Thematic investing about 'leaning into the growth side,' strategist says

Citigroup Managing Director Scott Chronert joins Yahoo Finance Live to discuss the market's reaction to July Consumer Price Index (CPI) data, Fed funds futures, recession risks, inflation, and the outlook for investors.

Video transcript

BRIAN SOZZI: Investors are still digesting a key read on inflation out this morning, with the consumer price index showing an increase of 8 and 1/2% For more on this and the broader investing landscape, let's turn now to Scott Chronert, Citigroup Managing Director. Scott, great to see you here this morning. I really enjoyed your note on investing themes. I talked about it earlier in the week. But I want to get your instant reaction to the CPI report. Markets seem to love this. Are they right, or are they wrong?

SCOTT CHRONERT: Well, I think they're right. I think there's been a lot of angst regarding the peaking and sort of Fed hawkishness. And I think what this sets up for is a little bit more appropriate Fed response to what we're seeing in terms of economic activity. So if you look at the Fed funds futures, for example, this expectation for Fed funds peaking in the beginning of 2023, it's an important narrative in terms of how we think about equity market positioning. So I'd say, yes, the response here is spot on for this particular data point.

JULIE HYMAN: In your view, was the June low, the low?

SCOTT CHRONERT: In our view, the June low was the June low. We think at that point, we were close to pricing in a mild recession. And so anything regarding interest rates or earnings that would be an upside to that mild recession risk were net positive for the market. Ergo, we had a positive view towards the second half for the S&P, which is sort of playing out pretty quickly here.

BRAD SMITH: What type of basis point hike does this give the Fed credence to do at their next meeting?

SCOTT CHRONERT: Well, the discussion, though, it had always been around 50 to 70 and then 100 crept in, I think this probably takes it back down to the 50 to 70, 75 basis point discussion, somewhere in there. We'll see because we still have some economic data between now and then. But I think suffice it to say, the Fed still has to keep an eye on getting this inflation situation down to a point where it can probably step back and take a look at how the economic activity indicators fall from here. And I think that's still on the come.

BRIAN SOZZI: We saw the jobs report last week, pretty strong. This report, encouraging. Are we just not going into a recession?

SCOTT CHRONERT: So there's a discussion out there that the soft landing scenario can take hold here, and that's part of our math in terms of how we think our S&P targets. I'd say there's probably still a decent chance of that. To get there, though, the way this has to play out is what's happening in the broader economy isn't precisely aligned with what's happening in the stock market, per se. It's sort of a function of the construction of the S&P 500.

BRIAN SOZZI: So the market hasn't priced in a soft landing?

SCOTT CHRONERT: I don't think-- no, the market has not priced in a soft landing. You can think of S&P levels more in the 4,700 level to reflect that.

JULIE HYMAN: So Brian referred to the thematic investing note that you put out. So if you're looking at a soft landing scenario, what groups then, what themes become the most attractive?

SCOTT CHRONERT: So let's step back on this, OK? So our view had been, going into the second half, S&P 4,200 is the year-end target. We're nearly there. With today's action, we might be very close. That doesn't mean you exit the stock market. What it means is that you have to begin to move away from an index focus around traditional macro variables to, let's call it, much more of a bottom up focus. And what the thematic approach does is begin to identify longer term structural approaches to investing in the market that can help you navigate soft landing or mild recession, essentially a path to look across an economic valley to the other side.

So what we're doing with this thematic approach is another means of leaning into the growth side of the market. The types of themes that are coming up in our work would include everything from artificial intelligence, internet-based business models, net zero, emerging market consumer, and top brands, which is sort of a moat play, if you will. But all of these align with approaches to stock selection that have more of a structural growth bias that is our means of navigating this ongoing Fed on, Fed off economic recession or not situation in the broader markets.

BRAD SMITH: And so across anything right now, it still comes with this caveat that you could have companies come out and continue to provide guidance that is lower than what TheStreet may expect in the near term. And so as we're seeing, even not just throughout the rest of this year but even going into early next year, some of that guidance start to come in and the forecasts and outlooks, what would you be looking for specifically to say that we've actually turned a corner?

SCOTT CHRONERT: Right. So you start looking for, obviously, for negative guidance or bad news elicits a positive market response, and that's sort of an ongoing approach that we use. What I just want to emphasize here is that when you look at the first half of the year, the major multiple compression on the initial inflection in rates was on the growth side of the market, which is going to align with a lot of these themes that we're talking about. So our view all along has been that the rate effect on multiples has been mostly priced in, and going back to that June low discussion.

And so from here, the issue does become, in our view, more of earnings growth trajectories. So you're right, you can still have a thematic play that succumbs to near-term economic response. Got it. That's to be expected. But still, what you get is some comfort that the underlying growth trajectory in a longer term basis that comes with said company or theme is a means of navigating that near-term volatility around economic consequences.

BRIAN SOZZI: So when you talk to your various analysts on the team, are there certain stocks that continue to pop up in their work that they like based on some of these themes?

SCOTT CHRONERT: Unfortunately, I cannot talk to specific stocks. But the fact is, when you look at the S&P 500-- and this was what was sort of interesting about the note-- we have 91 themes that our Citi theme machine follows. And not all companies within the S&P 500 are allocated to these themes. So you have a lot of companies within the S&P that don't fall in this thematic approach.

When we look at the performance of the stocks that are in the S&P that are in themes versus those that are not, they've tended to outperform over the past three years. Now, again, the past three years has had a gross stock bias to it, so it's not a big surprise. But it still plays to the same discussion. Essentially, you're looking for longer term growth opportunities in a market that's still reconciling where we are with interest rates and economic activity.

BRIAN SOZZI: Well, good to see you in studio for a change. We're avid readers of your work. Scott Chronert, Citi Managing Director. Good to see you.

SCOTT CHRONERT: My pleasure. Thank you.