Market areas that were 'comatose' for while are 'just kicking in gear,' expert says

Key Concepts

• Software Stock Correction: Significant downturn in software stock valuations.
• AI Trade: Investment trend focused on Artificial Intelligence related companies.
• MAG Seven/Eight: Group of large-cap technology companies (typically Apple, Microsoft, Alphabet, Amazon, Nvidia, Meta, Tesla, and potentially others).
• PCE (Personal Consumption Expenditure): The Federal Reserve’s preferred measure of inflation.
• 10-Year Treasury Yield: A benchmark interest rate that influences many other interest rates.
• Monetary Phenomenon (Inflation): The theory that inflation is primarily caused by changes in the money supply.
• Affordability: The ability of consumers to purchase goods and services, impacted by prices and income.
• Sector Rotation: Shifting investment focus from one industry sector to another.

Market Correction and Sector Rotation in Software & Beyond

Gary Kalpom of Calpom Asset Capital Management discusses the recent volatility in the market, particularly the downturn in software stocks and potential shifts in investment strategy. He expresses caution regarding a quick rebound in software, citing the significant declines even in companies like Oracle (down from $350 to $150 despite a $500 billion backlog) and Microsoft, whose valuation is currently at COVID crash lows. He emphasizes the need to wait for a sustained stabilization of the downward trend before considering re-entry. He warns against attempting to “get in front of the freight train” of institutional selling.

Kalpom notes a paradoxical situation: while the AI trade continues to perform well, other sectors are experiencing unexpected declines, citing examples like trucking, insurance, and brokerage stocks. He states, “the good gets goodter in with the AI trade, but the bad just keeps getting better.”

Shifting Investment Focus: From Tech to “Old Economy” Sectors

Kalpom identifies a growing opportunity in sectors that have been overlooked for some time: transports, oils, materials, and industrials. While acknowledging that earnings in these sectors aren’t currently exceptional, he points to improving guidance as the economy strengthens. He advises waiting for pullbacks, referencing ExxonMobil’s 20% increase in recent weeks as an example, before investing. He believes these sectors are where capital is currently flowing.

He also highlights the stronger performance of foreign markets (despite their lower liquidity) and small/mid-cap stocks compared to large-cap stocks, attributing the latter’s underperformance to the influence of the “MAG Seven/Eight” (referring to the dominant technology companies). He notes Apple’s recent $20 drop in two days and confirms he currently holds none of these stocks, a position he maintained from a previous conversation.

Upcoming Economic Data and Inflation Concerns

The discussion turns to the upcoming economic calendar, specifically highlighting the importance of Friday’s release of the PCE (Personal Consumption Expenditure) – the Fed’s preferred inflation measure – and GDP numbers. Kalpom believes these two data points have the potential to significantly move the markets.

He expresses greater concern about the job market than about inflation itself, noting that the job market appears to be improving. He attributes past inflation to monetary policy decisions, specifically referencing Jerome Powell’s actions of lowering the 10-year yield by half a percent and increasing the money supply to $9 trillion. He emphasizes the importance of monitoring the 10-year yield, stating that its recent drop from 4.3% to 4.0% suggests inflation is currently under control.

Kalpom acknowledges rising commodity prices as a potential concern but believes inflation remains manageable as long as the 10-year yield remains stable. He dismisses the possibility of the Federal Reserve lowering interest rates to 1%, as suggested by the President, believing such a move would reignite inflationary pressures. He states, “I’ve always believed that inflation is a monetary phenomenon.”

Affordability and Bond Yields as Key Indicators

Kalpom addresses the issue of affordability, acknowledging that once prices rise, they are difficult to bring down. However, he emphasizes that the rate of inflation is currently lower and expects it to remain so. He points to the declining 2-year Treasury yield (reaching a 3.5-year low of 3.466% and currently below 3.418%) as a positive signal.

He references a piece by Muhammad Alan in the Financial Times discussing the divergence between a strong economy and a weakening job market, encouraging viewers to read it. He concludes by stating, “I think we’re in pretty good stead.”

Notable Quotes

• “The good gets goodter in with the AI trade, but the bad just keeps getting better.” – Gary Kalpom, on the contrasting performance of different sectors.
• “I’ve always believed that inflation is a monetary phenomenon.” – Gary Kalpom, emphasizing the role of monetary policy in controlling inflation.
• “Watch the 10-year yield… As long as that’s behaving, that’s telling you inflation’s in check.” – Gary Kalpom, highlighting the importance of the 10-year yield as an inflation indicator.

Synthesis/Conclusion

Gary Kalpom presents a cautious yet optimistic outlook on the market. He advises against rushing into software stocks despite potential dips, advocating for patience and observation of institutional selling patterns. He identifies a potential shift in investment focus towards “old economy” sectors like transports, oils, materials, and industrials, while emphasizing the importance of waiting for pullbacks. He views the current economic data, particularly the PCE and GDP numbers, as crucial indicators, but expresses more concern about the job market than about inflation, believing the latter is currently under control due to stable bond yields. His overall message is one of strategic patience and a willingness to adapt to evolving market conditions, moving away from the previously dominant technology sector towards more undervalued opportunities.