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Why there’s no need to be an ‘alarmist’ in the market

HSBC Global Asset Management, Global Chief Strategist Joseph Little, joins Yahoo Finance to discuss the Fed's updated forecast announcement and what the bond market plans to do in anticipation for the future of the market as it continues economic expansion

Video transcript

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MYLES UDLAND: Hi. Welcome back to "Yahoo Finance Live" on this Friday morning, mercifully, a Friday morning here. Taking a look at futures, we see we are set for losses on the open markets reacting a little bit to those comments we heard from St. Louis Fed President James Bullard just about a half hour ago or so. But let's stay on the Fed and talk a little bit more about how investors are thinking through what we learned and what we didn't learn this week.

Joining us now to discuss is Joseph Little. He's the Global Chief Strategist at HSBC Global Asset Management. Joe, thanks for jumping on this morning. So let's just start with how you guys have thought about what we heard from the Fed, what you've talked about with your clients, and how big a shift you believe it was from the Central Bank on Wednesday.

JOSEPH LITTLE: Thanks, Myles, nice to hear you. So yeah, an interesting week for all the reasons that you mentioned. We have the comments from Mr. Powell in the press conference, the updated forecasts. I think what the Fed is really responding to is that environment, so slightly faster rebound in economic activity, faster data on inflation, maybe a slightly longer transitory phase of elevated inflation than many economists expected.

And so the Fed quite reasonably, quite rightly, has to adapt and adjust to that. We saw higher growth forecasts, higher inflation forecast in Q4. And really, what's got the markets in a little bit of a tizz is this projection for bringing forward of interest rate rises in 2023. So I mean, as we digest that, I think it's important to set those forecasts alongside Mr. Powell's comments of taking some of the projections with a bit of a grain of salt.

There is a significant amount of uncertainty about the outlook. The current environment is kind of reminiscent of the Bernanke Fed in the aftermath of the financial crisis, where Mr. Bernanke struggled to keep some of the other Fed members in line and on message.

So as the Fed begins this process of talking about tapering, there are going to be these spaces where sometimes there is some communication challenges, where sometimes where the Fed is talking about risk management. That becomes a little bit more of a challenge for the markets to digest as a message.

I'm not sure too much has changed in terms of the outlook this week. We're still in the phase where we're talking about tapering. We're looking forward to Jackson Hole and the September FOMC where we expect that Fed is going to lay out the playbook for what the QE taper looks like, most likely starting with MBS and then delivering that program from the end of this year through 2022.

And I think that's still the right working assumption to have. We don't anticipate a big temper tantrum or overreaction in the bond market. But I think the environment does leave us still in an environment where the economic expansion is continuing and we should expect higher bond yields, bond yields getting gradually higher over the next six to twelve months.

BRIAN SOZZI: Joseph, Bullard's comments this morning, President Jim Bullard's comments this morning, do you think that is the growing consensus with inside the Fed? And if so, what does that mean to the markets?

JOSEPH LITTLE: Well, I think what the market is going to focus on, and it's not always easy, is the evolution of the economic expansion and looking for signals ahead as the tapering debates and dilemma becomes a bit more front of center, particularly moving into the August, September period around Jackson Hole.

We have had a phase where the data has been a little bit all over the place, lots of one-off effects, unusual effects, base effects in the economic data. So I think we have to manage that by really listening very carefully to the core members of the Fed, Mr. Powell, Mr. Clarida, the inner circle. And that gives us, I think, the insights in terms of the broad trends.

Clearly we're in an economic expansion. The data is going to continue to improve in GP. Labor markets are going to heal. But that can take a little bit of time. And that's why this focus from Mr. Powell, Mr. Clarida, the other members has been emphasizing the fact that they're willing to look through some of the transitory pick up in inflation, focusing on this average inflation targeting message as the overarching philosophy.

And they're really going to take their time in terms of exit from policy. So I think it does mean higher bond yields. But I wouldn't be too alarmist in terms of the messages that we've seen this week in terms of viewing it as a really meaningful change in the outlook. I still think we're left with a strong economic expansion. Bond yields moving higher. And then value parts of the equity market are going to continue to outperform well on a relative basis.

JULIE HYMAN: Though, on that last bit, Joseph, we've seen a little bit of muddle, I guess, in the so-called reflation or re-opening trade this week. We've seen a lot of commodities come down. But we've also seen sort of the tech underperformers start to reassert themselves once again. Do you think that trade is done? Where do you think we are in terms of that reopening trade?

JOSEPH LITTLE: Well, the reopening trade has really been running at pace in the markets and also in the economic data, particularly in the leading economies, the US, China, industrial Asia. I'm here in the UK. We're a little bit further behind in the story.

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But I think the UK and industrial Asia in China are really moving into this expansion phase of the business cycle. So we've had the instant recovery, a big bounce back. We're moving into a phase now where economies are going to continue to perform. But it gets a bit choppy for markets, because expectations, investor optimism has got a long way.

It's hard to surprise positive investors, but also because we're seeing policy is in play. Policy normalization is being talked up in Asia. We've got talking about tapering at the Fed. That creates some confusing signals for investors. And it creates a slightly more tricky set of macro narratives for us to trade.

So we've got to be realistic about the kinds of returns that are achievable at this point. We've had a great half of the year in the first half. I think maybe it gets a little bit trickier for investors in the second half of the year. But what I would try and do as much as possible is maybe trying to look through some of the noise in the data, some of the noise in the day to day commentary, and focus on those core trends.

Economic expansion, labor market healing is taking place. That does imply higher bond yields. And it should be a phase where value names, cyclical names, laggard parts of the equity market, even Europe is going to be focusing on performing really pretty well on a relative basis, but still favoring equities over fixed income is going to be the right strategy, I think, for investors during this next period.

MYLES UDLAND: And Joe, finally before we let you go, something you flagged in your notes I was looking at, the chip shortage in some of the structural drivers around that kind of trade, and it strikes me, and it always does. It happens every so often during the flows of an investment year. We start talking about the Fed and macro, and we forget some of these fundamental drivers.

But ultimately, it seems like that trade and specifically, as you note, as it relates to data center build outs and electrification of auto fleets, that trade still remains intact. Is that one of those themes in the background that you're kind of talking about that remain important to keep in mind when we all spend a week being Fed experts?

JOSEPH LITTLE: Yeah, Myles, I think that's a great point. So it's very easy to be focused on what's going on in terms of the 10 year bond yield, being Fed experts, and talking about those trends, and then trying to boil down the market view to some simple value versus growth axis.

In reality, as I say, I think it's going to get a little bit trickier going forward. Expectations have moved a long way. Investor positioning has moved a lot. That narrative around inflation has been traded very strongly by the market. So maybe the best strategy is taking a bit more of a barbell approach. Trying to be nimble in markets is, of course, a good style to take.

But for many investors, taking a bit of a barbell approach, focusing on some of those unloved cyclical value names, which have lagged and could catch up, is part of that strategy.

But alongside that, as you say, there are some really important megatrends that are taking place in tech, in green tech, in the tech sector in Asia, in particular, as well, developments in semiconductors, and all of the things that we've become focused on in terms of medium term trends are going to remain important.

And it's really important not to overlook some of those issues. So if anything, maybe the lesson of this week is a reminder that some of those themes are there. They remain in play. They're going to be big, big multiyear themes for economies, and for investment markets.

And we shouldn't overlook some of the developments that we're seeing in electronic vehicles or semiconductor space and in the tech space generally. We certainly need to be maybe adopting more of a barbell approach to make sure that we capture some of those growth themes, alongside some of those laggard themes in the investment portfolio.

MYLES UDLAND: All right, Joseph Little, Strategist over at HSBC Global Asset Management. Joe, always great to get your thoughts. Thanks so much for jumping on this morning. I know we'll talk soon.

JOSEPH LITTLE: Thanks a lot.