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‘Don’t fear the taper’: Senior Investment Strategist

Marci McGregor, Bank of America Merrill Lynch Managing Director and Senior Investment Strategist, joins Yahoo Finance to discuss the latest retail sales, outlook on the Fed taper, and drivers for the overall market.

Video transcript

ALEXIS: Bring in Marci McGregor, Managing Director and Senior Investment Strategist at Bank of America Merrill Lynch. Marci, good to see you. So look, we have this really nice surprising retail sales report that showed that consumers are still out there spending, even though the Delta variant was on the rise and continues to be. Were you surprised by that report?

MARCI MCGREGOR: Thanks for having me on, Alexis. I really wasn't surprised by this report. The consumer is strong. They have so much cash sitting in their checking and savings account wages are rising. I think what you've seen lately though is almost this divergence between the actual spending and confidence, which I think has really taken a hit from the headlines and the rise of the Delta variant. I would expect that will fade, the consumer is going to become more and more mobile. And it's still a key part of this economic growth story as we head into 2022.

ALEXIS: You know we have not seen a meaningful pullback in this market, not even a 5% pullback since last year. And so investors are saying when's that next shoe going to drop one are we in for a correction. Do you believe we're going to grind higher here for the rest of the year, or is that correction in the offing?

MARCI MCGREGOR: I think it's going to be exactly that. I think it's going to be a grind from here because I think the next 5% to 10% higher in the equity market, it's going to be a bit harder to come by than the previous 100% off of those March lows. And September seasonals are weak, but I wouldn't expect this volatility to derail the market. My sense is that these pullbacks may feel sharp but I think they're pretty shallow as well. I would see it as a buying opportunity.

One fact that I can't get out of my mind is how much cash is sitting in money market accounts. That is now at a higher peak than we saw at the lows of the market in 2009, and that's after the recovery from the COVID crisis. So much cash on the sidelines. I would expect pullbacks to be a buying opportunity. And that's what we've been saying to our clients.

ALEXIS: OK, so if you see it as a buying opportunity, what sectors do you like right now?

MARCI MCGREGOR: Well, we've taken a barbell approach to sectors. We have a preference for US equities overall relative to the rest of the world. And this barbell approach, where on one hand, and I don't think you abandon tax. This is a free cash flow story, I think it's a dividend growth story. People will also be a beneficiary on Capex, which I think is going to be key to the 2022 outlook. But on the other end of that barbell or cyclicals, I think that's ultimately what leads this market higher. So think about energy, which has significant operating leverage, financials, I think that's another capital return story once again, materials and industrials as well. So don't abandon tech but, I still like those cyclicals to once again lead the market.

ALEXIS: Now, will your view on these sectors change when the Fed does the inevitable and starts to taper those bond asset purchases, which we are expecting them to do possibly before the end of the year?

MARCI MCGREGOR: Yeah I think we're going to hear about that from the Fed next week. Our expectation is tapering may start November, but here's what I have to say on this - don't fear the taper. If you look back to the lessons of May of 2013, you look at the S&P 500. If you push six months out from that taper tantrum, the market was up 8.7%. If you pushed a year out from the taper tantrum, the market was up over 15%.

I think we get a more muted response this year, but I've been telling clients don't fear the taper. And the early signals from Europe, I know, Lagarde, said she's not tapering, but they are reducing bond purchases and she seems to have avoided a tantrum. So I wouldn't fear the taper when it comes to equity markets, it doesn't change her view. It's very different from being deep in a hiking cycle.

ALEXIS: All right, so Marci, what do you see in terms of key drivers for this market in the fourth quarter?

MARCI MCGREGOR: , Yeah so I, think once again, it's all about cash. Whether it's cash on the corporate side driving Capex, we're starting to see Capex turning higher and earnings guidance as well as in borders. And then cash on the part of the consumer, that's going to keep spending. That's why we're getting inflation pressure because it's a demand story. I think it's all about the consumer and Capex and the cash that both of them are sitting on. That drives markets, I think it drives corporate profits, which we don't think have peaked. You may have seen peak growth, but you haven't seen peak earnings. That's what's underpinning this market.

ALEXIS: So I don't hear in our conversation. You're very concerned about rising inflation and the supply chain hiccups that continue to paralyze parts of our economy in different industries. What's your take on inflation and how concerned should investors be, and how should they be hedging against it?

MARCI MCGREGOR: I think the thing that we often forget about inflation is this is a function of stronger US economic growth. Once again, it's a demand story. So on one hand, while I don't see it backing off and I think many of these bottlenecks are reflective of a US economy, that's at capacity probably at about 6.5%. So I think even once the noise is gone, we're going to still keep seeing inflation that's higher than certainly what we've been used to in the past.

Now that said, the big question is, how does the Fed react, of course? But also, for investors about positioning for higher inflation. Right now, it's a positive dynamic. Companies are passing through higher prices so the consumer has been able to pay it. And that protects margins. So I would say it's equities over bonds. And it's those cyclical sectors that I think are really preparing our clients for what is going to be higher inflation going forward.

ALEXIS: Marci, before we wrap up, just connect the dots for me on this. You're saying we may have reached peak economic growth, but we haven't reached peak earnings. How do those two things live side by side?

MARCI MCGREGOR: Yeah so I think we're going to come off this. I think of it as almost a sugar high of this front end loaded COVID relief from the Fed and from Washington. But you have a US economy that I still think is going to grow above what we've seen as trend growth for the last few years, even as we look out past the second half of next year. Now earnings, I hear so much buzz from my peers about peak earnings growth. Well, easy comps last year with how we saw earnings contract. Now, I think it's the absolute level of earnings.

I think you have companies that have protected margins well. Like I said, they're passing through prices. And now, that Capex is, I think, going to be part of this dynamic, I think that you're going to continue to see strength in earnings even if we're past peak growth. And one of the signals I love to look at is the earnings revision ratio. Wall Street analysts are still playing catch up in earnings, you're seeing them continue to raise their estimates. US is leading the way globally and you're seeing those cyclical sectors bleed as well.

ALEXIS: All right, Marci McGregor, managing director and senior investment strategist at Bank of America Merrill Lynch, thanks so much for being with us.