‘Sky-high’ Wall Street earnings estimates need to come down: Strategist

Chris Wolfe, First Republic Private Wealth Management CIO, and Rob Haworth, U.S. Bank Wealth Management Senior Investment Strategist, join Yahoo Finance Live to discuss market growth outlooks ahead of the Fed's next meeting, inflation, and how to defensively position investments.

Video transcript

RACHELLE AKUFFO: So, Chris, in terms of the half year that was, what's your characterization of how the markets performed and your expectations for the second half?

CHRIS WOLFE: I think the characterization is pretty easy-- terrible. We're starting 52 years, if you're looking at some of the data since 1970. It was a one trick pony market. You needed to own energy in order to do well at all, because everything came unglued, really, as the Fed reversed the policy aerial. Instead of being supportive from a monetary standpoint, they had pivoted last year and became very aggressive as the year went on. And that started to wring a lot of excesses out of the market.

I think we're maybe halfway through that process. If we look to the remaining part of the year, I think a couple of things need to happen. One, I think we need some meaningful downward adjustments in analysts' earnings estimates. They're just sky high. And it does not comport well with the economic data that seems to be coming out, because we're slowing down. Now, that's not overly bearish, because, remember, prices have already done a lot of the adjusting. We just need some capitulation in analyst and corporate expectations. They're just way too high.

I think, really, we're going to end up in a period of a great transition, a transition to more normal markets, ones that where the cost of money is more appropriate and where fundamentals can matter more, because they haven't mattered for a long time.

SEANA SMITH: Rob, what do you make of where we stand? Because just out this morning, the Atlanta Fed GDP tracker showing that the US economy is likely in a recession. Do you think we're currently in a recession?

ROB HAWORTH: I know our base case isn't that we're in a recession. But we're certainly in a slowing economy. And we saw that from the purchasing managers survey data even today, right? It is a challenging environment with supply constraints still weighing on the economy. And even though the consumer seems to be in really good shape, I think it's still a challenge for economic growth as we move forward. Inflation is still working its way through the system.

And despite the bond moves today, the Federal Reserve still looks like it's headed for more interest rate increases. We're priced for several more this year, probably 3/4 of a point at the end of July-- at the July meeting here at the end of this month. So that just puts us on that path for slower growth and getting back to those earnings resets that need to happen in the market.

DAVE BRIGGS: And Chris, to you on that GDP now number from the Atlanta Fed, do you think there are indications out there that we're in a recession currently? And have the markets already priced in that factor, or a mild recession to come?

CHRIS WOLFE: Yeah, so the reality is we may end up with two quarters, the first or the second quarter with negative GDP. A lot of folks kind of want to call that a technical recession. But the National Bureau of Economic Research is the one that ultimately calls it. And there's more factors besides GDP that go into it. So I tend to agree with Rob. I don't think we're in one. It feels like it because of the math. I think the real issue is going to be, where does consumer spending slow down? And how quickly do jobs data come down? And I suspect that's going to happen in the third quarter.

I think markets are sussing that out, so they're starting to get used to the idea that we're going to see job cuts. Private markets have done a good job of that so far. There's more to come. And I think that will put a little bit of pressure on consumer spending, particularly on the lower end of that-- lower end of the income spectrum. And that's really where I think we get the stronger signs that a recession is coming. And I suspect it's probably Q4 or Q1 of 2023.

RACHELLE AKUFFO: So then, Rob, what's the play here in this sort of environment? In terms of growth stocks versus defensive stocks, how should people be positioning their portfolios right now?

ROB HAWORTH: Yeah, for us, we are staying very defensive. And that really means a pivot from equities overall, both domestic and foreign, into fixed income, preferably on the shorter end of the spectrum, because inflation remains persistent and elevated, with an 8.6% print just last month, still fairly robust numbers likely this coming month. It's a challenging inflation environment to be a fixed income investor.

The other place we look is real assets. We think you still need that inflation defensive nature, until or unless we really get into a deeper slowdown, which we don't think we're seeing just yet. And then we're keeping our eyes open for other opportunities out there.

And one of the things that we're paying attention to-- and this came out in the purchasing managers survey data in the last couple of days-- is, China is starting to get a little better here. And they're the one economy that is moving, really, from-- moving towards easier monetary policy at this point. So there could be some opportunities in the future there. That's something we're keeping our eye on. But for now, we're staying defensive and tilted towards fixed income and real assets.

DAVE BRIGGS: Yeah, Chris, I wanted to ask you the same thing about China. What do you-- are you seeing data out of there? And if this reopening actually sticks in China, what are the implications for our markets?

CHRIS WOLFE: I think a couple of things. One, generally agree at a high level, be more defensive. Husband your cash, at least for the time being. I'd expect a period of volatility to be maintained well through the third quarter and all the way into the fourth quarter of this year. I'd be upgrading portfolios. At least with respect to US large cap companies, there's higher quality companies as everything's been thrown out that are going on sale. So that's item number one.

Number two is, we still favor the US versus everywhere else. Returns on capital are higher here. Valuations have adjusted a great deal. And I think a lot of the challenges emerging markets face aren't just from China's stop, start COVID policies, but I think foreign interest in these markets is waning a bit. Our sense is we want to be underweight most of those markets. China is probably a trade, not a longer term investment, at least with respect to being overweight. So we'd be underweight emerging markets.

I think the last thing is, where we're looking beyond the public markets there, I think there'll be some interesting private markets opportunities as well. Because remember, what happens in public markets gets rapidly translated in private markets. You're going to see some pretty big markdowns in that space. I think I agree with Rob that there's going to be opportunities there coming forward in the next six months.

SEANA SMITH: Chris, I didn't hear you mention tech there. NASDAQ 100 closing out its worst first half of the year since 2002. Any opportunity there to buy some of those beaten down names?

CHRIS WOLFE: I'm going to go way out on a limb here. I would say if there's going to be anything, your canary in the coal mine is in biotech. That place has just been absolutely crushed. The intellectual property, many of the companies might be worth it. But I'd like to see some in-market mergers and acquisitions before we put client money there. But I agree with you. There are starting to be some bargains in the tech space.

Here's the challenge, though. We have had the cost of money be free for so long that all sorts of business models that have should have never been funded were. And now we have high growth, low margin businesses that, as the tide has gone out, are being revealed as not very stable. I think there's more washout coming, so you're going to have to be pretty selective. Some software names, but I think biotech is going to be your canary in the coal mine. It's either going to see lots of mergers and acquisitions because the intellectual property is good, and that's where I want to start.