How the 2024 election presents ‘uncharted waters’ for markets, strategist says

Investors are getting their portfolios ready for fall. Lori Calvasina, Head of U.S. Equity Strategy at RBC Capital Markets, tells Yahoo Finance about the big themes she is watching, including changes to forecasts and international fund flows. Calvasina also stresses that it's not too early to start looking ahead to 2024 and one of the big events of the year- the presidential election. "The political backdrop is an element of uncertainty right now," Calvasina says, adding that "most investors do not want a Biden-Trump matchup."

Video Transcript

JULIE HYMAN: One of the things that you're looking at as a possible risk factor here-- and we already saw stocks start to decline last week-- was that August and September are pretty crummy for stocks, usually.

LORI CALVASINA: Yeah. And, you know, there are all these seasonality charts floating around. And then it's not clear if all the historical patterns work, right? Like sell in May and go away. What I did was I just went back and looked at the last five years, right, so kind of where we have that muscle memory.

And surprisingly, you actually find that August, September, October, one of those has fallen in each of the last five years. And sometimes you get more than one and see a bit of a decline. And when I put that in the context of my models, my cross-asset models are starting to deteriorate.

Those had been improving back in the second quarter when stocks were really on a tear. Now, they're headed in the other direction. And sentiment has done a round trip from where we were at the beginning of the year.

Our sentiment model was giving us a strong buy signal at the beginning of the year. Everyone was bearish. People, I would say, are begrudgingly constructive. I don't think they're quite happy about it. But that same sentiment model is now one standard deviation above its long-term average. So it's really in a range where we tend to get tripped up. And historically, you know, the last five years at least, markets have gotten tripped up as it's exited from the summer into the fall.

BRAD SMITH: I love the way that you outlined this too. As our viewers were just seeing there on the screen, like, three big things that they need to know. And one of those things was the tweak of those S&P 500 forecasts modestly there. And so what does this kind of set up, not just for the rest of this year, but even going into next year?

LORI CALVASINA: So we did some housekeeping on our earnings model. We literally only took numbers up by 1 to 2 bucks, right? There's not a terribly exciting headline there. But the fact that we didn't feel a need to really pull those down in a massive way, I think, is significant.

But also, our 2024 number-- and it's time to start talking about 2024-- that's significantly below consensus. We're at 229. That's at 245. The big thing we're seeing in the numbers is that moderating inflation is a drag on revenues.

We've also got a little bit of margin contraction baked in for next year. So it's not a terrible earnings outlook, but we do think the Street is too high. And we need to see those numbers cleaned up.

JULIE HYMAN: And on the flip side, you think GDP outlooks for 2024 may be a little too low if you're just looking at stocks and what they're pricing in right now, right?

LORI CALVASINA: Yeah. So what we did, we have all these different charts. I mean, this is a 200-page chart book. But one of the things we've noticed is that if we look at stock prices against earnings or stock prices against various economic data points, like jobless claims, for example, the stock market is already baking in a recovery in the labor market and a recovery in earnings growth next year. And that's fine. It tells me the stock market has rallied for good reasons and is very forward looking.

The problem I have is I'm also tracking GDP forecasts really closely. And while those have moved up a little bit over the last month or two for 2023, the growth rate that's implied hasn't been moving up for 2024. So we're pulling up the 2023 numbers. The 2024 number is drifting down just a teeny-tiny bit, which is telling me that we're just not getting enough incremental excitement on that 2024 thesis.

We deserve to be where we are, but do we have, you know, enough coming to really get the market incrementally excited from here from an economic perspective? I'm just not seeing it yet. Maybe I'll get it later this year, but not right now.

BRAD SMITH: 2024 is also an election year too. When you think about if there's going to be any type of resounding catalyst that plays into some of the forecasts that you've laid out, what would it be?

LORI CALVASINA: So look, I think the political backdrop is an element of uncertainty right now, hands down. And it's funny because I keep having client meetings, especially with international investors, and they're like, when are we going to start talking about the 2024 election? I'm like, well, you're my fifth meeting today where people have asked me about it. So it's starting now. People are starting to care.

And I wouldn't say it's a robust policy discussion right now. We haven't even gotten to that point. People are pondering, who are the candidates actually going to be? I have people asking me if there are any viable contenders to Biden. Again, that's coming a lot from international investors. I don't think people really know what to make of what's going on on the Republican side.

But I can tell you that most investors do not want a Biden-Trump match-up, and that looks like what we're headed for right now. So that is causing a lot of head scratching. And I think people feel like we're in uncharted waters. And so what is that going to do to markets? I just don't think it's clear right now.

JULIE HYMAN: Well, and there's a lot of history to look at, obviously, when it comes to presidential election years. You can look at what happens in presidential election years regardless. You can look at what happens if the person wins as much-- you know, if there's one party in the House, one in the Senate, one in the presidential seat and what all of that does.

I know we always say, is this time different? Is it not different? It's weird, right? Let's be honest here. We've got a guy running for president who's been indicted three times. So, like, can you even apply those models?

LORI CALVASINA: I think that's fair. And, you know, I will tell you that the current year that we're in, year three of the election cycle, tends to be a pretty strong year. It's one of the models we use in our targeting process and told us that we should have moved to kind of that 4,400, 4,500 range, which is where we did. And then we topped out after we got a little bit above it.

So it feels like that election cycle analysis is working right now. And when you just layer in the fact that the uncertainty associated with those presidential election years tends to manifest in a kind of a below-trend market, you still, I think, make, like, a 6% median gain. So it's not terrible, but it's not fantastic either. And then you put this weirdness on top of it. So OK, maybe this election analysis could keep working for a bit longer.

BRAD SMITH: And that's domestically. But you mentioned there are some international clients of yours that are also monitoring the situation here. Internationally, that was supposed to be in China and India, two of the biggest areas of growth, and perhaps even in a less globalized-- or a deglobalized type of era that we found ourselves in coming off of the previous administration. Now, there's the question of, all right, where does that growth actually lead towards some of the growth for US-based companies as well that have kind of set forth their international ambitions?

LORI CALVASINA: Right. So I think, you know, when I was coming up in the business, right, in kind of the 2000s, it was all about global growth. I used to call it the gospel of global growth. The global growth is good. And companies had to show that they were, you know, expanding globally to do well.

And now, it feels like it's the reverse, right? We've got all these sort of landmines globally that are going off. And then you've got the reinvigoration of the domestic economies from all these policy initiatives and all the problems we've had over the last few years, frankly. So it's really a complex, you know, kind of situation right now that's reversing a lot of what investors have been taught over recent years.

But going back to the politics, if international investors are looking at the US saying, I don't know what's going on there politically-- things are expensive. You're back to peak valuations in US versus Europe-- it could be enough to cause some of that international money to come out of the US and give us some headwinds. And remember, after, you know, we sort of went through the regional banking crisis and you saw some of the European banks have trouble, we actually started to see money flows come back to the US in a safe-haven play. And I worry that some of that might start to reverse and give us a new headwind here.

JULIE HYMAN: Just quick, where would it go?

LORI CALVASINA: Well, you're starting to see the money really go into Japan. And I don't cover Japan, so, you know, I'm certainly not an expert on that market. But I will tell you a lot of my global investors are bringing that up as an alternative, and you see it in the funds flow data. You're also seeing that the European outflows that we saw really manifest in the second quarter are stabilizing. So that might be starting to reverse a little bit soon.