Where in the World to Put Your Dry Powder (with Sam Burns)

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1:24And now to the top analysis of today's markets.

1:41Where in the world should you invest? Hi, everyone. Welcome to the Real Vision Daily Briefing. With me today is Sam Burns, Chief Strategist at Mill Street Research. Hi, Sam. How are you? Hi, Maggie. How are you doing? I'm doing okay. For a Monday, right? We have to put that caveat in there. But Sam, we were talking about how there's so much going on, but I wanted you to just give us a little overview of your approach before we dive in and talk about all of the central bank meetings and earnings that are on tap this week. So how do you sort of view the markets at Mill Street? Yeah, I think the main way that I kind of look at it is a combination of top-down and bottom-up.

2:18So I'm looking, of course, at the economic data, the interest rates, the policy changes, all those kind of macro views to come up with a top-down view, and then also trying to see what's going on at the company level, what are analysts doing with their earnings estimates primarily as a measure of kind of fundamental momentum, where are things really changing from the ground up, and then aggregating that to industries or sectors or countries or regions to see if it corroborates what I'm seeing in some of the macro data. And those two things together can really provide a more clear picture of what's going on globally.

2:50And I found it very useful for asset allocation as well as for stock selection. Yeah, it's interesting and useful now because we are, as I mentioned, in the thick of earnings season. And as we look across the markets, I mean, US equities have just closed and we have another rally. Dow is up for the 11th day in a row. And it seems like a lot of people have been caught out by the strength of equities, certainly this year, sort of through the spring and summer, and even some of the earnings, although that's getting a little bit, it seems like a little bit more mixed now and something we have to pay attention to.

3:21So excited to sort of tie it all together. So if we look across the board, I'm interested, I'm going to swap it up a little bit and maybe start with Europe. But I don't know, when you're looking across, since you do have a global view, what's your favorite region right now? Yeah, so I've been actually overweight Europe for quite some time. And part of that was driven by the fact that earnings estimates started to pick up there a number of months ago. And that told me that things were not going to be as bad potentially in Europe as everyone anticipated. As you may remember, last year, people were assuming that the European economy was going to go under a severe recession, that they were all going to freeze to death in the winter because of the Russians cutting off the gas, and all these really dire kind of things were anticipated.

4:07And I think once people realized that that was not going to happen, that the worst case was not going to happen, then people had to start adjusting sort of more positively and seeing earnings estimates go up. And finally, some of the economic sentiment started to turn, and the stocks started to rally, and Europe led earlier this year. So we're starting to see that develop globally. We've seen that in the US this year as well. A lot of people came into the year very negative, both analysts and investors. And we're starting to see them having to kind of price out some of that very severe negativity we saw coming in from the end of last year.

4:39Yeah, certainly. So where are we now? Do you feel the same way? Because we have the ECB meeting. Of course, we know that Europe seems to be struggling with inflation. But we saw some very weak PMI readings today. I think someone pointed to especially Germany. So how are you feeling both about the European economy and also about some of those valuations now? Yeah, no, I think there's a good chunk of the kind of revaluation has happened, meaning the bad news has been priced out again. I think there may be a little bit further to go. But I think you're right that people are getting a little more mixed now on both the earnings outlook and the macro outlook.

5:17And I think that's going to cause policymakers to probably hesitate to raise rates a whole lot further. I think the Fed and the ECB are both expected to raise rates another quarter point this week. My guess is that there won't be a whole lot more beyond that. Europe has more of an inflation problem than we here in the US do because of their energy costs, as well as the sort of limitations of a federation of countries as opposed to a single country. But I think they're going to be seeing slower inflation as we go into next year, just like we will. So I think the inflation concern is what's helping things look better, and will remove some of that policy pressure as we go further into the year.

5:54And so that's kind of the upside. The downside would be is if growth slows too much, and it does look more recessionary, which I don't see in the US. It's certainly a possibility in Europe, but I don't see it right now. So it's interesting. You don't see recession in Europe because it looks like from the face of it, they've got the worst of it, right? They've got inflation that's still problematic, although maybe heading in the right direction. And we're going to approach winter again, which we know brings a lot of concerns. We see what's happening with wheat. So food prices are likely to, with the port issues as the war continues, and really weak readings.

6:32Now, OK, maybe we see a little bit of improvement, but it's hard to find the silver lining there in Europe. Yeah, no, that's right. They're really struggling more with some of those supply constraints, whether it's energy or food and things like that, as well as now the slowing of demand thanks to tighter monetary policy and the fact that they never really had the same kind of fiscal stimulus that we had in the US. I think that's what you're seeing now is the difference. The US's economy is holding up a lot better in relative terms than Europe is, in part because we can produce our own energy, but also because we've had a lot more supportive fiscal stimulus over here than they have.

7:12I think that's part of what we're seeing now. And so some of the lagged effects of the stimulus they did do are starting to wear off. I think that's what we're seeing now, in addition to the effects of the war in Ukraine. So is it time to sell Europe if you were able to ride the fact that the apocalypse didn't happen and that maybe people were too bearish? Is it time to get out? Are you overweight, underweight, neutral on Europe? How are you feeling at this juncture given the challenges? You're right. And I have trimmed back my overweight. I've been overweight in Europe for a long time. I started to trim it back a little bit because we have seen some of the earnings estimate trends, as well as some of the macro data, slow down and no longer really surprising to the upside the way they were earlier.

7:58So if you have a heavy overweight, I would trim it back some. But Europe is still pretty cheap. There's still a decent amount of negativity priced in there relative to what you can get, say, in the US, North America, or elsewhere. So I don't think people are excessively optimistic about Europe on a valuation basis. And so I think it's still OK to own. But I think if you have been heavily overweight in Europe, you might want to trim back a little bit at this point, yeah, given the gains this year and the fact that things are slowing down a bit. Yeah. And so completely opposite situation over here in the US, potentially, because you have the NASDAQ that's just been on fire.

8:37Not all parts of the market, but there definitely are people who've been sitting out thinking that this US equity, the US equity market has looked happy and it just hasn't turned. So how are you feeling about the situation here in the US? Yeah, I think the US has definitely been a better than expected story. And I think now that there's a certain amount of momentum built up in certainly in the equity market, I think you're going to get investors trying to pile into that as well. But there's definitely been a fundamental support for it. The big tech companies and technology in general, as well as kind of growth and cyclical sectors more broadly, have actually had better earnings estimate trends than the rest of the market and than a lot of other parts of the world.

9:21So there's been a fundamental reason for the improvement. It's not just strictly multiple expansion and kind of animal spirits. There has been a fundamental driver of that. And part of it has been the technology side, AI and that kind of thing. But part of it has been industrials and some consumer stocks and other areas that have really surprised to the upside. People are going out and spending money. The employment market is still pretty solid in the US. And so I think that's been an ongoing surprise that we've had inflation slowing down at the same time that spending is holding up. And again, I think fiscal policy gets a lot of credit for that, that people have kind of overlooked here in the US, because we really haven't had this combination of fiscal and monetary policy in many, many years.

10:05And you're not getting that in a lot of other parts of the world, which is why the US is standing out globally, as well as within the US, the fact that we have a lot of the big tech names that are driving things globally is helping us as well. So when the earnings have been good, how are you feeling about sentiment now, especially because if you model on revisions and how people are, you know, forecasting out and looking out, what is sentiment now? Because it sounds like it was overly bearish. And so people miss the rally. Are they overly bullish now? Are they, are they raising their expectations?

10:44Are they sort of pricing in this, uh, Nirvana? I think, uh, I don't know if it's Ed Yardini or somebody has been calling it that soft landing, Goldilocks, you name it. Are they starting to price that in and bake that into their estimates now, or are they still cautious? Yeah, definitely the bar is higher this quarter for second quarter earnings and certainly for the rest of the year than it was coming into the first quarter earnings that we got starting in April. That's when we really saw the big shift in analyst behavior. They came in pretty negative. We started to get a little more positive on some of the large caps earlier in the year, and then really got a lot more positive in April and May.

11:23particularly after it looked like the banking issues were among the regional banks, the worst of that had passed. So I think now we've gotten to the point where the banking system is OK, earnings are OK, and there's still a decent amount of that stimulus left in the system. And that's what people are starting to price in now. But definitely the bar is higher now. You're probably not going to get the same kind of upside surprises that we got from last quarter. And it'll probably be a little more back to the choppy grind higher for the rest of the year than it was kind of the last few months where it was more of this kind of, you know, big straight shot up where it took everybody by surprise.

11:59I think there's still people waiting to get in. I don't think everybody's kind of piled in just yet. I think there's probably some room for the market to broaden other sectors besides large cap tech to participate. But I don't think there's going to be the same magnitude of the move that we saw in the first half of the year. Hey, everyone, we're going to take a quick break right now to hear a word from our partners. We'll be right back with more of the day's top analysis on the Real Vision Daily Briefing. Have you ever wanted to trade Bitcoin but haven't dared try? With Plus 500 Futures, you can trade crypto without the hassle of opening a wallet.

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13:25I mean, can the market, if other sectors take over in terms of leadership, where do you see that happening? And is it sort of robust enough to be able to carry the market? Or are we looking at sort of sideways action? Yeah, and I think as you start to get some rotation, you'll see some of the industrial areas that have had very strong revisions, some of the consumer areas that still have stronger visions, anything tied to going out, travel, entertainment, all that stuff is still pretty strong. Home building, of course, has held up a lot better than most people expected. Yeah. So there's definitely areas that people thought were going to get hurt that haven't and that are holding up fairly well.

14:04And even some parts of the real estate, REITs and things like that, that had just gotten killed for months and months and months, are now starting to show signs of being less bad, I guess is what you'd call it. I don't know if being less bad doesn't fill me with a great amount of enthusiasm. Yeah, exactly. But it's all relative expectations, right? Right. I guess it depends on your risk profile, right? So if you're willing to go out the risk curve, then maybe things, if they've been able to survive to this point, get a second look. Right, exactly. And I wouldn't go into office buildings yet, but some of the other areas of the real estate market that are more tied to consumer spending and things like that, maybe the worst is over there or the worst is priced in, I guess.

14:48So always looking for areas like that, that are where things have been kind of bombed out, but then starting to turn. And that's what we saw in the overall market coming into this year, earlier this year. And you're starting to see it more now amongst some of the areas that have been out of favor, coming in favor a little bit. But I think there's still a good cyclical tailwind. I think the Fed has been overestimated in its effects. And the fiscal policy has been underestimated in its effects so far this year. I think that'll probably go on for a little while longer. That's interesting. So talk about that a little bit more.

15:22I mean, because we have been very focused on the Fed because the Fed has been trying really hard to convince us that they are going to continue to, if not hike, hold, right, higher for longer. So there's been a lot of focus. You think too much focus on that? I think certainly at this point, I mean, once they've raised rates 500 basis points, another quarter point or two here or there is not going to make a whole lot of difference. economically, but they have a messaging issue to deal with. And for many years, I think the Fed has been given more credence or more influence over the economy than they really have, that they tried to make inflation happen for years and couldn't really.

16:03And now they're trying to slow it down. And I think it's slowing down more on its own than as a result of what the Fed's done. But I think that they're trying to respond to it in a way that kind of reaches their sort of political goals in some sense, but also tries to give them a position to where they can cut rates and address things if they start to weaken later. I think part of it is wanting to have ammunition, some bullets to shoot if things get weak next year or the year after. I think that was a big worry with zero rates for so long that they wouldn't have anything to be able to do if things got even worse.

16:40And now they're at the point where they've got rates back up to a much higher level. I think it's going to be harder to justify 5 % plus rates when inflation is down at 2 % or 3 % pretty soon. So I think they're going to start to change their tune a little bit, and particularly as the composition of the Fed, the FOMC, has shifted a little bit lately. It's not quite as hawkish as it used to be. Yeah, it's worth pointing out. They've got a few appointments to make. We learned not long ago that Bullard's leaving, who is very hawkish now, by the way, used to be a job, but he's been one of the more hawkish voices on the Fed.

17:11So there is going to be a change in personnel. And one would think it wouldn't have that much of an impact since they are data dependent. But as we know, everyone looks at things through a different lens. What part of the fiscal side of things do you think is, or what about the fiscal situation do you think may not be fully priced in or appreciated? Yeah, I think the fiscal side has been the slower moving and more harder to pin down thing. Everyone's used to watching the Fed. Everyone can say what the interest rate is with precision. But the fiscal side is much harder to nail down. And it's been, like I say, many, many years, decades, really, since we've had a combination of fiscal policy being accommodative the way it is now.

17:55We have a 7 % or so, 8 % deficit to GDP ratio, which is a rough gauge of how loose or tight fiscal policy is, along with higher interest rates. And so I think it's been a long time since we've seen that. Normally, we see Fed raising rates and fiscal policy getting tighter. And that's why you usually get a slowdown pretty soon after that. Whereas in this case, we haven't gotten that. We've had fiscal policy offsetting monetary policy. And I think the fact that we've had these kind of the Infrastructure Act, the CHIPS Act, the Inflation Reduction Act, all coming after all the stimulus that came from COVID has been given sort of a longer kind of chain of fiscal stimulus that's kind of working its way through the system over time and affecting more the industrial side of the economy.

18:44People are building factories and doing new things they didn't do before because of fiscal policy. And so it's less about tax cuts and things like that or cash for clunkers or things like they did after the 2008, 2009. This is a much more broad-based and industrially focused fiscal policy. And it's having knock-on effects in the private sector, I think, which has been underestimated so far because it's just been so long since we've ever really seen that in this country. And so I think that'll probably go on for a while. I don't think we'll get any new programs given the split in Congress now, but the programs that have already been put in place will have a kind of a long tail, I think.

19:21Yeah, it's so interesting that you say that, Sam, because I literally and chime in on the chat if you if any of you are seeing the same, if you're U.S. based. But I have to weave my way through my neighborhood in town right now because there are so many public work projects going on. And this has probably been making its way through. They're not all from the town. Some of them may be the utility or but, you know, it's probably all related to the enormous amount of infrastructure money that's been put to work and or some of the, you know, some of the relief or aid that came through that whole entire covid process.

19:58So it's so interesting because it's really it's tangible now, you know, the old shovel ready. It takes a while, but I'm seeing it everywhere. Every highway I go on, I was just out in Wisconsin. I saw the same exact thing. So it's interesting that you say that because it may well have a really long tail, that spending. That's very hard to judge or to model, really. Yeah, that's right. No, I think you are seeing it. It's a longer term thing. It doesn't affect things as immediately as a rate hike or something that the Fed does that people are used to in the financial markets. And yeah, everything takes a while to go through processes and the money to get spent.

20:37But it is being spent. Yeah, we can certainly see it around here in the Boston area. and a lot of places all over the country, that it is getting spent. And it will be, like I say, this kind of longer term effect. Those things are not just a thing that happens in one quarter and then it's over. They go on for a while and have lasting impacts. So I think that's the part that's been sort of underappreciated so far. And it's hard to model. But I think you can see it in the earnings estimates and you can see it in the GDP and the macro data that construction, non-residential construction is way up.

21:10in a lot of areas, particularly things related to technology and things like that. All the green spending and battery factories and all those kinds of things are all having an impact. And part of it is the government directly, whether federal or state or local. And part of it is private sector companies kind of latching onto that and spending money. And then, of course, you also have the fact that commodities are much lower. Fuel costs are relatively low. I know copper and a lot of industrial metals have come down a lot, partly because of China's weakness, but it's made it more feasible and more profitable to do those kinds of things than it would have, say, even a year or a year and a half ago when all those prices were much higher.

21:51Yeah. So I'm glad you brought up China because we know that a lot of people have been looking at the Chinese economy, the hopes that their reopening would fuel global growth haven't come to fruition. They've been struggling a little bit. Cullen Roche sat down with Richard Koh, chief economist at Nomura, to talk about some of the headwinds facing China. Let's have a listen to a clip from that, and then we'll talk on the other side. My sense is that the problem Chinese economy is facing is quite substantial. Because if the Chinese companies stop borrowing money or reduce their borrowings because of uncertainty with the West, this geopolitical confrontation.

22:40And there's a middle income trap issue. China is right at the middle of the middle income trap, where a lot of companies may be moving their factories to cheaper places. And of course, demographics that a lot of people talk about. And finally, the population shrinking on the same year the bubble bursting. We're going to take another quick break to hear a word from our partners. We'll be right back with more of the day's top analysis on the Real Vision Daily Briefing. And that full discussion on actually the global economy, China was a part of it, is available on the website today. It just dropped today.

23:17If you're not a member, scan the QR code so you can access that and all of our great content. So, Sam, we know that the Politburo's meeting later this week, there have been some reports and leaks about what they might be doing, some measures they're unveiling. Will it be enough? Not being a real China expert, but my guess is probably not. So far, they've been relatively smaller scale than what they've done in the past. Certainly, if you look back at, say, 2015, 16, the stimulus they did then, we've really got the whole global economy going. I don't expect anything nearly that magnitude. I think they're definitely still struggling with debt and real estate.

23:58and they're just having trouble converting their economy away from just relying on exports and infrastructure spending to more domestic consumption-based growth. And I think that's going to be an ongoing thing in China for quite some time, which is going to kind of hinder their ability to really stimulate aggressively, particularly given their demographics now. Yeah. Corey says that Boston area is always under construction. You read my mind, Corey. I was going to say that right afterwards, because any of us who are familiar with Boston know that's true. But who knows? Maybe even more so. We're going to have to take Sam's word for that.

24:33I'm going to cycle in some questions, but we'll hit on a couple areas that we haven't too. There's so much to get through. G. Blackburn, asking a great question, says, Europe's always cheap. If you're allocating versus the MSCI, AWCI, what are your favorite areas or sectors? Oh, I see. Whereas the global, yeah, so my favorite sectors globally would probably be industrials, technology, and consumer discretionary right now. I think, generally speaking, the developed markets at least have pretty good consumer spending patterns. And there's enough sort of that industrial side of the economy that's holding up, you know, autos and travel and entertainment and things like that, that are there.