Scott Martindale  by Scott Martindale
  President & CEO, Sabrient Systems LLC

Stocks are once again challenging all-time highs as the forward earnings estimates are being raised at an historically high rate in the wake of another impressive earnings season that blew away all consensus expectations. YTD through May, index total returns were strong across the board, including +12.7% for S&P 500, +6.6% for Nasdaq 100 (as mega-cap growth endured the brunt of the Value rotation), and +15.2% for Russell 2000 small caps. The strong earnings reports have given rise to further upgrades to forward sales and earnings from a highly cautious analyst community, many of whom are still concerned about COVID variants, supply chains, inflation, and Fed tapering, among many other worries.

Nevertheless, share prices have not gone up as fast as earnings, so valuations have receded a bit, with the S&P 500 falling from a forward P/E of 21.8x at the start of the year to 21.2x at the end of May (i.e., -2.8% versus a total return of +12.7%). Cyclicals in particular have seen this same trend, since they were largely bid up on speculation. For example, Energy (XLE) is up +39.2% YTD, but its forward P/E has fallen from 29.2x to 17.2x (-28.4%). With plenty of cash on the sidelines, many investors likely are holding back and hoping for a solid pullback rather than deploy cash at what may still appear to be elevated valuations and stretched technicals, as they move past a speculative investing mindset and into a more fundamentals and quality-oriented stage. While more speculative asset classes like SPACs and cryptocurrencies already have endured a pretty severe correction (driven by negative press or tweets from influential personalities), stocks really haven’t yet seen a healthy cleansing.

When the April YOY CPI reading came out on 5/12 at a surprisingly high +4.2%, stocks were expected to selloff hard, led by mega-cap growth stocks. But instead, they quickly gathered conviction and resumed their march higher. Small-cap value (which is dominated by cyclical sectors like Financial, Industrial, Materials, and Consumer Discretionary) in particular remains quite strong this year as the Value rotation continues in the face of an expansionary/recovery economic phase, unabated government support and largesse, and a continued productivity boom. And with GDP growth accelerating, particularly as the economy fully reopens and hobbled global supply chains are mended or rerouted, it is likely that the Street’s forward earnings estimates (even after the recent upgrades) are still too low, which means stocks should have more room to run without relying upon multiple expansion, in my view.

So, two questions seem to linger on everyone’s mind: 1) how might inflationary pressures impact economic growth and the stock market, and 2) are stock valuations overdone and at risk of a major correction? I tackle these questions in today’s post. In short, I believe earnings momentum should win out over overblown inflation worries and multiple contraction as we embark upon a multi-year boom (a “Roaring ‘20s” redux?) – but not without bouts of volatility.

With no clear path for runaway inflation and given the recent rotation out of the Growth factor, investors now seem to be adding exposure to both secular and cyclical growth – which is what my regular readers know I have been suggesting and what Sabrient’s GARP portfolios reflect (including our flagship Baker’s Dozen). As a reminder, you can go to http://bakersdozen.sabrient.com/bakers-dozen-marketing-materials to find my latest presentation slide deck and market commentary (which includes an update on the Q2 2020 Baker’s Dozen portfolio and an overview of the latest Q2 2021 Baker’s Dozen).

In this periodic update, I provide a comprehensive market commentary, offer my technical analysis of the S&P 500 chart, review Sabrient’s latest fundamentals based SectorCast quant rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. To summarize, our sector rankings reflect a solidly bullish bias, the technical picture is still long-term bullish (although in need of further near-term consolidation), and our sector rotation model retains its bullish posture. Read on….

Scott Martindale  by Scott Martindale
  President & CEO, Sabrient Systems LLC

After a strong Q1, stocks continue to rise on exuberant optimism, and the mega-cap dominated S&P 500 and Nasdaq 100 just hit new highs this week. Notably, the Tech sector significantly lagged the broader market during the second half of Q1, primarily due to worries about the apparent spike in inflation and a surge in the 10-year Treasury yield (as a higher discount rate on future earnings has greater implications for longer duration growth stocks). But once the rapid rise in yield leveled off, Tech caught a bid once again. The Russell 2000 small cap index, after absolutely crushing all others from November through mid-March, has been cooling its jets for the past several weeks. I think the other indexes will need to do the same. In the short term, after going straight up over the past two weeks, the S&P 500 and Nasdaq 100 both look like they need to pause for some technical consolidation, but longer term look pretty darn good for solid upside – so long as earnings reports surprise solidly higher than the already strong predictions, and Q1 earnings season is now at hand.

Regular readers know I have been opining extensively about the bullish convergence of positive events including rapid vaccine rollout, reopening of the economy, massive fiscal and monetary stimulus/support, infrastructure spending, pent-up demand, strong revenue and earnings growth, and the start of a powerful and sustained recovery/expansionary economic phase – but with only a gradual rise in inflation and interest rates – in contrast with those who see the recent surge in inflation metrics and interest rates as the start of a continued escalation and perhaps impending disaster. Notably, in his annual letter to shareholders, JPMorgan CEO Jamie Dimon laid out a similar vision, referring to it as a “Goldilocks moment” leading to an economic boom that “could easily run into 2023.”

In my view, it was normal (and healthy) to see record low interest rates last summer given the economic shutdowns, and as the economy begins to reopen, interest rates are simply returning to pre-pandemic levels. Furthermore, relatively higher yields in the US attract global capital, and the Fed continues to pledge its support – indeed, I think it may even implement yield curve control (YCC) to help keep longer-term rates in check.

And as for inflation, the March CPI reading of 2.6% YOY sounds ominous, but it is mostly due to a low base period, i.e., falling prices at the depth of the pandemic selloff in March 2020, and this dynamic surely will continue over the coming months. Although we see pockets of inflation where there are production bottlenecks (e.g., from shutdowns or disrupted supply chains), it seems that massive stimulus has created asset inflation but little impact on aggregate demand and consumer prices, as personal savings rates remain high and the recent stimulus programs have mainly gone to paying bills, putting people back to work, and building up personal investment accounts. Future spending bills targeting infrastructure or green energy might have a greater impact, but for now, the huge supply of money in circulation is largely offset by disinflationary drivers like low velocity of money, aging demographics, re-globalization of trade and supply chains, and technological disruption. The Treasury market seems to be acknowledging this, as the rapid rise in the 10-year yield has leveled off at around 1.7%.

Thus, I believe that growth stocks, and in particular the Technology sector, must remain a part of every portfolio, even in this nascent expansionary economic phase that should be highly favorable to value and cyclical sectors like Industrial, Financial, Materials, and Energy. Put simply, new technologies from these Tech companies can facilitate other companies from all sectors to be more efficient, productive, and competitive. However, investors must be selective with those secular growth favorites that sport high P/E multiples as they likely will need to “grow into” their current valuations through old-fashioned earnings growth rather than through further multiple expansion, which may limit their upside.

And with Sabrient’s enhanced selection process, we believe our portfolios – including the Q1 2021 Baker’s Dozen that launched on 1/20/21, Small Cap Growth portfolio that launched on 3/15/21, Sabrient Dividend portfolio that launched on 3/19/21, and the upcoming Q2 2021 Baker’s Dozen that launches next week on 4/20/21 – are positioned for any growth scenario.

In this periodic update, I provide a comprehensive market commentary, offer my technical analysis of the S&P 500 chart, review Sabrient’s latest fundamentals based SectorCast quant rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. To summarize, our outlook is bullish (but with occasional bouts of volatility), our sector rankings reflect a solidly bullish bias, the technical picture is still long-term bullish (although in need of some near-term consolidation), and our sector rotation model retains its bullish posture.  Read on….

Scott Martindale  by Scott Martindale
  President & CEO, Sabrient Systems LLC

Investors have endured some unnerving gyrations in the stock market the past couple of weeks. Although the S&P 500 has fully recovered to achieve a new record high on Thursday at 3,960, the formerly high-flying Nasdaq is still 5% below its recent high. The CBOE Volatility Index (VIX) has managed to remain below the 30 handle throughout the turbulence, where it has held since the end-of-January pullback. I have been saying regularly that I am bullish on equities but also expect to see occasional bouts of volatility, and this latest bout was driven by a sudden spike in Treasury yields (to above 1.6% on the 10-year!) due to tepid investor interest in the Treasury auctions and new inflation worries. However, Wednesday’s 10-year auction went just fine, boosting investor comfort. Obviously, a rapid rise in interest rates would wreak havoc on a heavily leveraged US economy, and it would hurt equity valuations versus bonds – especially long-duration growth stocks, which is why the high-flying Tech stocks have borne the brunt of the damage.

Nevertheless, optimism reigns given the explosive combination of rapid vaccine rollout, falling infection rates, new therapeutics (like monoclonal antibodies bamlanivimab and etesevimab), accelerated reopening of the economy, and the massive new fiscal stimulus package, coupled with the Fed’s promise not to tighten – in fact, the Fed may implement yield curve control (YCC) to balance its desire for rising inflation with limits on debt service costs. I see the recent pullback (or “correction” for the Nasdaq Composite) as exactly the sort of healthy wringing-out of speculative fervor that investors wish for (as a new buying opportunity) – but then often are afraid to act upon.

The “reflation trade” (in anticipation of higher real interest rates and inflation during an expansionary economic phase) would suggest overweighting cyclical sectors (Materials, Energy, Industrials, and Financials), small caps, commodities, emerging markets, and TIPS, as well as some attractively valued Technology and Healthcare stocks that offer disruptive technologies and strong growth trends. But investors must be more selective among the high-fliers that sport high P/E multiples as they likely will need to “grow into” their current valuations through old-fashioned earnings growth rather than through further multiple expansion, which may limit their upside. In addition, I think it is prudent to hedge against negative real interest rates and dollar devaluation by holding gold, gold miners, and cryptocurrencies. I elaborate on this below.

Regardless, with Sabrient’s enhanced stock selection process, we believe our portfolios – including the current Q1 2021 Baker’s Dozen that launched on 1/20/21, Small Cap Growth portfolio that launches on 3/15/21, Sabrient Dividend portfolio that launches on 3/19/21, and the Q2 2021 Baker’s Dozen that will launch next month on 4/20/21 – are better positioned for either: (a) continued broadening and rotation into value, cyclicals, and small/mid-caps, or (b) a return to the narrow leadership from secular growth that has been so prevalent for so long.

As a reminder, you can go to http://bakersdozen.sabrient.com/bakers-dozen-marketing-materials to find my latest presentation slide deck and market commentary (which includes an update on the Q1 2020 Baker’s Dozen portfolio that terminates next month), as well as a “talking points” sheet that describes each of the 13 stocks in the newest Q1 2021 portfolio.

I am particularly excited about our new portfolios because, whereas last year we were hopeful based on our testing that our enhanced portfolio selection process would provide better “all-weather” performance, this year we have seen solid evidence (over quite a range of market conditions!) that a better balance between secular and cyclical growth companies and across market caps – combined with a few stellar individual performers – has indeed provided significantly improved performance relative to the benchmark (as I discussed in my January article).

In this periodic update, I provide a comprehensive market commentary, offer my technical analysis of the S&P 500 chart, review Sabrient’s latest fundamentals based SectorCast quant rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. To summarize, our outlook is bullish (but with occasional bouts of volatility, as we have been experiencing), our sector rankings reflect a solidly bullish bias, the technical picture is mixed (neutral to bullish near-term and long-term, but bearish mid-term), and our sector rotation model retains its bullish posture. Read on….