Stock market: 'There is a rotation going on,' investment strategist explains

Charles Schwab Chief Global Investment Strategist Jeffrey Kleintop joins Yahoo Finance Live to discuss the outlook for the stock market.

Video transcript

- Let's talk more about the markets now with our next guest Jeffrey Kleintop as Charles Schwab chief global investment strategist and he joins us now. Jeffrey thank you so much for joining us this afternoon. Looking at the price action today as Jared was mentioning, we are seeing stocks after the highs of the session. But the NASDAQ especially is still gaining after falling into a correction just yesterday. Is this just some temporary dip buying in your opinion or is this potentially something that could be sustained?

JEFFREY KLEINTOP: I think there is a rotation going on towards those areas of the market that have been neglected for a long, not just months but years areas like financials and energy. Even health care, which is an area that had done a bit better during the pandemic but really isn't seeing any kind of multiples like it did in the past. I think those areas of the market have more durability here as we look at an environment where earnings growth is slowing so valuations matter more. And many of these companies can look to generate earnings growth in this environment of rising interest rates and commodity prices. Whereas tech is a bit more challenged as goods demand begins to slow.

- Something you just said made my ears perk up. And I think a lot of investors who want to make some money want to key in on it. Because you said that the areas that might have not gotten as much attention as they deserved. You said energy, and yet energy, was the best performing sector last year. So how much more attention does it need?

JEFFREY KLEINTOP: Yeah, it certainly got a good bit of attention last year but it's been left for dead for almost a decade. I think that there's more to go energy. Of course, the stocks tend to track what happens with the crude price, whether they should or shouldn't give in spreads is a separate issue. But I think they will, and I think those prices will remain elevated.

I think as we look to the second half of the year continued reopening particularly in areas of Europe, and even in China, which is renewed and renewed shutdowns, I think will continue to spur demand at the same time supply may be constrained to keep up with that. So we continue to see elevated energy prices and that should continue to keep a floor and even some fire under energy stocks.

- Jeffrey I think one big question is, we've seen this move higher, especially in benchmark 10 year yields in the US. Has been this relationship between bond yields and stocks. And I'm wondering can you break this down for us?

Because one of the things that you wrote in a recent note is that a lot of times we do see interest rates and yields and stocks actually move up in tandem with each other at least in terms of historical trends. Because these tend to track positive economic activity and is this something that investors should expect as we head into this Year's potentially higher interest rate regime?

JEFFREY KLEINTOP: Yeah, well said, and I think that's right. I think there's no doubt that bond yields are reacting to a robust economic environment. Very strong demand and increasing prices as suppliers struggle to meet with that. And that goes along with strong earnings results, and that's in fact, what we're seeing.

We're not reverting to an environment where rising inflation is sapping strength from corporate profits as we might have seen in the 70s or even part of the 80s, where we had an inverse relationship between interest rates and stock prices. So I think as long as rates are rising in an environment of still above average global economic growth and we're still seeing that, I think that can be beneficial for stocks. I think the risk is do we see inflation get out of control?

That continues to push up interest rates to much higher levels in at the same time, maybe weighing on growth. That doesn't seem to be the case now. Corporate profits seem to be tracking well ahead of inflation and keeping pace with that. But if that were to change in the second half of this year due to unforeseen events, that could be a risk.

- Jeffrey help us understand, those of us, especially those of us who are say passive investors. As I'm talking to you, it's a very good reality that the S&P 500 is going to fall into negative territory. And yet it started the day so well, how do we go within just what six, seven hours to that kind of up doing well and then we just all the way back down? What is that telling us?

JEFFREY KLEINTOP: Well, I think this is not abnormal to see the kind of volatility as we start to enter a fed tightening cycle, and at the same time seeing earnings growth begin to decelerate. The return of volatility is going to be a theme this year. And that's why I think you want to focus on stocks that have the benefit of share buybacks.

This is not just individual investor demand but corporate demand as well helping to support those prices. We saw from 2009 to 2014, the early stages or the first half of the last economic cycle, really the stocks that that saw a buy back saw the best performance by a wide margin doubling the performance of those that didn't. And again this time, I think that'll be an important factor. As individual investors may waver a little bit in this more uncertain environment but corporate buyers remain strong.