit percentage exposure, towards the pure commodity itself is incredibly important for asset allocation, as we move forward. We've disincentivized production over the last several years for critical commodities. Now we're in an environment where demand is beginning to rise and we have a very tight supply environment.

I think for investors right now, understanding where we are in the marketplace, this is a much needed and a normal correction. And the frustration that I have sometimes with the thought leadership that I see in writing, or on business media, is it seems to be the disposition or bias towards the market is the light switch. It's either risk on, risk off. You're either bullish or you're bearish. Ultimately, right now, as markets digest the tensions in the Middle East, the rise in yields, and the inflationary friction from fiscal spending, the right position ultimately is patience. And understand, more than anything else, it's not price that’s the enemy, it's time that's the enemy.

So over the next several weeks, while we understand where the earnings environment is, it's important to understand that. Understand the prevailing trend is still a strong one and time is the enemy. And patience is going to be your defense mechanism against a broader market correction.

Recorded April 16, 2024.
Edited from the original.