Pessimism coming into earnings season was ‘overblown’: Great Hill Capital Managing Member

Thomas Hayes, Great Hill Capital Chairman & Managing Member, joins Yahoo Finance Live to discuss the outlook on the market and earnings season amid supply chain issues.

Video transcript

ALEXIS CHRISTOFOROUS: Let's stick with the markets now and bring in Thomas Hayes, chairman and managing member at Great Hill Capital. Thomas, always good to see you. So I was looking through your notes, and you actually say concerns about the supply chain, labor shortages, higher inflation, you think they're overblown. Make the case for that.

THOMAS HAYES: Yeah. Well, thanks for having me, Alexis. I do believe that the pessimism coming into earnings season and the issues you mentioned was overblown. The one thing that we look at as it relates to the supply chain issues, is if these issues were going to persist and be permanent, why would net profit margin be so high? We're going to have 12.3% net profit margin in Q3 while all these issues were happening. That's the third-highest in history, second to the last two quarters. And that 12.3% net profit margin compares to the last five-year average of 10.9%.

So like Jamie Dimon, the CEO of J.P. Morgan said last week, he thinks that this is going to be a non-issue as we move out through Q1 in 2022 and this will work itself out. And you know, the government had put some things in place, opening up the ports in LA for 24/7, that'll add about 3,500 containers a week but you compare that to the Port of Los Angeles did 950,000 containers in August. So this is not going to be fixed by the government. This is going to be fixed by the private market. And our bet is that it's going to be fixed sooner than later.

I think the other reason for the pessimism coming into earnings season, Alexis, was the fact that estimates, earnings estimates on the S&P for 2022 had been subdued and had even slipped a little bit backwards in the last four weeks after going up pretty much every week for the last six months. And going into Q3, the estimated earnings growth was 27.5% year on year. If we look over the last five quarters though, it's beat on average by 19.1%. So if we applied that to this quarter and shaved a little bit off for the concerns that you mentioned, we're still potentially going to see earnings growth of 40% or north in Q3.

And that's less important for what happened in the past in Q3, it's more important for looking forward for what's going to happen to guidance. And we think the estimates for 2022 at $220 for the S&P are far too low, and as we get through earnings season, we're going to see those taken up to $230 and beyond. And that's going to make the market look a lot more reasonable moving forward. And it's going to bring that multiple down.

KARINA MITCHELL: And you say, you know, obviously you're very optimistic and you talk about looking forward in guidance. We've just come off a great week for bank earnings, the top big five banks all doing really, really well. But a lot of the story was loan loss reserves, right, releasing them. Those now dwindle, so do we still expect to see the same momentum and the same gains going forward? And if you will, what sort of sectors do you see as being really frothy right now, and what's undervalued? Where should people be looking to make investments?

THOMAS HAYES: Yeah, I think you bring up a great point Karina, loan growth is a lagging indicator. So we're still in the early part of the cycle. We had a full-blown recession, two quarters of negative GDP growth last year. We are getting the benefit of those loan loss reserves being unwound. But we did start to see loan growth increase, and that's going to accelerate further. And as that yield curve steepens, there's a greater incentive to lend more and that's going to add to net interest margin.

Now, Chair Powell at his last press conference he signaled taper is coming. We think it's actually going to be a December announcement and not a November because we didn't get a decent jobs report for September but we likely will in October and November. He's not going to see those at the November meeting. He's going to see it at the December meeting. But as such, you're going to see the 10-year yield continue to creep up, it's gone up from 130 bps to 160 bps. And we anticipate it will be-- have a two-handle by Q1 of 2022.

So in that environment, rising yields, the long-duration earnings, the high-multiple tech stocks that are trading on future earnings growth become less valuable as rates rise. What becomes more valuable are the cyclical and the value stocks. One group we like here that got beaten down over the summer when yields were more compressed is industrials.

And two names in the industrial group that got beaten down that we think can have nice runs over the next three to six months and outperform the general market, first off is Lockheed Martin. Lockheed Martin is going to earn 27% more next year than it did pre-pandemic and yet, the stock is down about 15% from its pre-pandemic highs. It trades at a 12.5 times forward multiple relative to the market over 20 times, and you get a 3% dividend yield while you wait.

And the second one we love is Boeing. We think international travel is coming back. We know, November 8th we're going to let vaccinated people back in. So that's a positive thing. But more positive than that, we saw Boeing in recent weeks come out and say demand from China is going to be $1.47 trillion over the next two decades. And the next catalyst for the stock in our view is going to be the ungrounding of the 737 Max in China. We saw it happen in India about four weeks ago, we think it's going to happen in China and perhaps the virtual conference between President Xi Jinping and President Biden coming in the fourth quarter of this year could be the catalyst that unlocks that ungrounding and that could really send Boeing stock higher. We like that here as well.

ALEXIS CHRISTOFOROUS: And Tom, are you making any room in the portfolio for Bitcoin? It's really had quite the run, it's now above $60,000 here today and investors seem to continue to put money into the cryptocurrency space, really as a hedge against higher inflation. Do you see it that way, is that the way you're using it?

THOMAS HAYES: Yeah, you know, it's interesting, people felt that way about gold after World War II, and if you'd put $10,000 in gold in 1948, and you put $10,000 in the S&P 500 at the same time, you would have made 50 million more dollars in the S&P 500 as a quote-unquote "inflation hedge" versus gold. And I think that certainly, Bitcoin has different characteristics but we've seen this movie before, and historically, your best hedges when it comes to inflation are stocks that can raise their prices, that have pricing power. And also energy and commodity-related businesses, productive businesses that throw off yield, throw off dividends, tend to be good hedges in inflationary periods, as well as real estate.

So Bitcoin is kind of unproven in that context. Yes, there is perceived scarcity. Yes, more institutions are moving in. Yes, there will be more demand as you get the ETF as we saw with the gold ETF going on close to a decade ago. So we're kind of agnostic here at this level. It's not our specialty. We specialize in productive assets that throw off yield and that we can model their productive power in the future. So we'll take a pass on that one.

ALEXIS CHRISTOFOROUS: All right, Thomas Hayes at Great Hill Capital. Thanks for being with us today.