Bloomberg The Close

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Scarlet Fu: We’re going to kick off the show with Jason Pride. He is Chief of Investment Strategy and Research at Glenmede. Jason, always good to speak with you as we enter earnings season. We are obviously anticipating yet another quarter of tremendous earnings growth. This has kind of been the driver for this bull market for a while now. Do you think we’re going to start to see evidence that perhaps margins can’t get any higher, can’t keep expanding at this point?

Jason Pride: I think we’d probably, you know, probably kind of think about this environment as one where you have this contrast between the underlying economic and profit strength of the average company, not even just a handful few, you know, they are driving really the numbers to all-time highs. There’s a lot of growth and strength beneath them. But that is contrasted by the other side of the equation, which is valuations for equity marketplaces are actually also near pretty significant highs and you happen to have their biggest competition in the competition in the financial markets. Bonds starting to price at much more attractive yields and provide a very interesting and somewhat appetizing alternative to the equity marketplace.

Fu: Yes, that’s the case. But we actually haven’t seen that really take hold yet though. I mean, the S&P 500 closing yesterday at a record high, it’s steadily pared its losses today and could turn positive by the close. Those rising bond yields have not yet attracted money away from equity is at least not in a significant way yet.

Pride: No, they haven’t. And we, we think investors should actually be looking at that and actually thinking about this from a risk management of their portfolio, right. If equities are up as they are heading into the beginning of the fourth quarter as they are now, it is likely that their portfolios are actually overweight equities within their portfolios relative to their bond allocations. And yet at the same time, bonds are providing a very interesting investment alternative that deserves at minimum.
And we think this is actually probably the preferred approach right now, simply a rebalancing of portfolios back to the bond side of the equation from the equities, getting portfolios back to target, taking those overweights back down to a target equity allocation. And using this is simply a risk management opportunity within portfolios because that bond side of the equation is going to #1 provide decent returns that they’re starting yields and #2 we’ll actually be very well prepared to actually be a counterbalance in portfolios, which we haven’t seen in quite some time. When you start at yields that are high, bonds can provide a very interesting counterbalance to difficulties in the equity market, which kind of come out of nowhere for you as investors. And something we should be thinking about with markets at the high valuations they’re at.

Jessica Menton: Well, Jason, Scarlet and I were just talking about how the four year anniversary of the current full market run is actually going to be this next Monday on October 12th. And when we’re going and entering in Year 5, obviously a lot of different risks. We talk a lot about whether it’s the duration of the AI trade, obviously higher rates, sticky inflation, but of course narrow breath, this bull markets defied a lot of those odds. How do you view Year 5 and how do you position into that over the next year with those risks?

Pride: Absolutely, Jess. I think our first and foremost, the most important thing to be doing is to be managing risk. This is we’re in the later stage of an economic cycle. We now have rising rates. We have some things we need to be watching for over our shoulders, like changes in fiscal policy heading into the next couple of years, which could come following the election, the rise in rates and the pressure that does put on the economy. And sitting in the background is this kind of question as to how far this AI super cycle can actually last. None of those, at this point in time, we think are pushing us to be overly defensive within portfolios. But at the later stage of an economic cycle with valuations where they are and with yields providing the opportunity they are providing, we think investors are strongly justified to rebalance portfolios back to previous targets and not be positioned to just let the winners run like you typically do in the majority of the economic cycle. This is a point in the cycle where you start managing the risks and you do that repetitively every time the market gives you that opportunity.

Menton: What are you doing when it comes to hedging with positioning? Because October is historically the most volatile month, but we’ve seen the S&P 500 and the NASDAQ buck those historical weaknesses like in September and August, both indexes were higher. You got the VIX only around 15. How do you view that and position around it?

Pride: So a couple of things. First and foremost, at a reasonable equity allocation, something that’s on targets, a portfolio is going to be reasonably well exposed and able to participate in the long-term growth of equities and deliver decent long-term return by not being overweight those equities.
You’re not overexposed to those zigs and zags that come at this high sort of valuation point as we’ve been seeing. So you’re exposed to participate, but you’re not overexposed to the point where it’s detrimental to your plan. The second thing is you can opportunistically position, within that equity portfolio. We think there are a handful of items that are more attractively valued today, particularly international stocks within Japan #1 and smaller capitalization securities within the US #2 those are kind of modest sized positionings for us, modest tilts away from our traditional positioning simply provided by the valuation opportunity and the growth opportunity as this economy even on a global basis continues to grow. And those areas away from tech actually continue to benefit from the implementation of tech in the efficiency gains that they get from doing that.

Fu: And that when it comes to those small caps, how do you think through which part of that small cap universe you want to be exposed to? Because they are very sensitive to interest rate movements. And we know with higher rates that’s going to impact how much they can borrow and grow and if not making their lives difficult to try to even pay back what they do owe.

Pride: That’s so that’s something we’re actually watching relatively near term. The backup in long term and short term rates should impact small cap corporate corporations. It should have an impact by our estimates of somewhere on the ballpark of about 5% to their earnings growth potential. But that’s not detrimental to their outcome. Their earnings growth rates were actually pretty good growth rates for smaller capitalization companies and for companies starting at the valuation points that they were starting at. The market has already reacted to them to some degree. Now one thing that you can do within those marketplaces within smaller cap securities is you can position to be invested in companies that have lower debt balances, less exposure to that interest rate cycle and more capability of delivering earnings growth in the case that we have of rising interest rates.

Fu: Jason, really appreciate you joining us. Jason Pride is chief of investment strategy and research at Glenmede.