What area investors need to contemplate amid economic growth

Brent Schutte, Chief Investment Strategist at Northwestern Mutual Wealth Management, joins Yahoo Finance’s Kristin Myers and Alexis Christoforous to discuss outlook on the market and inflation concerns.

Video transcript

ALEXIS CHRISTOFOROUS: Let's continue our markets conversation now with Brent Schutte, Chief Investment Strategist at Northwestern Mutual Wealth Management. Brent, thanks for being with us. So do you think that maybe the market here is taking a pause for a minute and thinking, you know what? The best might be behind us for now in terms of especially those growth and tech stocks.

BRENT SCHUTTE: Yes, and so I've consistently been on this show talking about cyclicals, value stocks, small caps, midcaps, places where the economic growth that is needed for them to move forward is broad. So we need strong economic growth for cyclicals to move forward. If you think about techs, they've been more benefited by the stay at home trade and they're not really impacted by things like the trade war, which was something that impacted cyclical growth before COVID.

And so as economic growth continues to broaden-- we see that on a day-to-day basis with the ISMs the last few days. As that broadens, you expect-- we expect cyclicals and value to continue to provide outperformance because their earnings are growing relatively faster than even the fastest growing tech stocks right now. And so that's the area that we're focused on in the market right now.

KRISTIN MYERS: So, Brent, speaking about that economy doing well, continuing to truck on, we, of course, had Treasury Secretary Yellen making some comments just yesterday about where she saw interest rates going. We have seen-- since seen her try to walk back some of those comments. She said that she doesn't exactly predict some of those interest rates going up any time soon. Who knows how much advance warning she gave the Fed before she made some of those comments yesterday? Curious to know how much truth you think there is in some of those original comments, if you think investors are really ready or prepared to hear them right now.

BRENT SCHUTTE: I think that is the big question right now. So if you think about the past 10, 15, 20 years, most of the talk about potential falling markets has been because of too little growth, right, or more deflationary type environment. Now I think the other side of the distribution is in play. The big question over the coming quarters is, do we get too much growth? Do we get too much inflation?

And I think one area that investors need to contemplate is they need to hedge that side of distribution for the first time in 10, 20 years. And so, you need to own things like commodities, which are going up in price quite a bit because of the rebuilding that's going on of the economy, and you need to be doing things like TIPS. And so now it's, to me, more of a question of hedging the upside of too much, not the downside. And I think that's an area that investors need to pay heed to.

Kind of tying that into Janet Yellen's comments, the good news is that even if we get inflation, at least in the near term, the Federal Reserve and other policymakers are going to look through it. They don't want to short circuit the economy because they want to bring all those people that were mentioned in your previous commentary back to work. And they want to bring people back into the labor force.

And so, I remind people once again that the unemployment rate only counts people who are looking for jobs, not those that have dropped out of the labor force. And in addition to those 8.4 million that Emily mentioned, around 4 million people have dropped out of the labor force. And so, they are going to stick around too long. And that's why I think you need to hedge inflation.

ALEXIS CHRISTOFOROUS: You know, I love stats like this. Mentions of inflation on first quarter earnings calls have surged by 800% year over year. Brent, as we continue to see higher costs for raw materials, higher costs for transportation, do you see higher inflation and perhaps higher inflation at the consumer level, the thing that might really trip up the economic recovery?

BRENT SCHUTTE: Yes, I think in the near term, the Federal Reserve is going to look past it. As a reminder, they are now looking to have inflation run high. And they need to have that actually happen for their credibility. The question over the coming quarters will be, is it more permanent? Is it more than just supply chain bottlenecks caused by COVID and caused by some of the massive demand that is out there right now? I think for that, you need to look at two things. And this was in the jobs report on Friday. You need to look at the labor force participation rate. Are we bringing people back into the labor force?

The other thing that is out tomorrow is called productivity. And so, if inflation is when demand exceeds supply, and supply is defined by how many people work and how efficient they are, how quickly people come back in the labor force and how much we can grow their efficiency are going to answer that longer term question. And so I don't know if I answered the question completely. I think in the near term, we're OK. But the question for 2022 is going to be, can that supply increase keep up with demand? Which we think the answer is yes. But that's certainly the one thing that I think that could upend the market in the coming years.

ALEXIS CHRISTOFOROUS: All right, Brent Schutte, Chief Investment Strategist at Northwestern Mutual Wealth Management, thanks for being with us.