July 2022: Conversation with the Aptus Investment Team

by | Aug 1, 2022 | Appearances, Media

 

Our PMs spend most of their time on research and portfolio reviews, but I’ve made it a habit to grab 30 minutes to ask what they’ve been seeing. Together with what we’re hearing in conversations with advisors, it’s a great opportunity to tackle the most common things on advisors’ minds. Joining me:

  • JD Gardner, CFA, CMT         Founder/CIO
  • Beckham Wyrick, CFA         Equity Analyst/PM
  • John Luke Tyner, CFA          Fixed Income Analyst/PM
  • David Wagner III, CFA          Equity Analyst/PM

Key topics covered:

  • The Fed
  • Bond Market Reaction
  • Valuation Compression
  • Earnings Outlook
  • Risk Mitigation
  • Volatility Environment
  • 2nd Half Risks/Opportunities

Always fun for me, but ultimately for the benefit of the thoughtful advisors who keep us busy supporting their efforts. Full transcript below, beware transcribing errors and verbal slips!

Derek:

Good morning, Derek from Aptus here, I’ve got a crew of CFAs from the investment committee, and we just thought with everything that went on this week, it’d be a good time to get together. Have a little round table, just talk shop. Everybody was pointing towards the last week of July, between earnings and GDP number and the Fed obviously. And it seems like so far, the market’s given them a passing grade. I’ve got JD here, who’s the founder and chief investment officer. Beckham, who’s portfolio manager and asset allocation specialist. John Luke, who’s our fixed income guru and Dave who does all things macro and earnings and fundamentals. So we’ll try to cover a lot in a short period of time. I do have to read the disclosure.
Derek:
The opinions expressed during this call are those of the Aptus Capital Advisors Investment Committee and are subject to change without notice this material is not financial advice or an offer to sell any product. Forward looking statements are not guaranteed. Aptus reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs. More information about Aptus’s investment advisory services can be found than its form ADV part two, which is available upon request. So obviously a lot happened. I think maybe we just roll into the fed, anyone want to talk about what the Fed said and did this week?
John Luke:
Yeah. Perfect. Thanks. Thanks Derek. Yeah. Fed hikes 75 basis points, which was generally what was expected. We sort of teetered back and forth between 75 and a hundred following the really high CPI number that came earlier in the month of July. That was for the month of June, but ended up being 75 basis points. And I think that the general consensus was Pals still thinks that we have a ways to go, obviously inflation. We got the cycle high inflation number for June. So inflation still hasn’t technically peaked and it’s a problem. And so the higher hikes that we’ve seen of 50 and 75 basis points probably won’t continue forever into the future and neither will Hikes. But I think for the near future, we expect the Fed to continue to keep the pedal to the metal with hikes.
John Luke:
And I think generally from Pal’s commentary, nothing was any what dovish or any what of a pivot as far as my considerations. I think some of the notable pieces was the drop of the forward guidance. So the Chairman Powell’s not going to basically tee up. Pre-meeting what the Hike is going to be. He’s going to let it be more data dependent. But if you remember back to June, we were a 50 basis point hike. And then the data came that was much stronger and led to a 75 basis point hike. Anyway. So the Fed has sort of already pivoted away from the forward guidance, if you think about it and in that respect.
John Luke:
But I think that until inflation comes meaningfully down and now we’re sort of seeing the effects of a lot of the sticky input that maybe were too low last year in keeping the data lower than it should have been, or now keeping it elevated, like shelter, namely being shelter. And so from here, I think that we probably get another 50 or 75 basis point hike in September. And really the expectation is for a hundred basis points more of hikes by the end of the year. So unless that inflation dynamic changes drastically, I think that it’s probably pretty likely that we continue to see hikes for the near future.
Beckham:
What I keyed on out of that, they released his 75 bits and like you mentioned, that was pretty much expected. So not a huge upward market reaction there, but during his comments that’s when the market really took off and closed much higher into the close. And as you mentioned, I think just him mentioning that rate hikes will slow. That was construed as dovish. And then also just the thought that they were going to pull that guidance. I think the market took both of those things as more dovish and really like, I mean, logically they can’t hike 75 bits into perpetuity.
Beckham:
So I think that is logical that they’re going to have to slow that at some point. And like you said, I think a little bit, their credibility is on the line as far as how they’re going to guide. They guided 50 in May ended up doing 75 and then teeter between 175 this month. So I think again, that was potentially more of protecting their credibility rather than putting target out there and missing it. So you’ll get a lot of the actual Fed board members start to come out and speak this week after the blackout period’s over. So I think that’ll be interesting to see if they try to walk that back a little bit as far as what the market took from those comments.
John Luke:
Yeah. Great point.
Dave:
I think the only point that I’ll make is that I don’t think any of this information that has come out of Pal being more dovish. I didn’t perceive it that way at all. Obviously rate hikes are going to start to decrease here moving forward. That’s not new news to the market. So I’m actually pretty surprised for how dovish the market took that press conference.
JD:
He also, to Beck’s point, and I’m reading a specific quote. “We think it’s time to just go meeting by meeting basis and not provide the kind of clear guidance that we’ve provided on the way to neutral.” So he gave them a lot of wiggle room to mess up there. Definitely.
Derek:
Yeah. I mean, it seems like most of the consensus was nothing really surprising out of the meeting, but maybe just positioning coming in was a little bit too negative and people had to readjust in a hurry. And maybe that as Beck says, maybe they’ll walk some of that back or just try to keep things in check. But yeah, it was, it was a pretty wild week and obviously earnings have been coming in fast and furious all week. We had the Microsoft alphabet earlier in the week, and then last night was a couple of big reports. Dave, you obviously watch earnings pretty closely. What are you seeing across sectors? And just as a whole.
Dave:
I think kind of the exact paradigm that you talked about regarding the Fed that maybe we’re a little bit too negative heading into the Fed report. I think you could say the same thing about earnings right now. I think maybe we are a little bit too pessimistic on earnings heading into this because so far as of this, I think we’ve had about 63% of the S&P 500 constituents report earnings. Right now, 66% of those that have reported have beaten on earnings and about 60% have beaten on sales, 47 on both. So that was actually very surprising to me how the market’s reacting to these names, because that obviously shows positioning. If you beat on your earnings the next day, your stock was up about 60 basis points on average. That’s a little bit lower than the average, historically speaking of about 1.5%, but on the other end is something that is actually sticking out to me a little bit more.
Dave:
If you did not beat on earnings, your stock was down 2.1%. The average when you tend to miss is down 2.4%. So I thought there’d be a little bit more asymmetry to the downside if you were to miss. I thought the market would punish you a lot more, but obviously now that we’ve seen a lot of the big boys come on out I don’t think that this earning season is as bad as what people originally imagined. And that’s why you’re continuing to see a bunch of follow through from the S&P 500. Now being up almost close to 4% on the week.
John Luke:
And Dave, like any stocks that have gone down on bad reports have gotten quickly bought up. You think about Walmart or Sherwin Williams, some of those names where you get crushed and then you look back up and the stocks back to where it was before their earnings print.
Dave:
Yeah. I’m really looking forward more towards just next week when we really start to get that follow through after this week. So now I’m right there with you, John Luke.
John Luke:
Yep.
Derek:
The other piece of big information everybody was waiting on that’s kind of tracked all along now with when we have all these Atlanta now and the other tracking surveys, but you did have a second consecutive quarter of negative GDP, which is something investors at home are probably going to be reading about this weekend. The ones that don’t tune in every day. Does anyone care? Is that a meaningful thing? Between Fed and earnings it seems like most of that stuff is covered. But I’m curious your take on that.
Dave:
Yeah. I think that measurement, because obviously that’s what they say. The nomenclature is two consecutive periods, two consecutive quarters. Pardon me. Interim of negative GDP is considered a recession. I think that’s just very psychological in theory.I think people have to understand that GDP it’s a backward looking measurement. And more importantly, it’s just the measurement on the output from the United States, not the input. So if you really look underneath the hood from a GDP standpoint, well what really stands out to me? Well, we know that back in the end of 2021, there’s a lot of inventory built. There’s actually an overbuilt. So when you go into quarter one and quarter two of this year, you’re not having that output, which is what the GDP measures for inventory. But more important we’ve had such a strong dollar. United States companies are taking advantage of that.
Dave:
So they’re importing more. And as I mentioned, GDP is a measure of output, not input. So the input’s actually detract from the GDP. So I think if you look at the GDP results underneath the hood, there’s somewhat misleading because we know right now that the labor situation, well it’s about as strong as it’s ever been with unemployment at 3.6, the jolts number still substantially at record high. So I think that just focusing just on this one measure of just two negative print in row, without understanding the underlying components can be very misleading. And I’m not going to say incorrect because we don’t know what Q3 and Q4 going to hold, but I’m just saying that it leaves a lot of room up for debate right now.
John Luke:
And just last comment on that nominal growth is still very strong, right? It’s hard to beat the comps that we’ve had from an inflationary perspective, right? But nominal growth is still very strong. And the jobs market is very strong, 3.6% unemployment rate. We’ve never seen a recession historically with numbers like this.
Beckham:
And if you think about how that impacts what the Fed may do going forward in light of kind of the inflation environment maybe we’re at peak inflation, maybe not, maybe we’re at peak inflation. But like JL said before, a lot of that is sticky. So we’re not really expecting going right back down the side of the hill, right back down to 2%. So in light of the negative GDP number, but the strong employment market, we feel like that still does give the Fed plenty of cover to kind of remain hawk if inflation does stay high.
Dave:
I think that just shows the importance of how the next labor meeting, the nonfarm payrolls meeting coming here in the next week or two, and then the following one because we know that the Fed’s data driven. I think that those reports, which I think people put on the back burner the last few months are definitely going to be on the forefront because obviously that’s the other aspect of their dual mandate.
Derek:
The other piece of that I think makes a ton of sense and probably doesn’t always get discussed at home. But you had mentioned those are backward looking numbers, the market discounts 2, 3, 4 quarters ahead of time. So we’re now in late January, you’re talking about markets are probably anticipating and trying to price in what’s going to happen in January, February, March. Not what happened in June. So any thoughts from anyone on things that maybe could be considered at the portfolio level or big events over the back half of the year that may dictate a lot of what happens.
JD:
I think what we are doing at the portfolio level is I mean, we’re hopeful economic activity’s strong, earnings have been better than probably expected, the reaction to the Fed markets have obviously I think they’re down as I’m talking roughly 15-ish percent now, somewhere in there. Maybe a little bit better than that, but so there’s been some positive market action and you really have seen a VIX, I’m looking at my screen right now and VIX is back to let’s see, 20, 21. So you have a 21 handle on the VIX. So you’ve seen VIX really vols be sucked out of the market. And so what we would kind of think this market calls for is, I still don’t think you can. A lot of people have thrown in the towels on hedges this year. I think tons of people came into this year hedged for obvious reasons.
JD:
And none of that stuff has really worked. We’ve probably spoken about if you’re listening to this call, we’ve definitely spoken about how vol has just not paid off hedges have just not monetized like you would’ve expected them to. And I think there’s some participants thrown in the towel on that. We would not advocate that we’re advocating, “Hey, remain hedged, but still position.” There’s certain things you can do to kind of counteract the size of your hedge that you put on to make sure that you’re ready for upside participation. So that’s kind of our theme here at Aptus is don’t throw in the towel quite yet on hedges, just because there’s still a lot of uncertainty with QT and hikes and inflation and all that stuff that could obviously impact risk assets.
Dave:
A midterm election, too.
JD:
Yeah. That’s-
Dave:
Forget about that?
JD:
That’s another thing. And I would stress the perfect world for us, markets keep rising. Life’s a lot easier for everybody when markets are rising, but we don’t think that. We’re not saying, we’re uber bullish right now. That’s not the tone here, but we’re not uber bearish either. We just think that given all of the backdrop, that it is not time to throw in the towel on protection and get extremely risky.
Beckham:
I think to add to that and maybe just to kind of talk our book a little bit, as far as when you talk about the narrative kind of shifting from hey, we have these inflation fears to now, the recession word is popping up a lot. And as you mentioned, technically, we could be in one now, but I think we do a good job at both our internally managed strategy level.
Beckham:
And then also the other strategies that we’re using in our portfolios is focusing on quality companies. Companies that can grow their cash flows, can grow their sales, have pricing power, have strong balance sheets. The things that are going to be able to carry them through a potential period of weakening economic growth. Small cap exposure is somewhere where we’ve leaned, where we think there’s potential value add right now, with from a valuation perspective, from a really global exposure perspective. They do a lot of their business domestically, which internationally, there’s more weakness than here in our opinion with the strong dollar with kind of the situation with Russia and how that’s flowing through to energy prices. So exposure on small caps, less exposure on international is kind of where we’re focusing now, but really a focus on managing volatility for our benefit as JD mentioned, and then also focusing on quality through this period.
Derek:
Awesome. Well, I think you guys obviously covered a lot of what’s happened. There’s still more to come, I guess, to today’s point a lot of earnings coming next week. Jobs report and ongoing Fed chatter. So, it’s kind of fun to have these talks with you guys because you stay fluid. You’re in the loop on all this stuff, but don’t really pin yourselves into a corner to say hey, we have to be positioned this way or the other. Which I think to JD’s point makes a lot of sense to just be fluid, have the hedges on, but be ready to participate. So I don’t know if anyone else has anything to add, but I think that was a good discussion on what’s going on here.
JD:
Thanks for quarterbacking, D-Hern.
Derek:
Nice work.
John Luke:
Thanks Derek.
Derek:
Yeah.
Beckham:
Thanks Derek.
Derek:
Enjoy the rest of your week and we’ll talk again

 

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