Introduction to Wall Street Whispers

Every week I do over twenty idea conference calls with institutional clients from all over the world.  They range from tactical traders to strategic long only portfolio managers.  I literally speak and interact with the best and the brightest that the money management profession has to offer, and it is one of the aspects of my job that I love the most. 

During these discussions, the clients are certainly interested in what my research is showing and what my views are on a host of different topics.  Importantly, however, I do not just present to my clients where they passively listen to my conclusions and best ideas.  The time spent is usually more of an active discussion and debate where investors are also sharing with me things they are thinking, worried about, what they own, and what they are thinking about buying and selling.  Sometimes clients agree with my views and at others there is significant pushback.  Because I have so much client engagement, the aggregation of the meetings can provide valuable information back to me about where the dominant thoughts and positioning of the institutional investing crowd are at that moment. 

I remember back when I was in graduate school and just a regular retail investor.  I would wonder what it would be like to get a glimpse into what the “pros” were doing and thinking.  Well, going forward, I intend to share on Tuesdays what the professional investors that I speak with are thinking and doing with their portfolios to give our FSI subscribers a peak behind the so-called institutional curtain to help our retail clients.  

I hope that you enjoy our new weekly note and would love to hear from you if you are finding it useful in your investment returns.  So, below is this week’s comment and within it you may see some terminology that might be unknown or confusing to you.  Over time, FSI will be creating a glossary of terms/vocabulary areas and some teaching sections, but for now they are still a work in progress. 

There has been considerable headline news and market/sector volatility over the past week, which can make the investing backdrop challenging to even the most seasoned professional.  When one does not have a disciplined process to depend on, an investor can become a flag during a windy day being impacted by the direction of the day’s directional gust.  At FSI, we use disciplined, objective, and data driven approaches to our research and idea generation to help our subscribers not let their emotions or the news story of the day lead to less-than-optimal decision making. 

With that being said, this week’s comments are below, which include the questions and issues that were brought up the most often in my institutional client meetings, and I will then follow with my responses.

ISSUES/OBSERVATIONS

  • I will reiterate my comment from last week because it is quite apparent — every client has concerns about something, and this has been the case all year.  Thus, it is my view that there is not rampant bullishness.  
  • Most calls had more macro discussions than usual.
  • There were a lot of questions regarding sharp price drawdowns for a few sectors and whether their revisions confirmed the weakness or not.   
  • Concerns and questions about the rise in interest rates continue to dominate. 
  • A few clients asked about a potential change in tax policy, which was new this week.

SPECIFIC QUESTIONS

  • Performance this week saw Large caps lead and SMid lagged? Is this the end of the move for SMid?
  • Energy has been by far the worst sector this week through Thursday’s close as every name has posted negative returns through Thursday’s close. Does this concern you? Is this sector’s impressive outperformance run over?
  • Financials, especially Banks, continue to act well. What is your earnings revisions work saying?
  • On an intra-sector basis, Application Software and Semi-related sub-industries have seen poor price performance. Does your research view them the same or are there differences? 

MY ANSWERS

  • SMid (Russell 2000) has significantly outperformed Large Cap (S&P 500) by a sizeable margin since the end of September 2020.  Importantly, our broad-based earnings revisions work started seeing shifts in the relative attractiveness down the cap scale during mid-October and that trend remains in place, which has supported SMid relative performance and caused me to make a major shift away from Large Caps for the first time in over five years. 

    During this week through Thursday’s close, performance has been weaker on each step down in cap size (Large Cap (best), Mid cap, and then Small (worst)).  I have made four key points in client meetings:

    1. The amount of outperformance was extreme and anytime this happens price pauses/consolidations/pullbacks can occur.

    2. The earnings revisions relative favorability still favors SMid and I expect this to continue as the U.S. begins to reopen

    3. Because of the earnings revisions support, my research suggests that the relative weakness in SMid is a pause and not an end.

    4.  Thus, based on my work, I advise buying the dip in SMid as there is likely more to come.
  • The S&P 500 Energy sector (GICS L-1) made its relative low in early November 2020 and has beat the benchmark index by a whopping 54% points since then, which rivals it’s best outperformance during that period of time since at least 1990.  So, it is not a stretch to say the sector is extended and overbought, and I have several indicators that clearly support that conclusion.  Hence, a pause/pullback is not that surprising.  This week Energy has been by far the worst sector by over 6% points. 

    My works suggests that the pullback is healthy, counter trend, and the proprietary earnings revisions indicators for the sector at aggregate level and at the level of the individual stocks strongly portends that this underperformance period will likely be a great opportunity for investors to buy the dip and raise their exposure.  Indeed, Energy has seen its key earnings metric bottom in mid-October/mid-November and has shown incremental improvement in every monthly review since that time, which has been a major factor in my three sector upgrades since November. Our single stock work has been highlighting HAL, SLB, OXY, DVN, EOG, FANG, MRO, PXD, PSX, and OKE in the S&P 500, and RIG, CHX, CNX, MUR, XEC in the S&P 400 Midcap Index. 
  • The proprietary Analyst Sentiment Indicator (ASM) for the Financials sector (GICS L-1) continues to be quite robust after bottoming in late-October/mid-November, which has been the main driver behind my upgrading the sector three times in the last five months.  The sub-industries that continue to stand out on an intra-sector basis are the Banks, both Diversified and Regionals, as well as the Investment Banks/Brokers, and the Exchanges.  At some point, the sector will need a price pause/consolidation, but I will view that as an opportunity to buy the relative dip. The S&P 500 names that stood out the most are WFC, BAC, C, JPM, CMA, MTB, USB, GS, MS, RJF, SCHW, CME, ICE, NDAQ. There are too many SMid names to list here, but if interested please reach out and I will make them available. 
  • Yes, both the Application Software and Semi-related sub-industries relative performance has been hit during late-February till now.  My tactical work strongly suggests that price bounces are quite close to occurring. On this basis alone, my indicators look very similar for both areas. However, the earnings revisions look quite different at this time. My work shows some clearly less good and some absolute deterioration in the Application software names while the Semi areas still look quite healthy.

With that being said, my tactical work points to both areas being poised to bottom over the next week or two; however, based on the more strategic earnings revision indicators the case for making new relative highs is much more likely for the Semi-related areas.  This is consistent with the entirety of our key factors that continues to flag cyclical Tech sub-industries as more favorable than secular growth areas.

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