America’s ‘solid foundation’ can sustain growth: Cumberland Advisors CIO

David Kotok, chairman of the board & chief investment officer at Cumberland Advisors, joins Yahoo Finance to discuss the market outlook ahead of earnings season and growth expectations.

Video transcript

MYLES UDLAND: David, I saw that note or that note from Jon Golub over at Credit Suisse, which you cite at the top of your latest missive. And I, too, quite excited to see the discussion of valuations in the context of how the market has acted. Talk a little bit for us about how you're thinking about these dynamics, as we look at the S&P at a record high this morning.

DAVID KOTOK: To me, it seems as if we had a record shock. We had a modern day depression, 1929 to '33. We did the entire thing in six weeks. And we're now in this V-shaped recovery, and it's extraordinary strong. And it's reflective in earning, stock prices, forward-looking estimates, economic data. And the profit share in the GDP is almost a vertical growth path. So, one has to create a perspective and not a day-to-day, week-to-week perspective.

One example-- right now, the latest employment numbers show 143 million non-farm payroll jobs in the United States today. That's where it was in 2016. At the beginning of the year, it was 153 million, not 143 million, in the months before COVID. What that says is how much recovery is in front of us, how long this can go.

I agree with Jamie Dimon. I think the trajectory could go for years. And it can go for years until it closes this large gap that's bullish for stocks. The economy gets better. The solution to the public health problem is the impediment. And it will be overcome by great technologies. And they are mostly American companies.

JULIE HYMAN: You know, David-- it is wonderful to see you, by the way. It's been a little while. How, though, do you think about what we were just talking about in terms of the relationship between the economy and the stock market and the fact that the stock market always wants what's next? Show me the next phase of growth. Let it be more rapid than the last phase of growth. So, at some point, the growth is going to slow down. And how problematic is that going to be for stocks?

DAVID KOTOK: Well, let's create a little perspective here. If the stock market produces earnings this year, the S&P 500 of $200 for the year-- and I believe that's very close to what the number will be-- then you have to say, what's the growth rate of that going forward for the next few years? And it's quite possible that those earnings growth numbers can compound it 6% or 7% or 8% year after year for a number of years. Because we come off of such a low, damaged bottom last spring.

That could put these earnings in towards the end of this decade at $350 or $400. It doesn't make a difference with such a trajectory. It could put the S&P at 6,000 or 7,000. That's the kind of target that is in place for strategic stock investors. And I might add, it's American companies now which are strong. It's an American banking system which showed the resilience by not having contagion off of the hedge fund collapse. There are others in Japan or in Europe that can't say that. But we have a very solid foundation here in the United States.

BRIAN SOZZI: David, Jamie Dimon talks about, in his annual letter today, that we might be nearing a Goldilocks moment for the economy, where growth snaps back hard and perhaps we don't see an inflationary spike. Do you agree with that?

DAVID KOTOK: I do. You need two things to get an inflationary surge, not a change of a price or two, but the trajectory of rising, accelerating, sustainable price level increases. You need two things. You need rising labor income. We're 10 million people, non-farm payroll, below where we were pre-COVID. So we don't have that happening yet. And you need private sector credit multiplier.

Julie has to go borrow money and buy a car. I have to take a trip. I have to do it with debt. And the debt construction isn't happening yet. The savings are so high that that's not likely to happen for quite some time. So without those two things and with the demographic shock from COVID, which is millions of people, I don't see an inflation acceleration that is sustainable for years. And I think the Federal Reserve sees it the same way, which is why they don't want to choke a recovery. They want it to continue robustly.

JULIE HYMAN: So, David, if all of that is the case-- and I love the optimism-- are you going with the so-called reopening trade that we have seen really come to the fore, although come to the fore in sort of a choppy way? Are you betting on things like travel and leisure if I'm borrowing money to go on a trip, for example, or, you know, hard goods if I'm borrowing money to buy a car?

DAVID KOTOK: Well the reopening trade, travel and nature certainly is taking place. We already see it. We see it in economic activity. It's clearly underway. We are still overweight the healthcare sector-- pharma, biotech, in the broad sense, medical devices. And the reason is this. It's American companies-- Johnson & Johnson, Pfizer, and others-- that are essentially now leading the world to confront COVID.

What does that mean? It means vaccines, it means treatments. It means oral treatments. It means booster shots. It means dealing with millions of people who have long-haul disabled structures in their physical or psychological being because of COVID. So, we are overweight the medical sector. It's going through a correction. We think it has a sustainable trajectory ahead of it.

We also like the big banks in the United States. We like the defense sector. I'm sorry to say, Julie-- I wish it were different-- but this is a dangerous world, and it hasn't changed. So it's not just travel and leisure. It's not just cruise ships. There's a broad place to be. There are sectors which are less certain. And we would underweight them or be careful with them. Because we don't think this is a yield-driven recovery, i.e. utilities or consumer staples. We think it's a different trajectory this time. Someone has to choose the sectors and in other cases, avoid them. We also like the recovery of small and mid-caps. It's got a long way to go.