Markets will focus on what the next few quarters look like from both a business and earnings perspective: Chief Investment Strategist

Michael Arone, US SPDR Business at State Street Global Advisors Chief Investment Strategist joins the Yahoo Finance Live panel to discuss the latest market action.

Video Transcript

ZACK GUZMAN: I want to turn to the latest earnings update we got out this morning from both Goldman Sachs and Bank of America. Goldman delivering both the top and bottom line beat, driven mostly by stronger than expected stock trading and investment banking revenues. That seems to be the overall theme here continuing into 2021.

Bank of America shares also trading lower, though, after their revenue from sales and trading also rose 7%. But that was a bit weaker than what analysts had been expecting here. So to break that action down with us, I want to bring on our next guest, Michael Arone, US SPDR Business at State Street Global Advisors' Chief Investment Strategist joins us right now.

Michael, thanks for coming back on here. When we look at this, what's your initial reaction here? Because, you know, you would expect that theme, I suppose, if it's going to carry over, that the strength in their trading desk as well as underwriting some of the action here, that boost would have carried over into positive moves in the stock, not the case today.

MICHAEL ARONE: Well, I think it's interesting in terms of it's all about those expectations. And so certainly, most folks are anticipating that Goldman Sachs and Bank of America would beat those are earnings expectations, which they did. So it really is about managing those forward expectations.

And you did see some disappointment as it relates to the Bank of America's kind of outlook. And so I think that really is the overarching theme for earnings season. It's very early. We're off to a very strong start. So in terms of the companies that have reported, they've beaten by more than 27% in terms of those expectations.

However, I think markets are largely going to be focused on what the outlook is and particularly as it relates to-- you know, for financials, the trading impact's going to be big, and the outlook for interest rates. But also just generally, what the next few quarters look like from a business perspective and an earnings perspective will be the key determinants of how stocks react during earnings season.

AKIKO FUJITA: Yeah, there's certainly, Michael, the business perspective or the expectation. But also, as Brian was just sort of breaking down Janet Yellen's confirmation hearing today, there's going to be a lot of speculation in the weeks ahead about what exactly the regulatory risk will be for the banks. The idea being that potentially, the Biden the administration could be a little tougher and maybe bring back some of those regulations the Trump administration rolled back. How are you looking at that risk right now?

MICHAEL ARONE: I do think it is a risk. I think both this election for the SEC and the Consumer Finance Bureau both indicate that the financial sector will be under greater regulation under a Biden administration. Now, somewhat, markets were expecting that as we pivoted from a Trump administration that was much easier from a regulatory standpoint, particularly as it relates to energy and financials.

And I think markets were bracing for greater regulation in those sectors under a Biden administration with some of his selections that looks likely. Now, that said, I think that kind of with interest rates rising and the yield curve steepening, that should flatter financials profits, particularly banks. We talked about this idea that increased market volatility in trading should also be a tailwind.

And then finally, the Federal Reserve is allowing for these companies to buy back their stock and increase dividends again after the kind of hiatus during the pandemic. So I do think that there are probably more tailwinds for banks and financials more broadly. But regulatory issues or increase could be a risk.

ZACK GUZMAN: And looking more broadly as well at the overall market here beyond just financials, curious to get your take on where we sit here as we're, again, trading near all-time highs. A lot of people are kind of speculating, when you particularly look at some of the enthusiasm on the retail side of trading, that there could be a little bit of warning signs out there in terms of bubble territory.

We'll get into that later in the show. But if you have that out there with also the push here from Janet Yellen to go big on the stimulus front and the expectations of that $1.9 trillion plan from the Biden team, how do you pare those things? And where do you think we sit right now in terms of overall risk and reward?

MICHAEL ARONE: So the foundation for risk assets remains really strong in terms of-- and a lot of that's going to be underscored this week. The inauguration, Yellen calling for much bigger fiscal policy, earnings so far are off to a great start. And Biden's going to take a number of actions early on to address the pandemic very aggressively, particularly as it relates to vaccine distribution.

All those underscore the risk assets kind of in the case and the bullish case for that. However, Zack, you do point out some interesting things. So in many ways, a lot of that's already reflected in stock prices. And my concern is that the bar has been raised considerably in terms of expectations, particularly when markets are at all-time highs, valuations are stretched, this could pose a risk.

And although I don't think we're at '99 levels, there certainly are some red flags. We have a very hot IPO market. We saw Affirm and Poshmark come public last week, very hot IPOs. M&A activity's picking up, the retail investor's engaged, you know, you got the Reddit boards and Discord and Instagram and TikTok are kind of fueling investment ideas for the retail investor.

And so I do think there are a number of red flags here, and I will keep an eye on it. And given the fact that both Yellen and Powell are likely to keep policy incredibly accommodative, both fiscal and monetary, I do think that could pose a risk in the latter half of this year in terms of, you know, will the Fed feel forced to do something much earlier than they've signaled already to markets in terms of either reducing the asset purchases or even raising interest rates? That would be unexpected and would be a risk to market returns.

AKIKO FUJITA: And Michael, we had a lot of guests on who've been talking a lot about how cyclicals, where the opportunity is versus growth, sort of looking at it as a binary issue. But you've sort of highlighted the fact that we've seen both sides rallying today. What does that tell you about where sentiment is? Is it really about one at the expense of the other? Or do you see both pushing even higher?

MICHAEL ARONE: Akiko, that's a great point. And one of the things I think about that's interesting here today is that they are rallying together. And to me, that's a signal of strength and health. Up until this point, it's been very binary.

For those of us who were around in the '99-2000 kind of era, or really in the aftermath of the global financial crisis, you might remember the acronym RORO, risk-on, risk-off, to reflect this idea that the market was trading in binary fashion. Of late, it seems as though the market's been kind of more under the acronym GOGO, growth-on, growth-off, as these cyclicals versus growth have traded binary.

So the fact that today you're seeing energy and industrials trade alongside technology and consumer discretionary, to me, is a healthy sign that investors are anticipating kind of a more robust economic environment and perhaps a better earnings and economic environment. And I think that's a healthy sign. So I'm hopeful that this kind of-- rather than the binary trade of GOGO, we start to see a bit more broadening in all sectors of the market contributing. And that would be healthy for the overall market.

AKIKO FUJITA: OK, we'll try to get that acronym to stick, GOGO. We'll make note of that, Michael. Michael Arone is the US SPDR Business at State Street Global Advisors' Chief Investment Strategist. It's great to talk to you tonight.