Conditional Stock Recommendation

There’s a lot of fear in the market, as there usually is. Something is always going on to cause concern, whether it be French turmoil, AI funding, or oil prices. The problem is, once the news is making headlines, it’s already reflected in the prices you’re seeing. Investing in current news doesn’t make you money

Like the Wayne Gretzky quote, you want to skate to where the puck is going, not where it is. What is the future news likely to be? Of course, that’s not easy, but it’s the goal. We use a framework of growth, inflation, and liquidity to look at the environment. Those changes can give you insight into where we may be going.

Right now, the main concern has been bond yields, where it seems everything possible has gone wrong, this year. We went from confidently predicting rate cuts to getting a rate hike and expecting more. That’s quite a change. Fundamentally, it’s good to know that a rate hiking cycle is about the worst time to own bonds and that’s what we’ve seen this year. Thus, bonds have been a terrible investment.

The Wayne Gretzky question is where are they going? Of course, no one knows, but we can look for clues. We’ve seen everything go wrong for bonds. Can that change? I think there’s room for optimism. Oil is well down from highs, and even if it sticks around here, that translates to no inflation over time.

Real yields are considered the big driver of elevated yields. While you can point to several reasons why they’ve gone up, the biggest is likely the combination of strong government and strong AI demand for financing. What if that’s changing? The expectation from big banks is that this was the peak of financing demand for AI buildout. The Treasury has indicated their next financing is likely to involve selling fewer Treasury bonds and more Treasury bills. That would drop coupon financing stress and should relax real yields.

Lastly, we have the recent stress of leveraged bond holders, including foreign holders, with French levered buyers seeing forced selling around the weekend. Like I talked about yesterday, that sort of stress tends to burn itself out, eventually. Once forced selling if done, we can potentially see a sharp reversal.

In general, as long as nominal GDP is growing, owning stocks is a good idea. Admittedly, just where you can get maximum gains is a tougher question. Currently, I’d say we’re reasonably balanced. AI is a real driver of growth, but the bigger names already have that priced in. Owning some AI names seems necessary, though.

Yields have hit a lot of stocks outside AI, meaning there’s potential opportunity, there. I think a pretty broad spectrum of stocks has the potential to do well. My opinion is that the only sector I’m hesitant to own is energy. We priced in a long tail of energy issues, and that’s the bogey to beat to make energy names go up. That’s one place that seems too tough for me.

The one name I did conditionally recommend is Annaly Mortgage (NLY.) I say conditionally because I’d rather have more confidence that yields have peaked. As it stands now, rates broadly peaked on Thursday morning, though we’re approaching those highs again, on the long end. If we can stay below those levels as the days and weeks go by, NLY should do very well, with a 16% yield and likely stock gains.

Most of the time, you want to own stocks. I don’t think we’ve yet violated that, with nominal GDP staying strong. That can definitely change, and there are definitely yield stresses out there. However, we saw the same thing in April and survived that just fine. Is there yet any reason this time should be different? I don’t see it.

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