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State of the Markets Monthly Roundtable

Investor Conference Call Replay - January 12, 2022

Darrell Cronk, Chief Investment Officer for Wealth and Investment Management, hosts a roundtable discussion with senior strategists.

Strategists will cover our latest outlook for the economic recovery; timely equity and fixed income guidance for this stage of the economic cycle, and practical ideas for balancing risk and reward in portfolios.

Audio: State of the Markets Monthly Roundtable investor call replay

Transcript: State of the Markets Monthly Roundtable investor call replay

Coordinator: Welcome to the Wells Fargo Investment Institute State of the Markets Monthly Roundtable for January 12, 2022. Before we begin, please note the following disclosures: 

The opinions expressed in this call reflect the judgment of the speakers as of January 12, 2022 and are subject to change without notice. The material has been prepared for or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Past performance is no guarantee of future results. Additional information is available upon request. 

Investment and Insurance Products are Not Insured by the FDIC or Any Federal Government Agency, are Not a Deposit or Other Obligation of, or Guaranteed by, the Bank or Any Bank Affiliate, and are Subject to Investment Risks, Including Possible Loss of the Principal Amount Invested.

Darrell Cronk: Good afternoon everyone. Welcome to the January 12 Wells Fargo Investment Institute State of the Market Roundtable. Let me - I can't really say I'll be one of the first, but let me extend a hearty and Happy New Year to all of you 12 days past. It's the first time we've had a chance for this audience to be together so welcome to 2022.

My name's Darrell Cronk. I'm the Chief Investment Officer for Wells Fargo Wealth and Investment Management businesses. so we've got a lot to discuss today. It's been a very active start to the new year.

Fortunately, we have as we always do, a very esteemed panel of experts to discuss our thoughts on capital market trends and maybe more importantly, kind of what we see as vital or important themes for 2022.

So let me just introduce the panel. I'll give you an idea of what to expect today. I'm going to introduce the panel. I'll give you kind of some of my thoughts from the CIO chair as we open the year up where we stand today and some of the key important elements. And then we'll - I'll try to quickly get to the roundtable so that we can have a vibrant and hopefully interesting and valuable conversation.

So today with me is Luis Alvarado, who's a Global Fixed Income Strategy Analyst on our team. John LaForge, who's head of our Global Real Assets Strategy, Tracey McMillian, who heads our Global Asset Allocation Strategy. And Sameer Samana, our Senior Global Equity Strategist. So we've got kind of all the asset groups covered and we're going to have a good discussion today.

So as we step off into 2022, I thought it was just maybe important to give some context about 2021. I think most of you know how 2021 ended, but I would note it's the third year in a row we've had really strong performance out of capital markets, particularly equity markets or what we call risk markets almost 20% returns for the last three years running on the S&P 500, notwithstanding think about the last three years we've gone through a global pandemic.

And for the first time in a century, we've had a deep recession with where the economy shut down. And yet capital markets, because of influx of liquidity and capital have just continued to power forward.

So as we ended 2021, the S&P 500 total return was 28.7% which is one of the best years we've had in quite a few, if not even one of the best years in multiple decades barring 2018.

We did see this, the fourth smallest drawdown meaning there was very little volatility last year. It was the fourth smallest drawdown since 1987. The S&P set 70 new highs in the last year. And frankly, the the index itself has become more top heavy than it's ever been, meaning the constituents of it, think big tech names are the heaviest weighting that we've ever seen in multiple decades of the index itself.

So more importantly, in years where you have a 20% return in the index, almost 70% of the time the year following markets have had very good returns. And in fact, the average following that is about 11% return so which is fairly consistent, I think, when we talk to Sameer where we think 2022 ends up. So not a time to turn terribly defensive and run for the exits and take your risk profile down.

I would remind our listeners that just because the calendar changes doesn't necessarily mean that the narrative or the market trends, driving themes and current activity change. So we tend to, in our industry, fixate a lot on annual outlooks and the 12-31, 1-1 change. But history teaches us that what's more important are what are the underlying fundamentals and drivers that do that.

So when I think about where we stand here and we've already experienced some decent volatility in the month of January -- we started off the year with equity markets being a little bit more under pressure than normally would -- there were probably three primary drivers of market volatility that's changed since we've talked or maybe not changed, but have become more acute is a better way to say it.

One is inflation and we'll spend a fair amount of time - it - that seems to be again, every conversation we have, the first and last question begins and ends with inflation. People want to know how acute is it, Where is it going in 2022 and how concerned should they be or not be?

We saw a recent reading this morning of the Consumer Price Index which put the headline number at 7% which is an increase from the November reading of 6.8% and a sizable increase from this time last year where it was about 1.4%. So that's the fastest 12 month pace since 1982. So that's going to grab a lot of the headlines and deservedly so.

The core inflation which when we talk core, that just means not including food and not including energy prices which are highly volatile, came in at 5-1/2% and showed some pretty good horizontal extension of price increases across almost every category that we track and monitor in that.

So inflation is one of the top three drivers I think that everybody's concerned about here in January 2022. Part and parcel of that is also the Federal Reserve. So since we've been - since we've been together we've got the Fed minutes from their December meeting which suggests that they're going to not just accelerate their tapering process. And in March instead of June meeting, they'll slow down or stop their purchases at a faster pace.

But also, the market's now expecting the Federal Reserve to start raising rates sooner rather than later. There's a 76% chance now that the Fed hikes rates at the March meeting which previously it was widely thought that it wouldn't be till at least June or maybe even the back half of the year.

So the way to think about the Federal Reserve path is it's gotten more sense of urgency given inflation and labor market numbers. And so it's quickened it's pace. And then the third element so inflation, Federal Reserve, and then the third element is interest rate expectations.

So US Treasury yield has risen from under 1.4% on the 10-year to, let's call it, 1.75% which has been a pretty good move in the short term. And as interest rates go higher that can be sometimes disruptive to financial markets and even equities or stocks.

All that notwithstanding, as we closed down today, the S&P's down about 1% year to date. You still have value outperforming growth. The best performing sectors we'll talk to Sameer about are energy, financials and industrials. The laggards are real estate or REITs and healthcare basically are really kind of bottoming out the early day returns. And I will note it is very early, obviously so be careful not to read too much into just year to date trends.

The Nasdaq or tech is down about 3% and small cap stocks are down about 2-1/2% to 3%.

Interestingly, if you've listened to our calls basically going all the way back to June of 2020, but we've probably gotten more outspoken and verbose about this in the last several calls is to make sure clients have the right exposure to commodities. And already, year to date, the Bloomberg Commodity Index is up over 5%. WTI crude oil is up 10%. Brent crude is up 9%. And get this, natural gas is up almost 30%, 29% year to date. And I'll remind you, today is only January 12. So commodity price appreciation has been kind of one of the unheralded news stories of the early part of this year so far.

From the economy standpoint, still good growth. We think the US economy grows 4%, 4.5% in 2022. That's extremely strong growth. It's almost double the growth we enjoyed over the last decade.

So we think this year's still going to be a strong year for GDP growth. And so you want to be positioned accordingly. As you - as we think about and look out into this next year there's some important things like you still do have easy financial conditions. There's a lot of liquidity out there. Central banks are still expanding their balance sheets, believe it or not, at least through call it the end of the first quarter of this year.

Earnings growth for this fourth quarter -- and we're about ready to embark on earnings season is probably going to be north of 20% -- and we think earnings can grow at double digits next year with record profit margins. So corporate America's ability to kind of adapt to ever-changing pandemic conditions has never been more of an important story as it's been over the last couple of years.

We do think it's probably a good year or coming up will be a good year for corporate buybacks, dividends and merger acquisition trends. And we do think some of the supply chain constraints should start to ease some of those price and inflationary pressures. So there's a lot of decent tailwinds as we sit here in January, not notwithstanding seasonally, it's usually a good time of the year for a lot of markets.

That's not without concerns. You know, we talked about inflation. There's concern about fiscal cliffs and fiscal spending and whether the Build Back Better program gets passed and if so when, how does - how do those dollars get allocated, heightened concern about the Fed making a policy mistake.

There is some, of course, lingering concerns about COVID variants and whether Omicron is the last in that cycle where there's another one beyond that. And then valuations I think, kind of ticked a list of concerns as we sit here in January of this year.

So a lot to talk about. Bottom line is we still think it's too early in the cycle as we move from early cycle dynamics to mid-cycle drivers to turn conservative or to take too much risk off the table.

So let's get to the panel and start talking about kind of some of these themes in a little more depth because I think they're important. And I know all of you are interested in hearing about what the roundtable's expertise is on each of these.

Let me start off with just Tracey, because Tracey as I said at the onset, we can't get out of the room without every question beginning and ending with inflation. I know we still think it will be - remain elevated, but maybe not continuing to accelerate from here. But can you help put for our listeners a little historical perspective on how today's environment stacks up against longer term environments and what to expect?

Tracey McMillin: Yes, thank you Darrell. You're right, you know, inflation is running pretty hot here at the start of 2020. And you gave some great context as to why that's happening. So, you know, I'm just going to focus here on the historical implications and our portfolio allocation.

We think that inflation is going to moderate as we progress through the year. However, it might be a slower trip than we would like back down to the Fed's 2% target rate of inflation. And you know, for that reason we're looking at our long term historical targets.

We've kept our inflation target consistent with the Fed's target for the last couple of years, and that's that 2% target. But historically inflation has averaged about 3%. And more recently, these pandemic disruptions are kinda changing the calculus for us in our forecast.

Our ten year forecast for inflation represents the starting point for our long term asset class return forecasts. And we assume that over a full market cycle that most investors want to achieve positive real returns. Right now, cash is yielding a fraction of a percent and you mentioned the 10 year Treasury bonds are yielding about 1.75.

So real returns are negative for these asset classes with inflation running at 7%. So that means investors are losing purchasing power to inflation when they're invested in those asset classes. We don't think that will persist indefinitely. Because inflation is so high today and it could be elevated next year and, you know, possibly beyond we'll likely increase, our 2% long term inflation expectation when our capital markets come out around the middle of the year.

And this means that other asset classes might also see their returns rise to compensate for those higher levels of inflation. Our emphasis last year and you know, so far this year in 2022 has been on asset classes that tend to perform well when inflation is rising.

We reduced fixed income in favor of equities and we added commodities to a lot of our allocations as you mentioned. And when we make these strategic changes, they tend to persist for a number of years. But we use our tactical allocations because those are designed to be more nimble so that we can react to changing economic conditions and, you know, add to or take away from those asset classes that are impacted by inflation.

Darrell Cronk: Yes really great point and an excellent context and historical perspective there.

John, let me bring you into this conversation. You're head of real assets. Tracey talked about negative real returns on an inflation adjusted basis.

I highlighted, you know, oil up 10%, natural gas up just short of 30. So we know what's happening at gas pumps. We know what's happening in grocery stores. Why is inflation so stubborn here and continue to move higher, even though everybody both has concerns? Let's say the White House has concerns, the administration has concerns, the Fed has concerns and yet it continues to move higher.

John LaForge: Yes, much of this has to do with Darrell, the reason inflation's been sticky with commodities is because commodities at the start of COVID, so two years ago entered a multi-year period which we call a bull supercycle where prices typically go up over that decade long period.

It tends to come back to supply. And there really is not enough supply out there of commodities. So all it takes is a little bit of demand. And that's why anyone that picks up a paper or watches the television sees this constant pressure up on, like you said, natural gas, oil, copper.

There are other commodities that many people don't see that I see, food commodities. Actually, a lot of us do see it when we go to the grocery store, but a lot of that is tied together to this supercycle.

And what essentially happened was prior to cold that commodity prices spent ten years going down. And what happens during these periods is producers really stopped going, they stopped going out looking for the stuff or digging more holes or planting more corn. To get that supply back it usually takes multiple years.

So this has been this confluence of that supercycle which really had little to do with COVID. But then when it clashes with COVID and everything that's going on, what we're finding is there isn't enough supply as many commodities. My end story for everyone is it doesn't typically end tomorrow. Your average bull cycle where commodity prices just leaped higher is typically more than a decade. And we're only in year number two of a classic bull supercycle.

Darrell Cronk: So, John, before we leave that point because it's an excellent one, I get asked that question all the time. and people say, "Yes, I acknowledge I didn't have enough commodity exposure in my portfolio. They've certainly done well over the last year and a half to two years, but I'm too late, right. I'm too late to go in and add that to my portfolio given the large run up in prices." It doesn't sound like you would agree.

John LaForge: Yes, absolutely not. And I'll give you one statistic that might help. If we take the period before COVID, the ten year period before COVID. So let's call it 2010 to 2020, commodities compounded at an annual rate of a negative 6% a year for ten years.

Anyone during that 2010 to 2020 period remembers if you were an investor because you were trying to get out of the space. It was it was ugly. But that is the way commodities work. They tend to go in these decade long periods where they're really bad or they're really good.

And just remember, 2020 was the beginning of this new bull supercycle. The shortest bull supercycle on record, and this is going back into the 1700s, the shortest on record was 12 years. We're in year number two so I have to emphasize that again.

Darrell Cronk: That - those are excellent points. And that negative six compounded return for a decade is in the face of other things like equities and bonds and everything else doing quite well. So on a relative basis, there's still some value here likely.

John LaForge: Yes, I believe so. Yes.

Darrell Cronk: So Luis, let me bring you into this conversation. We talked early, I mean, if if inflation is point one in every conversation, probably quickly and closely behind that is point two, is the Federal Reserve right, and what they're doing and kind of the change of urgency and quickening of pace that we've witnessed.

You're a great scholar, an excellent on this. We all know well that the Fed has a dual mandate like full employment and price stability. It's hard to argue with price stability at 7% inflation is, you know, is stability by their measure, right, when they expect and hope for long term two instead of seven.

And now that we're below 4% unemployment, the latest reading in December was 3.9%, you could argue we're basically at full employment. So the Fed has a lot of the ammunition and air cover it needs to start tightening policy. Would you agree?

Luis Alvarado: Absolutely, Darrell and, you know, first off, we do believe that the Fed has the tools to tackle highly stubborn inflation. Granted, the Fed still has the belief that these supply driven shocks and this sort of labor shortages that we experienced in 2021 have caused inflation to increase. But it is expecting it to subside sometime in the second half of the year. I mean, consensus is definitely not far from that.

But regardless of what ends up happening with with actual inflation, with core inflation, it is evident then that the Fed needs to react like you pointed out. This is why the Fed has expressed a greater sense of urgency and a higher priority than to pull all of these actions forward. And these signals that the Fed is sending obviously have convinced financial markets that the Fed is serious about normalizing policy more aggressively this year.

Now, when we refer to the term and investors might hear it often in the media outlets, normalizing monetary policy, this means pretty much removing some of the stimulus that was put in place to fight the economic consequences of the pandemic. We are seeing it now as the Fed is tapering the purchases of Treasuries and mortgage backed securities with the idea of finishing probably around March, eventually then moving to rising policy rates from the zero bound. So now they can be more aligned with where we are in the economic cycle and then also, like you mentioned Darrell, how elevated inflation also is.

And then we also referred to the idea that the Fed's balance sheet pretty much has effectively doubled from the 4 trillion, close to 4 trillion before the pandemic to closer to 9 trillion now. So the - effectively the Fed is going to be creating a plan of action to bring the balance sheet down.

Again here, their goal, and this is what they want to transmit -- this is the message they want to send out -- is to align monetary policy with the economic conditions that we're seeing out there like you just mentioned, improving labor conditions and then a high inflation level. And they want to stress that they shouldn't be taking too much as a as a shift towards tightening just for the sake of cooling off the economy.

Darrell Cronk: That's a really great point. So if we were to wrap that in a bow, they stop expanding the balance sheet by early March right? And then we probably think they start raising interest rates for the first time, not aggressively, but for the first time, likely in that March timeframe as well. Would you agree Luis?

Luis Alvarado: Yes, yes, I definitely agree with that and the market that seems to have been pricing that as well. And we've heard it recently from other Fed officials, not only Chair Powell yesterday in front of the Senate committee, but also other officials expressing their support to rising rates end of March - in March.

Darrell Cronk: Okay, I'll be back to you shortly because we've got some other discussions we need to have around the fixed income markets. But in the interim Sameer, I saved you to last to talk about the equity markets because as we've seen in early January they often become the transmission mechanism of expectations for Fed policy of expectations for inflation and some of the important topics we're talking about.

So, you know, if those are two concerns, higher inflation, stickier or sustained inflation or a more aggressive Fed in tightening policy, some call it in the old days removing the punchbowl, shouldn't we think about the equity markets as having a more challenged future?

Sameer Samana: Yes, it's a great question. In some ways it is the $64,000 question. And you know, let me start with maybe inflation and then we can move on to the Fed.

With respect to inflation, you know, history's pretty good that, you know, along with commodities, equities can do pretty well when inflation's kind of in that 3% to 4% level or below. And I appreciate that this year, you know, we're printing numbers that are a little bit higher than that.

But you know, if the Fed is successful in kind of bringing it back down over kind of that intermediate to long term, we do think that's probably what's most important for equities because, you know, they do tend to be maybe not all long duration assets, but when you're looking at an equity to purchase, you're looking at more than one year worth of earnings.

So you know, again, it's going to be those intermediate to long term inflationary things that will be most important. Two is, you know, we're tackling it through our positioning. Currently, we're favoring stocks or bonds. That's a great way of taking advantage of what we see as, you know, that's sticky inflation and a Fed that's getting a little bit more hawkish.

Two at the sector level, it means we'll look for pricing power. Folks have heard us talk for, you know, probably now over a year about this theme around anything but defensives. And interestingly, the pricing power theme dovetails with that very nicely in terms of cyclicals probably had the most pricing power.

The growth sectors think tech, communications, et cetera, probably had the second most pricing power. And then, you know, at the very bottom, are your defenses, right? When you think about staples, when you think about those soup manufacturers, those cereal manufacturers, they're taking all the brunt of those ag prices without being able to pass them along at the grocery store where everybody's buying generic.

With respect to the Fed, it's a little bit more of a, you know, sticky wicket, as they say. But we do think, you know, back to Luis' point around is the only way they can avoid a policy mistake and are raising rates for the right reasons, right, good growth, solid labor market, et cetera, leading equities can do pretty well.

We've got precedence in 2014, you know, because at the end of the day, you know, is always kind of a taking it easy, making sure not to break anything in the economy it creates a pretty good environment for revenue growth.

And this year is a lot better than 2014 was. And it creates room for sectors, you know, higher rates for sectors like financials to make, you know, a lot more money than, you know, they were able to even back in in 2014, 2015 because again, you just had inflation just pegged to low.

And that's one of the key points that I would circle back to is that too low inflation actually, you know, harms equities. It causes people to crowd into those growth areas because there's just so little earnings power in some of the other sectors.

Now, you know, we will continue to watch the curve. That does have implications for financials. We'll what spreads. That does have implications for smaller cap companies that are more reliant on those funding markets. And then we'll look to see how quickly we progress through, you know, kind of this mid-cycle that we're now moving towards and just, you know, make sure that there isn't a policy mistake.

But as long as fed's able to kind of thread this needle, should be a pretty good year and that's our base case.

Darrell Cronk: Yes, and to that last point, we shouldn't - I would caution against making your base case a fed policy mistake, right? The fed is...

Sameer Samana: Yes.

Darrell Cronk: ...are human beings, right? But they would never intentionally try to slow the economy by so much as to create the next recession or whatever else.

So I get that people can argue that they have a sketchy track record sometimes on how they've been able to implement this over the past. But the reality is, you know, as you think about the next year, you probably shouldn't live in the world where the Fed's going to make a mistake as your consensus or base case scenario. Do you agree?

Sameer Samana: Absolutely. I mean, if you think about just how recently they've completely redefined what full employment means to have much broader measures for minorities, et cetera, I mean, they just went down this path painstakingly to make sure that they go out of their way to support all the parts of the economy. For them to now turn around and take it, wouldn't make a lot of sense to me.

Darrell Cronk: Yes, completely agree. All right so since it's kind of the beginning or the first call of 2022 we did release our 2022 outlook, which I encourage you if you've not spent some time with, talk to your advisor or you can go to our Web site and find a current copy. It has a very comprehensive outline of kind of all of our thoughts, all of our recommendations around asset classes.

But let me come back to the roundtable here and to each of you. And I want you to talk and think about opportunistically. What are the areas that you like and what are the areas that you don't like as we look out into the next year, because I think our audience will be very interested in that.

Sameer, I'm going to because I came to last, I'm to start with you this time on on equities. And I think what's important here is a conversation around earnings, right?

We're about ready to kick off fourth quarter earnings, but maybe more importantly, 2022 earnings because - and we talked about this in our strategy meeting. People underestimate and frankly, the market or the street, Wall Street underestimates when you get into a strong GDP growth, particularly nominal growth environment, companies tend to do very well. They can roll that down their income statement and get - and drive earnings growth out of that very well.

And if you take nothing more than the last year or six quarters, year and a half as an example, you had six straight quarters in a row where actual earnings have beat consensus by double digits all in an environment where you've had really strong GDP growth.

So if you're thinking about and concerned about valuations, Sameer, right, price over earnings and earnings remain strong or even surprise to the upside in 2022 then it's a question of at what price, right? And then what multiples are you willing to pay? So how should -we think about that for equity, total returns and opportunities in this next year?

Sameer Samana: Yes, great question. So, you know, at a high level, I mean, I think it's worth noting that we see another very solid year of, you know, earnings growth. And as you mentioned, it's going to be driven really by the top line, right? When you get, you know, GDP economic growth, that's going to be as strong as it is this year and, you know, I would argue, given Omicron, you know, is having a little bit of an impact, we probably haven't seen anything yet, so to speak. So much of this trend kind of lies ahead of us.

That gives companies a lot of room to make money, right? I mean, it's the opposite of the problem that we've had for about the last decade where the topline is growing so slowly that it was all about cost cuts.

Now it's much more about managing costs and figuring out what areas you want to expand in opportunistically than just having it be about cost cuts. So we believe that that will be the main driver of equity returns this year, earnings growth.

As far as multiples go we are taking a very conservative tact with the Fed changing gears, with long term rates perking up a little bit. We are calling for multiples to pretty much hang around current levels which we think are pretty reasonable in an environment where the ten year is still stuck, you know, sub 2%.

You know, one of the questions that came in was around, you know, whether we would beat consensus and, you know, earnings are peaking. We would encourage folks not to get wrapped around the actual on those types of factors.

The real question all year long will be focus on the actual level. Is it high enough to support equity returns? Is it in the, you know, you know, kind of baked into the right fundamentals? Think GDP. And is it going to be the strongest in some time? And I would argue that the answer is yes to all those different things.

So the question then becomes, "Well, how do you position for that?" And we would say there will be greater uncertainty this year. There are some shifts underway, whether it's the Fed, whether it's inflation, whether it's elections in the back half of the year. So we want to be, you know, moving up in market cap, moving up in quality.

So we favor US large caps and mid-caps over small caps. We favor the US over the international side of things. We favor technology and communications along with financials and industrials. So a couple of growth sectors, couple of cyclical sectors over staples and utilities. And that's kind of the feel that, you know, the kind of line up that we're trotting onto the field for this year.

That being said, I will say that this will probably one of the more - be one of the more inflection oriented years that we've had in some time. So suffice it to say, our heads are on a on a swivel and we do hope to be much more nimble this year.

Darrell Cronk: Okay, excellent. So let me just play that back for our listeners. Domestic over international or US over international, large, over small and then cyclical and growth over defensive. Is that fair way to...

Sameer Samana: You got it.

Darrell Cronk: ...okay, okay good. If we have time we'll come back here. Luis let me come back to you on the fixed income side.

So a lot of questions from investors these days. Look, if interest rates are going up and we're tightening monetary policy and inflation is problematic, you know, A, should I even own bonds, right, because that's a tough environment for bonds.

And B, let's assume the answer to A is yes. And B would be okay, then within the bond market, how should I think about my exposure? Where are the best opportunities?

And I think you and the fixed income team had titled sometimes, you know, a good defense can be your best offense which may be the narrative for fixed income in 2022.

Luis Alvarado: Absolutely right Darrell. and yes so, you know, part of the consequences of the Fed implemented the actions is this sort of rising rate environment. And as rates usually rise, we know that tends to be a negative for the prices of bonds.

So definitely our advice for investors is to make sure that they, you know, take the time early in the year now to evaluate the amount of fixed income that they own within those diversified portfolios.

Like you said, use fixed income defensively, obviously as a way to obtain the income that investors need. Also as a way to, you know, have fixed income around as a form of insurance to stabilize those portfolios for any, you know, potential risk that could develop. However, we believe that fixed income returns in general are likely to struggle again this year.

It is important for investors to then check their holdings to see if they have high concentrations in the types of asset classes like government securities, in investment grade corporate bonds that have very long maturities and also in mortgage backed securities and to start considering having exposure to maybe corporate bonds that have shorter maturities. Also, to consider having preferred stock for those investors that are looking for yield and yield opportunities. And also to consider floating rate bonds, especially as the Fed prepares to begin raising rates.

Darrell Cronk: Yes, that's really good. So let me just before we leave this topic because it's really important and I think you articulated it well, but what does it mean to be defensive in your fixed income portfolio? Like what - when we say that, it all sounds great, but how does an investor actually implement or execute that?

Luis Alvarado: Yes being defensive as you think of doesn't mean that - exactly what you kind of mentioned. This is not the time or it is not appropriate to get rid of all of your fixed income holdings just because rates are going to increase.

Obviously, fixed income plays a very important role in portfolio stabilization in a - as as a key component of diversification. And what you want from your fixed income when we say play defense is to be able to, you know, use fixed income for the purposes that you need it, perhaps don't have...

Darrell Cronk: Yes.

Luis Alvarado: ...if you had a pretty good run in fixed income, don't, you know it's time to take some of those earnings not to be over allocated in fixed income, but probably use that additional capital to invest and trim down and invest in opportunities in the risk on markets like Sameer was mentioning in the equity space.

Darrell Cronk: Okay so basically, don't be overweight fixed income overall in your strategic weightings. And then also probably shorten your maturity range, move up in quality, you know, those types of things. Those are important staples of kind of being more defensive. Agree?

Luis Alvarado: Absolutely. Absolutely, 100% correct, yes.

Darrell Cronk: Okay, awesome. Mr. LaForge, let's come back to you. A lot of energy and conversation around. We spent some time talking about commodities and what's happened. I don't want to continue to beat that to death. So let's talk for a minute about real estate, right?

And I'd also like to wrap in maybe some thought because I know you've been doing a lot of work on cryptocurrencies, right? And how should an investor think about that relative to their total portfolio and opportunistically?

John LaForge: Sure, sounds good. I will though go a little off beat and at least give the recommendation with commodities, you don't have to be cute. You just own a basket of commodities you'll be good to go. Okay, so from a...

Darrell Cronk: Good point.

John LaForge: ...real estate perspective, we have this barbell approach going on now because some things are working, some things aren't. And they really can be boiled down to a lot of things related to home real estate, such as single family home REIT, apartment REIT as an example and then things related to call it the digital economy, things like infrastructure and even industrial. They're doing well.

The places to stay away from number one skill is office. It does appear to us that things have changed. It may not be permanent. You know, we might find ourselves three, four, five years from now back to the way things were pre-COVID. But that's a long, long, long time before we're going to get any clarity there. And frankly, that's just not a place to be.

And lodging, believe it or not, is still struggling where it makes sense because people are trying to travel and can't travel. But that's pretty much where I'd stack up REITs Darrell, which is in terms of the home, single family that looks good, office lodging, not so great.

And tied into this whole REIT thing and so I can make this brief, is it is interesting that with REIT, the digital economy type areas are still doing well. You're still getting some decent performance out of things like cell towers, data centers. They're not at the top of our list right now, but they're still doing pretty well.

And that does tie into this next generation that we're often talking about now, which is cryptocurrency. They're very volatile. I don't think anyone that watches the space at all could say otherwise. But we do want to encourage investors to start educating yourselves on the space.

It is early with the technology. It reminds us quite a bit of kind of the mid-90s with technology which is where the inflection point with user adoption really started to kick in. But as investors just realize, you think back to that mid-90s period, many of those names that were the big Web pages at that time as an example, your, you know, your AOL, a lot of those things aren't around anymore.

So sometimes it takes a while to figure out who the winners and the losers are going to be. And we're at that stage, I believe, with the crypto world. And it's a technology that we believe will be around, will have an impact. But it's still very early from picking winners and losers. So this is the time to really educate yourself on what this space is and what it could become.

Darrell Cronk: Yes, and just for the benefit of our audience, John has first of all, done a great job of creating some easy read educational pieces because it's an extremely complex area. So if you haven't seen those, I would encourage you to go to our Web site, talk to your advisor, get your hands on those. Because you know, as you try to educate yourself on a really complex topic, I think those can be really helpful.

It it only takes a little bit of teeing that topic up and it gets John excited. So if it doesn't come through in his voice, all you have to do is talk about digital assets and cryptocurrencies and he will get get exponentially excited which is great to have on our team. And he's he's a quickly growing resident expert for us in that space.

So John before we leave real assets completely, just a quick comment or two on renewable energy. We get a lot of questions about renewables and how it plays into the Build Back Better potential legislation and opportunities there.

John LaForge: Yes the two biggies Darrell, where the money is going within that space tends to be rebate on electric cars. And if the current bill does finally get through in its state, about $12,000 rebate, you know, for it - it's a particular type of American tax-wise that gets that break. But that's a that's a big number.

So that's one of the areas, an t he other area that's getting the money is the infrastructure like power lines and so on. Because I think many investors are now realizing that this transition from fossil fuels to renewables needs a bridge.

You can't go cold turkey. There's there's really no such thing. And in order to do that, you need better infrastructure and newer infrastructure, particularly things like think of those big power lines you see going through big fields. When you pump electricity through those lines, you're losing on average anywhere between 6% to 10% of the electricity that you've generated before it gets to the home.

Darrell Cronk: Yes.

John LaForge: And there are a lot of little things like that. You've got to set that up with things like solar and wind. That infrastructure has to connect to the residences, to the businesses. So that's where the money is going and it'll be well spent.

But if I were to, you know, just some all of that up, I'd say it's still decades, it's still going to be a while. The infrastructure, there's a lot of it needed and it's going to take decades for it to happen. So don't expect to transition from fossil fuels to be there in a couple of years. It's still a while.

Darrell Cronk: Yes that's sage advice, and also obviously a little disconcerting with what's going on, you know, within the globe, but important context nonetheless.

So Tracey let me bring you into this conversation. So one of the themes we had around our outlook this year was kind of investors standing at this crossroads.

And many investors are wondering now after three years of really strong performance, should I be adding risk to my portfolio or taking risk away and taking some of those profits? So maybe spend just a minute talking about some of the highest conviction ideas for 2022 or themes for 2022?

Tracey McMillin: Sure, I'd be happy to Darrell. And you've heard some of this in the conversation today already. One of our top ideas or one of the top themes is to favor US assets over international assets. And the global recovery is going to be uneven this year, so US markets to us appear to have greater vitality and resiliency.

So we would continue to favor those US assets that will benefit not only for strong earnings but we haven't talked too much about this, but possibly a stronger dollar and more resources to deal with the virus as you know, it does continue to mutate here.

Our second idea is around looking for opportunities to add to risk assets. Now market choppiness is likely to persist this year. We've certainly already seen it in the markets already in just the first 12 days of the year. And we continue to favor equities and commodities over fixed income, so we'd look for those chances to rebalance back into those favored asset classes.

Our third idea is around investing in asset classes that tend to outperform when inflation is above average. So we talked a lot about, you know, the inflationary pressures we're seeing.

We went back and we studied asset classes, and we found that mid-caps and commodities were the two best performing asset classes when inflation is above average. Sources of funds can come from those asset classes that tend to perform poorly, like US investment grade fixed income and developed market fixed income.

The fourth idea is to remain cautious on yield sensitive assets. So when interest rates rise like they already have and we think they're going to continue to do this year, assets that generate income primarily tend to be among the worst performers. So that's going to include well most fixed income, some of the more defensive equity sectors like utilities.

So look instead to assets like high yielding midstream energy companies, floating rate bank loans, sectors that tend to do well when rates rise. You know, Sameer mentioned financials as a good example.

And finally we'd like to suggest considering where this coming year return contributions are going to come from. Last year we saw returns contributions to the portfolios coming from equities primarily, but real assets and alternatives also made solid contributions while fixed income struggled. And we think that those trends are going to continue into 2022.

Darrell Cronk: Those are five excellent ideas and I couldn't think of a better way to kind of wrap today's call up than actionable tactical ideas for this next year. So thank you, Tracey.

And let me just say a special thanks to Luis and John and Tracey and Sameer. The roundtables are always so informative. The 45 minutes goes very quickly, but I really appreciate all of our listeners joining today. Hopefully, you found this time beneficial and accretive to the knowledge base of how to invest for 2022.

We of course, will be back every single month for another State of the Market Roundtable, and if volatility does spike, we'll be back more frequently than that. So if not, engage your advisor, look for our content. You'll - we'll always stream to you what we think is the best ideas in the moment.

So with that, (Sue), that will conclude today's State of the Market Roundtable call.

Coordinator: Investing in stocks involves risk and their returns and risk levels can vary depending on prevailing market and economic conditions, the prospects of individual companies, and industry sectors. Foreign investing has additional risks including currency, transaction, volatility and political and regulatory uncertainty. These risks are heightened in emerging markets. Small- and mid-cap stocks are generally more volatile, subject to greater risks and are less liquid than large company stocks. Technology and internet-related stocks, especially of smaller, less-seasoned companies, tend to be more volatile than the overall market.  

Bonds are subject to market, interest rate, price, credit/default, liquidity, inflation and other risks. Prices tend to be inversely affected by changes in interest rates. Similar to bonds, preferred securities are interest rate sensitive. Their dividends are not guaranteed and are subject to change. Some preferred securities include a call provision, which may negatively affect the return of the security. A pre-refunded bond is a callable bond collateralized by high-quality securities, typically Treasury issues. Floating rate loans are generally considered to have speculative characteristics that involve default risk of principal and interest, collateral impairment, borrower industry concentration, and limited liquidity.

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