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‘There is an increased level of political risk,’ which could weigh on markets: BMO Portfolio Manager

As more positive news is reported about solutions for the coronavirus pandemic, states in the U.S. are reopening while the economy is beginning to regain some of its loses. Ernesto Ramos, BMO Low Volatility Equity Fund Portfolio Manager, joins The Final Round to discuss his ideas on the remaining volatility in the market.

Video Transcript

SEANA SMITH: Let's just start with today's moves that we've been seeing in the market. The Dow up over 250 points. S&P well above 3,000 on the way to 3,100. What explains this climb that we have been seeing over the last several weeks? Do you think most of it is tied to the reopening that we started to see across the US? Ernesto, it looks like you are muted.

ERNESTO RAMOS: Sorry. Is that better?

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SEANA SMITH: Yep, we have you now.

ERNESTO RAMOS: OK. Yeah, it definitely looks like the market is looking forward to the reopening of the US economy. And that seems to be proceeding pretty much on schedule, riots notwithstanding and so on. And-- and the reopening of the economy basically means the reopening of economic activity, which is certainly what's going to trickle down eventually down to earnings.

There have been some numbers that have been a little better. For example, continuing claims last Thursday were a little better than expected. In other words, they're starting to decline. So I think the labor market-- the market is figuring that the labor market has probably seen the worst of it. There always could be a second surge of COVID. And we could always be more delayed on a potential vaccine than the market is pricing in. Right now the market is probably pricing in a fairly early vaccine, meaning within the next 12 months and perhaps a treatment as well.

So all of these are risks that the market is probably pricing in on the lower end of things. Also now we have increasing trade tensions with China or tensions with China in general. So there's no shortage of risks out there. So we're recommending to our clients that they maintain equity exposure because things definitely look to be improving. But with plenty of risks out there, you want to do that with some amount of downside protection, which is what we offer in the BMO low volatility fund.

SEANA SMITH: And Ernesto, going off of that, just what do you think this means for volatility with so many risks out there? And also from what you're hearing from clients, I guess do the conversations that you're having suggest that there still is considerable caution out there at this point?

SEANA SMITH: Well, there-- there is. For example, we look at data from hedge funds. And hedge funds are as net-- low on the net long side as they have been for a while, which means that there's still a lot of cash on the sidelines, which is actually-- they're bearish, which means it's bullish for the market because it's a contrarian indicator. And a lot of retail clients are also staying on the sidelines. So there's plenty of money to be brought back into this market by our estimation if it continues to improve.

So-- so it's not a good time right now to step away from the market despite the big strong move from the lows of March 23, simply because it's all about the direction of change. And change right now, even though it's minute, is improving. It's moving to the positive side. So that's why the market continues to-- to go up, despite all of the risks.

And for volatility, we think there'll be spikes of volatility as news-- bad news hits the market on any given day. But as long as the-- the-- the sustainability of that bad news is short-lived, we think we can get through all right and the market can continue, maybe not to grind as much higher but not necessarily take a big leg down again like we saw earlier this year.

AKIKO FUJITA: Ernesto, how do you view the political risk in all this? And I don't just mean the unrest that we're seeing right now. Over the last month, you could argue that it's been very clear President Trump has his eyes on November, whether it is his announcements on China or the way he has responded to this particular period of protests. That's going to escalate going into the election in November. How should investors be viewing that element of the risk right now?

ERNESTO RAMOS: So that's a good one. Definitely, there is an increased level of political risk, as you said, because not so much the actual risk itself but the reaction to the risk. President Trump is definitely focused on his re-election. He's going to try to distract from everything that people are saying he hasn't done well, like responding to the coronavirus or right now his response to the riots has not been what a lot of people would have expected from a unifier.

But-- so he'll continue to throw out things out there like China, like let's militarize cities and other responses which are meant to distract. And that's definitely a risk out there. For example, right now, I'm worried for these riots to continue much longer than a couple of days because, for example, you saw occupy Wall Street. Nobody thought it would take that long to get rid of that situation, but it did.

So I'm worried that if we have riots or the semblance of unrest in major US cities for more than just a few days, that's going to weigh on economic activity. That's going to perhaps lead to another surge in coronavirus infections because of the concentration of people. So that's definitely a risk there that I don't think the market has yet to focus on because they're discounting a quick resolution to-- to all of this.

SEANA SMITH: All right, Ernesto Ramos, portfolio manager for BMO's low-volatility equity fund. Great to have you on the show. Thanks so much for joining today.

ERNESTO RAMOS: You're welcome. Thank you.