Taking Stock of Equities

by Brian Jacobsen, Wells Fargo Asset Management

John Manley, chief equity strategist with Wells Fargo Asset Management, points to the bright spots. Listen to the interview:

Brian Jacobsen: I’m Brian Jacobsen and you are On the Trading Desk^SM. John Manley joins us this week to take stock of equities. As you probably know, John is chief equity strategist with Wells Fargo Asset Management. When he’s not on the road talking to clients, or on the line talking to us, you can read his commentary every Monday as he writes the Manley on the street column for our blog AdvantageVoice®. John, welcome.

John Manley: Thank you, Brian. Great to be here.

Brian: Yes, and thank you for being here, especially at such an exciting time in the market. It’s the beginning of earnings season. What are you seeing from your vantage point? I know it’s early.

John: It is early, but it’s promising. I won’t say “make or break,” but I think we’re getting to the point where earnings really should be expected to start to lift up a little bit. It’ll be interesting to see how the third quarter results come in. I think that we’re seeing more robust results. And I think if we see that, that’s the sort of thing that can sort of break us out of the range we’ve been stuck in.

Brian: And it does feel like we’ve been stuck in a range. I know that it’s been a pretty bumpy ride in this range. Can you talk a little bit about what’s been causing us to be stuck here? Do you think people are just sort of waiting for the evidence of better earnings? Or is it something else?

John: Well, obviously there are a lot of things that make the market happen, but first of all I’d say it has to be earnings. Earnings have been flat for just about the same time that the market’s been flat. I think we’re fairly valued, but I think it needs something to sort of kick it into an over-valuation or an under-valuation and when I look back, I think the Fed’s going to be okay. They’re still going to be essentially accommodative, although they’ll be raising rates somewhere over the next year or so, I hope.  I think the real key is earnings. If earnings start to move higher, I think there’s a positive surprise in that.  I think there are a lot of people out there who don’t think earnings can go higher and if they’re proved wrong, that’s the sort of impetus that brings in marginal buyers and marginal buyers is what typically makes stocks go higher.

Brian: Now you said something very interesting there, the word “hope.” You hope that the Fed hikes over the course of the next 12 months or so. Can you explain why that is?

John: Sure. I think we’re in a good environment, in some respects. I think the Fed’s going to have a pretty high standard of proof that things are actually getting better. I think the last thing they want to do is pull back on the reins of the economy. I think what they’re trying to do is match the interest rates to an improving economy, which allows for higher interest rates. So I hope rates go higher, because inherent in the higher rates would be a sense that the economy’s better, more resilient, more robust.

Brian: Now in terms of the outlook for earnings, it seems very contingent on stronger economic activity.  What drives your optimism that we will see that stronger economic growth going forward?

John: Well, first of all, time; but secondly, I believe in America.  It’s been eight years since we all got ripped apart a little bit back in 2008. I think American consumers have gone through a lot. They seem to have de-leveraged. I think they’ve seemed to get a bit more confident in the last year or so. I think we’re seeing a better labor picture, a better housing picture, the sort of thing that gets people spending. I’m an old fashioned guy. I look back towards the old 20th century up cycle, and the old 20th century up cycle always started with consumers beginning to do more things, and if they do that the rest of the economy sort of follows suit. We used to say, “It’s the house that Jack built,” one thing leads to another and the Fed doesn’t have to guide people along. The normal up cycle just sort of brings us into it one sector at a time.

Brian: Looking forward to continued, strong consumer spending, are there parts of the market that you prefer because of that? Where are you seeing the most opportunities now?

John: That’s a great point. You want to look ahead. One of the things about today is it doesn’t matter nearly as much as what we think about somewhere down the road. And I think what’s happening, in my mind, is if I want to play the economic recovery, one of the ways I’ll play it is by playing big technology because I think corporations probably will keep some wage pressures as the economy gets better. But that doesn’t mean they don’t resist it; they fight it, and one of the ways they fight it is to add productivity, which means they’ll need more technology and that should be good for the B-to-B people. If the economy’s getting better and if profits are getting better, one of the things that should benefit is the whole class of stocks and those are mid-caps. I think mid-caps have some very interesting statistics, going back, looking at how they tended to out-perform, especially the value side, on a risk-adjusted basis. Well, that hasn’t been true for a while, but it hasn’t been true in my mind for a number of reasons, some of which are just going to be there for a while. But I think the biggest thing is there hasn’t been earnings growth and if a big corporation is faced with a lack of earnings growth, well, they can do all sorts of things: buying back shares, raising the dividends, cutting costs. It’s hard for mid-caps, it sort of holds them back. But if earnings start to grow again, I can’t help but think that mid-caps should be better in that kind of environment.

Brian: We just have a little bit of time remaining for a parting thought.

John: Having done this for a long time, all it’s given me is a sense of where I’m going to be wrong. I may not know that I’m going to be right, but I know where I’m going to be wrong and I think it really is earnings. They break to the up side, there’s the positive surprise that can push the market off of dead center. If they fail, well, maybe we have a little more time. If they start to fall, then I’m wrong, but I don’t think that’s going to happen.

Brian: Well, great.  That’s it for this week. John, thank you so much for your time.

John: Thanks, Brian.

Brian: And until next time, I’m Brian Jacobsen, stay informed.

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