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- [00:00]
A
What's up, guys? I am sitting down with Ross Mayfield, an investment strategist at Bayard. Today we get into his favorite sectors for the year, the sectors that he would not buy. Right now, the latest on the AI trade and where it's headed, what semiconductors are doing, what utilities are doing, and much more. I learned a lot in this conversation.
- [00:18]
B
I think you will too. Ross. I would love to get your top of mind read on how markets are doing, because we're up about three and a half percent to start the year, but under the hood, it's a very bifurcated market. What are you looking at?
- [00:33]
C
Yeah, absolutely. This is, you know, year four of a bull market right off the October 2022 lows. And at this point, even if the bull market is going to continue, which we think it will, this is when you do really start to see the divergence between big winners and big losers, when earnings start to take kind of the lead from multiple expansion, when that rising tide that lifts all boats kind of stops a little bit. And so you see it in tech. You see semis taking off, software taking it on the chin. You see some of the defensive names have really struggled. I think we're still in a pretty good setup for this bull market to continue. But this is like, this is the active manager's dream, right? This is what you always want, is you want a stock picker's market where that dispersion is really, really wide. You can focus on fundamental stories and maybe worry a little bit less about what the Fed's doing or what the big macro story is, but the setup's still good. I mean, I still like the market higher in the year end.
- [01:24]
B
So let me ask you about the AI trade then. I know that you are not in the camp that it's a bubble. And you also have said that you don't see this as a 1999 analog. Where do we fall in that cycle then if we're.
- [01:40]
C
And I think it's the right way to think about it, if we're using the late 90s, right? Everyone has that muscle memory that's, that's in the market today. So I think it makes sense. You know, we're in maybe 96, 97 to me. I mean, at year four of a bull market, again, year four of ChatGPT. But the price action has been so muted compared to the late 90s. And that's even with this AI bull market, right? If you look at late 90s charts, I mean, it's insanity. The public opinion on AI right? So the late 90s, all the stories are your taxi driver, your barbers pitching tech stocks. They're, they're on the web forums. They're quitting to trade. Today, there's more of, like an anxiety about AI that I think has kept sentiment really muted. So you don't have the price action. You don't have, you know, bullish, euphoric sentiment. And. But then the other thing is the supply demand, right? If you're going to have a bubble, it typically starts with overbuilding over capacity, right? From railroads in the 1800s to broadband in the late 90s. Today, all of the demand is being sucked up. I mean, there is no extra supply. There is way more demand than chips or any kind of AI compute that we can bring online. So I think the pieces are in place for a bubble down the road, but I don't see many of the signs yet today. And I think there's a lot of opportunities still in those stocks.
- [03:01]
B
So when someone comes to you and says, hey, I think AI is in fact a bubble, what is the data point that you point them to, if there is one that stands out?
- [03:11]
C
Yeah, and I'll get you this chart because it's my favorite one. I take it on the road all the time. It's the NASDAQ index to Netscape's IPO in 95 and index to ChatGPT's debut in late 2022. And you can see that right about this time, about year three and a half, year four, the Nasdaq takes off in a vertical line, right? We're not talking about a diagonal line. The Nasdaq goes vertical in 98. You're talking about doubling in five, six months after having already gone up 400, 500%. And today, again, we're in a nice bull market. Nothing to, like, you know, be upset about, but not even close to the price action. So that is the guiding light for me right now, if we're looking at it. It's such a simple thing, but price is the thing. It comes back to price because it's supply and demand of investors. And there's just not that every bear on the street gets laughed out of the room since right now, yeah, it's
- [04:06]
B
very hard to fight the momentum that we've seen, even with the pullback with the Iran conflict. The underlying story, I think, in technology is still there. But let me press you on the supply demand story. If demand is truly outpacing supply, why do you think we've seen names like oracle down almost 40% in the last six months. And there's a few other examples of that. How do you reconcile those things?
- [04:33]
C
Yeah, it is a really interesting dichotomy and this is why I think there's a little bit of something for everyone in this market. Right. Momentum traders can jump on the chip names, the memory names. I mean, the trend is beautiful there. And then the value investors can look at some of these really beat up software names and say, all right, if I look at the next one, two years, are those earnings estimates going to hold up? I think especially in the big names, you'd be hard pressed to say no. You rarely get multiples compressed as much. I mean, they're trading at a multiple discount to the S and P for the first time in 25 years. Software as a group, I should say. So it's anxiety, it's fear about what is going to do to these once impenetrable businesses. They may take it on the chin down the road. You know, there is going to be some shakeout in software. But I'm really hard pressed to see a world where an Oracle or a Microsoft loses enough market share to justify the move in the stock that we've seen so far.
- [05:28]
B
Okay, so I see guys like Michael Burry comes out with bearish calls on the AI trade, various pockets that he calls bubbly. How do you take that? And headlines like that. And then look at the fundamental story. But then people are mostly reacting to like a Michael Burry substack as opposed to an earnings call. Is it possible that the sentiment gets so bad that it actually overwhelms the fundamentals story?
- [05:58]
C
It certainly can. I mean we saw, was it four or five weeks ago now, the Citrini report? I mean that was, you know, that came out of nowhere and spooked the biggest investors on Wall street for a day or two. So yes, the sentiment can get so bad that overwhelms, especially in that software space. For folks like Michael Berry, who has made a name with bearish calls and short bets, it makes sense that that's where he might be. And I'm not going to look at you and say that valuations aren't frothy, that there isn't some evidence like Allbirds pivots to AI. That's exactly the classic sign of maybe things are getting a little frothy here or there, but from a market wide perspective, I just don't see it yet. And I actually think, you know, unless that negative sentiment gets so overwhelming, you know, what's the old colloquialism like bull markets are built on walls of worry, whatever it is. Like that's what you need. You need that skepticism to kind of fuel the bull market higher. And I think that when we get into an earnings season like this, earnings are so, you know, quaint compared to big macro stuff, but it reinforces that demand is there. Right. All of these companies are talking up AI, even if some of it is a little more hype than reality. I think there's clearly plenty of decent fundamental stuff out there.
- [07:14]
B
The way I've read the strength of the market has mostly been about earnings, like coming back in such a pronounced V shaped recovery with the Iran conflict. To me, that was all about, okay, the story behind the geopolitical backdrop hasn't actually changed since the start of the year. If anything, it's probably gotten more compelling from my perspective. I. How are you looking at, let's say, the coming out or emerging from, let's say, the geopolitical noise? Where do you, where do you see the market going from here?
- [07:47]
C
Well, I think you're 100% right. So the move that we saw off the lows of the Iran story, an 11% move in 11 days, that's the type of urgent buying. That to me is emblematic of a bull market. Right. If people were skeptical about the underlying fundamentals or the domestic economy or the AI trade, you wouldn't get such robust and urgent buying as soon as the administration kind of gave a hint that there might be an all clear on the straightforward moves. So stimulus, I think is a big part of the story. Right. So the one big beautiful bill passed last year. You've got consumer stimulus, you've got all of this business facing stimulus that is really working underneath the surface of the domestic economy, helping spur some of the AI, build out the data centers. There are a lot of provisions that really help that sort of stuff. The Fed is pulled back from thinking about hiking. So you've got maybe they're not cutting, but they're still pretty accommodative. Fiscal stimulus and AI demand and the consumer and labor market are holding up okay. But with those other three legs of the stool so strong, it makes sense to me that the market was so ready to look past Iran, even if that remains far from resolved at this point.
- [08:59]
B
Yeah, I think that's a great framework to be working from. Let me press you on the urgent buying. What do you mean by that?
- [09:06]
C
So the, the bounce off the lows kind of that, you know, we've seen it a couple times in the last few years. That V shaped bounce like as soon as there was an all clear, as soon as we had a couple of big capitulative selling days, there was so much urgency for buyers to get back in the market that what do we have, 12 straight up days on the NASDAQ? Something like that, like that strikes me as dip buyers who are not willing to wait another minute to get into the market to put capital to work, even if, you know, at, at worst it was a 9% sell off. Like that's nothing in the grand scheme of things. And people were still chomping at the bit to get back in the market, especially to bid up some of these semi names, some of these AI linked names that, that are really the, the future. So I, I think that urgency of buying the kind of breadth off the lows and is a sign to me that this is a healthy bull market and that that was, you know, maybe an isolated pullback, not a bigger bear market sign.
- [10:03]
A
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- [10:13]
B
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- [10:14]
A
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- [10:46]
B
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- [10:48]
A
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- [11:11]
B
When you see this it all, it does feel like there's a bit of exuberance coming out of the, the bottom and you know it's going to be choppy until the geopolitical political situation really resolves. Does any of that concern you? I mean the, the speed of which that we came back?
- [11:29]
C
I do so, yes, but maybe not in the way that, that I think that we're in a bubble. I do think that there's a point where the dip buying every time the market is down 5, 6%. And there's a generation of investors that have been trained that you just buy the DIP no matter what.
- [11:44]
B
And they've been right.
- [11:45]
C
And they have been right. There will come bull market or I'm sorry, bear markets that do not snap back. And I worry about what the complacency or what that type of investor does in an environment like that. So 2022, that bear market was about 10 months, which would be the longest in some time. I mean, that's the longest bear market that a full generation of investors has probably seen who weren't around for 2008. And that's pretty rare to only have one of those in the last 15, 16 years. So I do worry a little bit about maybe the psychology of investors who are so accustomed to V shaped bounces, are accustomed to Fed puts and policy puts that there might come a day where those aren't standing ready and how people react in that sort of environment.
- [12:28]
B
Well, we've pretty much had two parallel V shaped recoveries within 12 months with Liberation Day and this most recent one with Iran. That definitely gives the DIP buyers a lot of ammo and a lot of reason to say, hey, we were right to pile into the market as it's falling. That to me, and again, this is very much a, I would say like a young man's view of the market. To pile into the market anytime that you see even the slightest weakness, that's an opportunity. What are your clients that you work with? How are they looking at the market right now? And maybe what are they optimistic about or concerned about?
- [13:10]
C
So in recent years it's been, is AI a bubble? Right. The way that I always frame it is we're kind of always the general fighting the last war. And so clients who've been investing for 30 plus years will primarily remember the dot com bubble and then the great financial crisis. So they're looking for the next big short. Is it private credit, is it student loan debt? And they're looking for the next tech bubble. Right. So the AI echoes of the late 90s were really prominent, especially when the market seemed to just go up and up and up over the couple of years. I would say more recently the geopolitical situation, the changing kind of global picture of alliances and who's our friend and who's our enemy and do we have a handle on this sort of thing? And then the two big things that for our clients who are primarily 50 plus high net worth clients, the national debt and the status of the dollar as a reserve currency, those are Preeminent, always under the surface. Even in bull markets, things that are really hard for our clients to move past or to kind of get really comfortable with where those sit. So there's always something, how do you
- [14:20]
B
invest around those two things? Because you can't really do anything about them.
- [14:24]
C
It's true. And that's typically, in so many words, how we frame it. The national debt has been going up for ever, and the market has not really responded with a bear market in response to the national debt. As for the dollar, there's just an education aspect, right? Like the market, the equity markets here, the international markets do really well when the dollar is weak. Last 15 years have been a strong dollar environment. US has, has benefited from that in some ways. We benefit from having the reserve currency in a lot of ways. But if you're an investor just looking at stocks, it's far from the most important thing. So always trying to drive back to what do you own? Why do you own it? Do you own good quality companies that are growing their earnings, that are innovating? And that's usually the story we try to tell when those kind of big hairy macro worries that we really have no control over creep in.
- [15:15]
B
Well, what's interesting, if those are the two fears, the debt and the dollar strength, do your clients then make the jump to, okay, how do I gain bitcoin exposure? Is that part of the conversation too?
- [15:30]
C
So because of the kind of age and demographic of average client, it's more gold still. But very much the same thinking as to someone who frames bitcoin as a digital gold or a gold alternative for a new generation. Right. Fixed supply outside of the financial system and meant to act as a hedge in times of geopolitical crises or debt crises or inflation. So yes, there is a lot of interest in gold. Gold and silver obviously had that big rally to start the year that feels like a million years ago now. But that was vindication for a lot of our clients who've held positions in precious metals and who are thinking kind of with a bigger, you know, bigger, broader view of diversification in the last couple of years. Post Covid.
- [16:20]
B
Yeah, that makes sense. A lot of the investors I speak with who have been ringing the sort of super big picture risks about, you know, the debt, for example, they always go to bitcoin, they always go to gold. And they essentially say if you don't own those two assets, you're. You're losing out on a lot of upside. And you're also exposing yourself to the risk of not owning them. Let Me ask you about from a sector level, what are you most optimistic on right now in the stock market?
- [16:52]
C
Yeah, so I think tech, but we've talked tech. So I want to focus on kind of the, I think there's a tech bull market and there to me is a real economy bull market. Right. So small cap stocks have rallied faster and harder and outperformed this year. Those to me reflect strength of the domestic economy and probably some stimulus and lower rates as well. Another piece of that that I'm really bullish on is the industrial sector writ large. So there are structural tailwinds for aerospace and defense. Right. We don't need to hammer the point, but obviously every other country is looking at how much they're spending on defense and saying it needs to be higher elsewhere in industrials, which is a very diverse sector too. So it's also a stock picker's dream. But machinery and construction names, transport names like these real economy, these old school stocks have done really, really well this year going into the Iran crisis and have been leadership on the other side of it. Again, there's a lot of stimulus aimed at reshoring, at building up domestic production and manufacturing and data centers. And that's tech. But it's also, you know, boots on the ground. It's, it's laying bricks. It's doing all the kind of old economy stuff that gets forgotten about. The difference is the stocks are working now. So I think there's a real structural case for industrials. You know, they're, they've done okay this year, but they've been in a really robust bull market for the past three or four years. I think that's set to continue. I think we're seeing like a full RE rating of how investors are thinking about these sorts of stocks.
- [18:21]
B
Well, it's interesting because industrials are now essentially part of the AI trade. So you could say, look, AI trade, I like the semis and I like the chips, but depending who you ask, they would kind of lump in industrials with that broader AI momentum.
- [18:38]
C
Yeah, I mean, power names have absolutely taken off. I mean, obviously the kind of, the second derivative of AI is well, it needs a lot of energy, it takes a lot of electricity and we need all hands on deck to satisfy that. But you know, even outside of that, right, like data centers are huge buildings that have a lot of industrial inputs. The end goal is AI. But to make that happen in this country, you know, we see it from a policy perspective. Right. There was a lot in that bill to support that industry and that building but we also want to. I mean, every supply chain that we found out was really fragile during COVID even before the AI boom started taking off a couple of years ago, you know, we knew that we needed to put policy in place to, to bring some of those industries back home. That's industrials all the way. It's construction, it's machinery, it's. It's rebuilding in a lot of ways in this country. And a lot of stocks have seen the benefit. You know, caterpillar deer like stocks like that are in a bull market.
- [19:37]
B
How does that tie into your view on the housing market as far as from a stock market perspective? How do you think about that?
- [19:45]
C
It's almost the exact opposite, right? There is. There's obviously a need for more housing, but between the rate backdrop and between the focus on kind of the industrial and commercial building, housing is just in a really tough spot. I mean, all of the housing economic data would say that that sector has been in a recession for three or four years. There's clearly demand, like people want to own their own home, but there's not, you know, at the, at the. Where prices are, where rates are, and we've seen these mortgage rates sticky above 6%. It's just really hard for the builders to get excited about this environment and put boots on the ground. Supply chains are a problem. It's hard to get raw materials. It's expensive to get raw materials. Labor is a problem right now. So the case for home builders here would be valuation would be they've just gotten so beat up that maybe you just, you jump in because valuations are cheap. But the fundamental case is really hard to make, especially if this is the rate backdrop that we're working with for the foreseeable future.
- [20:48]
B
You know, the. The White House has been tinkering with the housing market quite a bit, trying to figure out how to get some energy into it. And I'm pretty pessimistic, I would say, on whether from a policy level they'll be able to figure anything out because housing has just been so frozen for several years. Consumer staples this year we came into the year, I spoke with a lot of strategists who said, hey, this is a great sort of defensive positioning. We have an uncertain year ahead. They've not really performed that well. What do you make of this?
- [21:22]
C
Yeah, I mean, the hard thing with any defensive sector, right, is it's going to be lower growth by definition. It's going to be something that you just hope provides a ballast when markets go haywire and you Know, the reason I think I'm a little more bearish on staples is they didn't really provide that ballast. I mean, there might have been a little relative outperformance over the last six weeks, but not nearly enough to say we should be overweight this in case Iran devolves again or in case XYZ happens. That tanks the market. You know, the more defensive sectors like utilities kind of did that job again, you know, a low growth sector, maybe a little bit of a tailwind, but they acted a lot better. And the other thing about these rate proxies sectors, right, these high dividend yielders is if rates are high, most people would just rather own a Treasury yielding 4 or 5% than a staple that might lose price low growth and the dividend yields are still 2,3% for most of those. So it's not been a sector that has a lot of upside in a bull market and has not done exactly what we want to see in a down market. So to me it kind of begs the question of when and why is that a sector? You really want to lean in on some good individual stories in there, but writ large just hasn't done what we would have hoped.
- [22:36]
B
I mean the upside just isn't there on a sector level for sure. Compared to something like tech or according to many people, maybe yourself, software could be a big winner second half of the year. My sense is that you are generally optimistic about stocks this year, about where the economy is going. What would it take for you to turn bearish on the equity outlook?
- [23:01]
C
Sure. So the way we usually frame it up is just thinking about history. Right. So average entry or drawdown 14%. Midterm years are typically more volatile, 17, 18%. So again, at its worst, right, we're in a full on conflict in the Middle east with Iran. The market's down 9%. So just an average midterm year is basically close to a bear market. So that to me is expect like that's baked into what we're thinking about. We're bullish on the market, but knowing that midterm years in particular tend to be a little bit more volatile. Now, maybe we've pulled some of that volatility forward and have already experienced the worst of it. A couple things would worry me. Number one, I would be tactically bearish if it looked like the Fed was going to make a policy mistake. I'm really encouraged that markets have started pulling back on the expectations that the Fed might be hiking. Hiking into an energy shock basically guarantees an economic slowdown and Potentially a recession. That would worry me if the new Fed chair or if any of the Fed governors were out there in the press talking about we might need to hike rates because we're more worried about inflation than the labor market. The other thing is, as much as AI is driving the bull market this last four or five years, our economy is still very much consumer and the labor market is, I think it's okay. I think in some ways it's overstated how bad it is, but it's certainly not super healthy. And I think that we're not all that far from something kind of breaking the consumer's back and that drives the economy. So there could be a world where maybe the market doesn't take it too hard because the AI trade is still on. But if we lose the consumer in a meaningful way, it's really hard to stay super bullish on the US and the outlook for the market. So those would be the two things, and they kind of work in tandem because if the Fed is raising rates into an energy shock, it's going to hit the consumer at a time when they can't really stomach it.
- [24:54]
B
Well, I think the consumer has much less cushioning than years past. As far as rising gas prices hurt a lot more today than maybe a year ago. Is that the right way to think about it?
- [25:05]
C
Yeah, absolutely. I mean, and it really hurts the lower income cohort because they spend, you know, a bigger portion of their budget on gas and food. Right. So they're getting hit right where it hurts at a time where they're already, you know, struggling with higher rents. And it's not, it's been a very bifurcated consumer. I'm sure you've talked with people about this, where high income consumers who own their house, who own stocks are like partying in the streets. And that's why some of these discretionary stocks like hotels and leisures, have done pretty well in a, in a backdrop that you might not expect because that consumer cohort is still spending. On the flip side, you have a lower income cohort who is a wide, you know, a vast percentage of this country. And as you mentioned, just very little margin. Very little margin. So higher gas prices, higher food prices, higher rents, it's already tough. And then if you lose the labor market even a little bit more than we already have, you could really start to see things spiral real quick.
- [25:57]
A
We'll get right back to the interview. Just wanted to pop in and say, if you like this content, I write a newsletter every single morning called Opening Bell Daily. I cover Macro, the stock market asset prices, why things are going up, why they're going down. And if you want to get that for free, you can sign up at the link in the description.
- [26:15]
B
Let's get back to the interview. So what do you make of. I know you said the labor market's okay right now and I agree with you that it's, it's not necessarily at the point where I think we can give in to the real doomer outlooks on jobs. Do you think that the AI taking jobs narrative is overstated right now?
- [26:38]
C
Yes, I do, but I don't think that that means it won't happen. I do think that there is a portion of Silicon Valley and really firms writ large that are, are doing layoffs and saying that they're finding AI efficiencies and are really just using as an excuse if they want to juice their margins a little bit. I think that it's, you know, we've been through this countless times as a society where new technology comes along. There's a doomer narrative about how it's going to replace jobs and it never comes to bear out right now the economy changes where the jobs are, the industries, the sectors that are hiring. So that could still happen and that, that is not a painless process as we kind of reorganize where people are working, what kind of work they're doing. But if a new technology were to be a net reducer of jobs, it would be like the first time in the last couple hundred years that that were the case. So I'm willing to lean on history there with like a big acknowledgment that this could be different, this could be a technology that changes the, the dynamic. And again I would, I would just say, right, it's a very low hiring environment already. People are not really getting fired, but people aren't really getting hired. And especially if you take healthcare out of the picture, Healthcare has been the only, basically the only driver of jobs growth over the last couple of years. Fairly AI proof at least at this point in time. But like financial services information, you know, all of these kind of white collar sectors have not been hiring for years now. I think it's too early to lay it at the feet of AI, but that doesn't mean that it's not happening.
- [28:11]
B
It's pretty scary in the, in the sense that not that jobs being replaced, but that AI is literally barring the next generation from entering the labor market. And we, we had run one report from Pro Cap Insights. It found that the hiring rate, if you take the 3.1% hiring rate, which I think is like a six year low, this suggested number is that it's a million jobs were not created this year. And that that is just a, you know, it's a mind bending number to think that, okay, if a lot of that was early career folks, kids coming out of college, those are pretty critical entrants that eventually become managers and director level people. And suddenly what happens if we don't have that cohort to promote in the workforce? Ross, where can people find your work online?
- [29:02]
C
Yeah, absolutely. So BairdWealth.com, we write weekly monthly reports. I write a newsletter called Five for Friday. Seek that out. Yeah.
- [29:15]
B
Bairdwealth.com, rWBAired.com I read a few of your recent notes. It's very good. I really appreciate you taking the time. And we'll do it again soon.
- [29:23]
C
It's been a pleasure, man. Thank you.