February 8, 2021 BARRON’S 37
With expectations for a strong economic
recovery, Subramanian favors energy,
financials, industrials, and health care.
blematic of more speculative drama in
the market, rather than in more funda-
mental investing.
What would make you more
bearish?
If we saw interest rates rise meaning-
fully from here. A big portion of the
investor base today is retirees looking
for income, forced to buy the S&P
- We’ve got really tight pockets of
the market where you could poten-
tially see an inflation spike. Two years
ago, we polled all of our stock analysts
to ask where they were seeing input
cost pressure and pricing power, and
the only two sectors they cited were
utilities and health care. We did the
same report a couple of months ago,
and almost every analyst cited infla-
tionary pressure.
Today, close to 70% of stocks pay
a dividend that’s higher than the 10-
year Treasury, which is very close to
a record high. [The 10-year currently
yields 1.12%.] If rates rise to 1.75%,
which our economist is expecting, that
proportion drops to 44%. And all of a
sudden, that story vaporizes. That’s
the swing factor. And that’s one rea-
son we’re less optimistic about equi-
ties, not to mention all of the
speculations we see.
The similarities between today and
2000 is democratization and retail
participation in the market, the decou-
pling of fundamentals from price.
The last time we’ve seen earnings sur-
prises met with negative reactions, as
we’re seeing now, was in March 2000.
The other similarity is our sell-side
indicator, a very good market-timing
model that looks at Wall Street’s aver-
age recommendation to stocks in a
balanced fund. That model is now spit-
ting out close to 60%, which would be
a sell signal, close to 2007 and almost
exactly at the same level as March
- All of these ducks are lining up.
So, what should investors do?
Focus on GDP-sensitive areas of the
market that haven’t done well for al-
most a decade. Our sector overweights
include financials, energy, industrials,
and health care. We find some pent-up
manufacturing demand from an un-
precedented paralysis in the manufac-
turing and services economy. We’re
more bullish on business investment
than on consumption of durable goods.
Within consumption, we’re more bull-
ish on a pickup in consumer services
than a pickup in consumer goods.
Based on our credit-card data for 2020,
unlike in the usual economic recession,
spending trends remain strong. We
had the fastest bear market. The Fed,
fiscal policy, and Corporate America
basically stepped up and staved off
what could have been a deeper reces-
sion. Spending took place in home
goods and the higher-end consumption
areas of the market. Those areas could
be at risk in 2021. Our sector under-
weights are communication services,
which are half-growth, half-bond prox-
ies; real estate; and staples.
In 14 of the past 14 recessions, the
recovery was led by value and cyclical.
So, we’re going to see a value cycle.
Growth stocks are overly discounting
this low-rate, low-growth environment.
An easier call to make than value is
another area nobody wants to touch—
smaller companies, because of liquid-
ity, because of the oligopolistic market.
We could be at the start of a longer-
lived small-cap cycle, which tends to
last eight to 10 years.
What about the technology and
megacap parts of the market?
Coming out of the tech bubble, value
outperformed growth for at least
seven years. Some cycles last awhile.
What surprises me is how reluctant
fund managers or institutional inves-
tors are to shed exposure to that past
leadership when we’re at what looks
like a break point in terms of the econ-
omy and the political environment. It’s
the hot-stove mentality, because every
year since 2008, where anyone has bet
on rising interest rates and inflation,
they’ve basically been smacked down.
More immediately, any potential
reversal in Trump-era corporate tax
cuts, which would make sense to fund
all of the growth, would hit communi-
cation services and information tech-
nology: the two leadership sectors
most overweighted by fund managers.
Let’s talk about ESG.
We’ve really seen a demonstrable and
well-articulated pivot of Corporate
America in terms of how they’re aim-
ing to please. They’ve gone from
shareholder to stakeholder returns.
That’s huge. They’re articulating and
essentially promising us they care
about the communities in which they
operate, their employees, and cus-
tomer satisfaction beyond the bottom
line. I don’t think it’s anticapitalist.
But I think it’s a new way of thinking
about capitalism. The corporate stim-
ulus during Covid-19 was sizable,
equivalent on some level to fiscal and
Fed stimulus. It was at least $1 trillion
of support from Corporate America.
Companies repurposed manufactur-
ing to create ventilators, engaged in
loan forbearance for consumers, made
monetary donations. My own com-
pany initiated layoff freezes. It quelled
a lot of consumer fears.
There’s a learning curve that has
been adopted by investors in terms of
separating the real from the green-
washing. We’re also seeing big
changes in the information that inves-
tors are being given about companies.
Companies have realized that if they
don’t publish a corporate sustainabil-
ity report, they’re going to trade at a
discount to their peer that does. So,
that transparency and explosion in
data is huge from an investor perspec-
tive. All of a sudden, you can codify all
of these factors we once only thought
about. But ESG is always going to be a
messy process. There’s always going
to be this interpretive element to it.
Yet despite being the global head
of ESG for your firm, you’re over-
weight the energy sector.
Renewables companies have done well,
despite the fact that we had four years
under an administration that wasn’t
focused on these themes. It’s really
great that ESG investors today have an
ally in the White House. Yet you don’t
need mandates from Washington poli-
ticians to get going. Investors realized
that the future is renewables and are
slowly phasing out traditional com-
modities. But we still need to keep the
lights on, and things going, to get to
carbon neutrality. There’s an opportu-
nity to buy traditional energy compa-
nies that are setting more-aggressive
goals of environmental compliance, but
are also providing much-needed fuels
to keep, to reintegrate, the economy,
because we aren’t at the point where
we can do everything on wind and
solar. So, we’re actually overweight
energy, which draws a lot of raised
eyebrows. I feel totally comfortable
with that because energy companies
are essentially reinventing themselves.
Thanks, Savita.B
Why Inflation
IsaBear
Inflationary
pressures
could increase
rates and drive
retirees seeking
income out of
stocks.
70%
Percentage of
stocks that pay a
dividend above the
10-year Treasury,
now at 1.12%.
Even with the pivot toward ESG,
energy companies will stay relevant
for a long time to come.
“In 14 of the past 14 recessions, the recovery was led by
valueandcyclical.So,we’regoingtoseeavaluecycle.”