By coinnews 
0:04 spk_0
Welcome to Stocks and Translation broadcasting from the New York Stock Exchange. I’m Jared Blickery, your host, and with me is Alexandra Canal. The People’s Voice is on assignment. We ask that you please like, subscribe, and comment on Stocks and Translation on Spotify, Apple Music, Amazon, or YouTube. And today we are welcoming Venu Krishna. He is a Barclays, head of US equity strategy, and full disclosure, we are taping this on Liberation Day, so tariffs are top of mind and there’s a lot in flux.Our word of the day is arbitrage. It’s more than just free money, how the market’s price and miss price risk leading to opportunities. This episode is brought to you by the number 4.33%. That is the effective Fed funds rate. We break down the world’s most important interest rate brought to us by the Federal Reserve. E Venu, before we dig into, uh, some of the juicy stuff that’s happening today, just give us a brief overview of what you think of the market action so far this year.
0:58 spk_1
Well, this year, we started off being quite optimistic about earnings growth, for example, accelerating in the market being reasonably well, but expected returns to moderate after two outstanding years of returns, uh, but things have turned on the head.Uh, and I think that has a lot to do with uh the scale and magnitude of uh policy uncertainty. Uh, and you mentioned Liberation Day, obviously with a tariffs being front and center. So the market has been grappling between.Two forces and we have been arguing for quite some time now that the market has been disproportionately focused more on the pro-growth policies of the new administration, namely tax cuts and also any deregulation, but on the other hand, it uh it has discounted the potential implications of tariffs and immigration.And what has happened is a sequence of events has changed. So the administration is focusing predominantly on immigration and more specifically tariffs. Uh, and I think that finally is beginning to roil the markets because of the magnitude of uncertainty associated with tariffs, especially.
2:07 spk_2
So you’ve recentlycut your end of year S&P target. Remind me again what, what it’s atright now. Yeah,
2:13 spk_1
so we were at earlier 6600. We’ve cut it down to 5900.That’s a base case. Our earlier earnings number was 271 for S&P. We cut it down to 262, but remember, like I said, it’s the base case. Our bare case is earnings going down to 241 and S&P hitting 4400, while our 4400, that’s that’s an elevator. Yeah. Well, the upside scenario is the S&P going back to 6700 and earnings improving further than 271.And I think if I would think in terms of probabilities, we’re assigning a 60% probability to our base case, call it about 30% odd to our upside case and about 15-20% to our downside case.
2:55 spk_2
So you wouldn’t consider yourself bearish at this point, or would you?
2:59 spk_1
compared to where we were at the beginning of the year, yes, yeah, but, but, um, you know, if you look at even my number in my base case, there’s upside, modest upside, 4 to 5%. So I wouldn’t tell myself as a bear, but certainly, I think our um caution with respect to the impact of tariffs is proving to be more right thanwrong.
3:21 spk_0
All right, let’s get into a word of the day, which is arbitrage, and we’ll we’ll tie in this to the current discussion. Arbitrage is making a profit by buying something for less in one place and selling it for more somewhere else, often at the same time. And so we’ve seen this. This is kind of a staple of market action. Um, most investors, most retail investors buy stocks, but most institutional investors are playing both directions. They have hedges, and a lot of them will find opportunities through arbitrage and.It can come in the form of regulatory arbitrage where you look at different regimes around the world and you say, well, maybe I’ll invest in gold over here because it’s a better buy than you know gold in this other particular market and that’s just a small example, but these opportunities are everywhere and I’m just wondering as part of your job, um how you approach this.
4:09 spk_1
Well, one area where arbitrage clearly comes up in what my team does, one is in derivatives, and equity derivatives landscape where people like you said, are either trying to monetize the differential between what is called implied volatility, what you’re buying, and what is actually realized, right?And that a similar concept is also um so something which the convertible bond market in the US uh addresses, and that is again, like a hybrid instrument in which um effectively you’re trying to get a more risk controlled exposure to inequity.Um, and in this case, the arbitrage from a convertible, uh, hedge fund perspective, for example, is one, where are you buying the implied equity volatility when you buy the convert, and then what are you able to realize, uh, in terms of by trading around the stock in in hedging yourself. So I think arbitrage is a very, uh, broadly followed concept for different reasons, uh, but it is generally risk control. So people are not taking direction.breads, they’re just trying to take a relative value approach and trying to keep it controlled that way.
5:13 spk_0
And every once in a while both sides blow up and one of them goes in the wrong direction and then you’re doubling down on risk. You mentioned implied volatility and that always catches my ear because I think of the VIX, which is, you know, the VIX is measuring the 30 day implied volatility of the S&P 500 as measured through its options. Um, what do you?And but it can be applied broadly. So what do you, how do you use implied volatility across the range of instruments that you look at?
5:39 spk_1
Sure. So one great example is when you look at what is being implied by the S&P index options, it’s a very liquid market, and oftentimes you try to find how is the market pricing risk. So when you talk about liberation day, just two days ago, what you were saying is it is stunning that the derivatives market was hardly pricing any risk.On the liberation day, in other words, many people were assuming like enough of subset of the market that it’s going to be just a clearing event. The news will be announced and you move on, things will settle. We were skeptical, right? And so the point being that the implied volatility for SAP options were not adequately pricing in our view, the risk associated with liberation Day. Guess what’s happened just in the last day or two.It’s got repriced. Now we’re pricing in more risk as the tariff rhetoric hasincreased.
6:29 spk_0
Was there an arbitrage opportunity there?
6:30 spk_1
I would say arbitrage in a sense that if you felt there was risk, then clearly the market is not pricing it, right? Even now, as of yesterday, the market is pricing in a roughly 1.2% move in S&P.Around this event risk, if you felt that this is a bigger risk, it’s gonna move more than 1.2%, then you should be a buyer. If not, you should be a seller. So I think that market is always a very good indicator to find out what is the event risk being priced. So we look at what is called the term structure of.Index options to say a different important periods of time, what is being implied, how does it compare to historical moves. So for example, if you say that historically for tariff related announcements, it’s it’s probably not the ideal example, but let’s say historically the move is around 1%. If the market is pricing more than that, it means there’s more risk being priced, and you can take a view around whether or not you agree with it or disagree with it.
7:26 spk_2
And when you talk about risk within this current market, what does that encapsulate? Is the risk uncertainty? Is that basically interchangeable at this point?
7:35 spk_1
Yes, this is definitely uncertainty. The question is to what extent is it priced in, uh, and, uh, and is it or not at all, right? So that is the big debate. So right now, you know, like I said, the beginning of the year, the whole notion was that like I said, our view was that the uncertainty associated with immigration and tariffs were not being adequately appreciated in the market, and hence that risk was not priced.
8:00 spk_2
But do you think at thispoint tariffs.Have been priced in and maybe the immigration story.
8:06 spk_1
I the reason I say partly is because we still don’t know how exactly it’s going to play out, right? So in my view, it’s going to take 3 to 6 months till we find the dust clears and we know what the real impact of tariffs is going to be. In other words, how are we going to end up negotiating with different countries or different regions and what will the negotiations ultimately settle in terms of what the tariffs are, right? So, for example,If you go with the notion that the tariffs on China stay right now, he’s talked about a 20% more on China, and if you assume that today they’re going to announce some sort of reciprocal tariffs, now we don’t know the details, but we assume that that effectively means that you can go with at least an incremental 5% trade weighted tariff on the rest of the world.So if you think that is true, and that’s a reasonably conservative way of looking at it, um, then we think, for example, the earnings impact is going to be more than 2% on S&P, right? But that’s the first order effect. The second order effect is if these tariffs go into play, it’s most likely going to push up inflation.And it’s going to push down economic growth, right? And so that also feeds into what will happen to equity markets. Now, it can get a lot worse than that. What if he is a lot more aggressive.And let’s say they say that uh it’s going to be 25% Canada, 25% Mexico, it’s going to be reciprocal everywhere else, and it’s going to be 25% in Europe, right? That’s
9:30 spk_0
an S&P 4400
9:33 spk_1
that not necessarily, but the point is then earnings in our view. So in the beginning of the year we’re expecting earnings to increase 12.5%. Now we’re saying 6%. The case I just told you, if that happens, earnings are actually going to go down about 2.53%, which means a 15 point swing.So it’s pretty dramatic.
9:51 spk_2
Yeah, would you consider that an earnings recession and how likely is that to play out thisyear?
9:57 spk_1
I would say that the risk of that is still 15, 20%, right? That that is my bear case scenario, and it is not a non-trivial probability, uh, something we should be, uh, prepared to face if the policy, um, continues, uncertainty continues. Right now companies are on hold.Uh, consumer is on hold. Spending is trying to moderate, inflation is sticky. Growth is moderating. We are solely different towards a combination which is not that great.
10:31 spk_0
Let’s, let’s bring in labor because we were just talking with Michael Gain about the undertold story of immigration here, which has been overshadowed because there’s so much other news, uh, but 3 million jobs or 3 million people per year.Down to zero, that really affects the labor market in a big way. How does that factor into your equations and
10:51 spk_1
it’s a very good question. So our economists have suggested that even before the more tighter immigration policies, the last administration and put the stay in Mexico uh rule already in place, and that meant that that number of 2.5 to 3 million was going to come down to definitely less than 50 million.So that’s supply shock for labor itself, we were expecting it to moderate economic growth. So compared to the, you know, well over 2.5% growth last year, we were expecting a 2.1% GDP growth. Now we’re expecting 1.5% growth this year. So that is because of tariffs. So if things start getting more bad as a combination of tariffs and uh immigration.You can go further down, then you have 1.5%. Uh, that’s a real problem.
11:41 spk_0
I’m seeing that. All right, pause right there. We need to take a short break. Coming up, we’re going to be talking about where the Fed is taking rates and a fresh take on the future of the AI trade.This episode is brought to you by the number 4.33%, which is the so-called federal funds rate. It is the interest rate that the Federal Reserve pays the most attention to, so they target a certain band. They will target, for instance, right now, 4.25% to 4.5%, and then the market trades within this band, and right now it’s 4.33%.I say all this because everybody wants to know, is it going up or is it going down? Is the Fed going to cut rates more very unlikely that they’re going to hike them, but that’s also on the table depending on how you gain things out. So what do you, what’s your thinking with regard to the Fed? Yeah,
12:34 spk_1
you know, our firm view is that we’re going to see two cuts this year, and the Fed is in a tight spot because on one hand there’s uncertainty about economic growth and most likely it is moderating. What we don’t know is the scale of that moderation.Uh, on the other hand, inflation is proving to be sticky. In fact, the most recent inflation print was a little higher than what the market was expecting. That combination is not is what going to get the Fed to start cutting. Now, if you see the labor market started cracking.In other words, unemployment going up meaningfully and economic growth simultaneous are slowing a lot, then the Fed is probably likely to be more aggressive in cutting rates. They have enough capacity to do that. The problem is those cuts are for the wrong reason. In other words, it’s not just markets don’t like those cuts that growth is at serious risk, and they’re really trying to contain the problem on the downside.So that’s not a great environment for earnings or for equities, at least as it’s happening.
13:32 spk_2
And you talked alot about these uncertainties, obviously all of that has weighed on markets, especially through the 1st 3 months of the year, but we did come in pretty hot, especially with the tech. There’s a lot of talk that we were overvalued. Given this sell off, do you still think we’re overvalued?
13:47 spk_1
No, I don’t think we’re overvalued becauseThe all the correction we have seen thus far is one of the most significant D rating we have seen in in equity markets since the 22 sell-off, and that 22 sell off also, if you remember, was very tech centric and especially big tech centric. So what has happened now to give you some numbers and context is big tech, which is essentially a group of six stocks, right, which are almost 30% of S&P.They drove more than 50% of S&P returns in the last two years, and they account for 25% of S&P earnings. So it’s a very important component of the market. That group was trading at 31 times forward earnings at the beginning of the year.In the middle of last year, they were trading at 34 times. So in other words, it’s corrected 3%, so 10% at the beginning of the year. Now we’re sitting at 24, 25 times. That is a 20-21% correction already.And for a group whose earnings are moderating but are still likely to settle in the 16 to 20% range, so earnings still relatively robust, significant D rating, they’re trading at 24, 25 times, but is there more downside risk? Maybe because the bottom they hit in a 22 selloff was 22 times, right? So I think, but my view is that um a good part of the evaluation story is already telling you that a lot of the risk is priced in.Um, and I do expect earnings to start adjusting downwards, uh, going forward, uh, and, uh, we just have to hope that this tariff uncertainty in the next 3 to 6 months clears, in which case the market will stabilize and we can end up seeing some recovery towards the end of the year.
15:28 spk_0
Thinking about the markets from a sector perspective, we have, as you were just detailing all these statistics with regard to how big the market is.Relied on these 6 names, um, arguably a 7 at times, but these 6 names, um, the rest of the market has stepped up a little bit, but we’re seeing defensive start defensive sectors like staples, consumer staples, utilities, real estate at various times, healthcare has been leading. It’s been propping up the bull market, so we only saw the S&P 500 going into correction, down 10%. The bear market by popular definition is 20%, but.You know, I got to think that this, this bull market has kind of been premised on the AI trade. Does it need, how much does it need to reassert to see to get the S&P 500 back to those record highs?
16:15 spk_1
I think it’s a little bit complicated. There are two levels to it. If you think about what was keeping the market going for the last 2 years were two key pillars. One was the strength of consumption and the consumer, and the second was the exceptionalism of US tech, specifically big tech.Right now both those are weakening. So with BitTech, uh, their earnings are moderating, uh, but their multiples have come down a lot. Uh, but the market has been focusing a lot on the scale and the level of the capital spending, and, and it’s getting anxious about when they’ll start monetizing this massive cap ex
16:52 spk_0
we got a runway showdown hit
16:54 spk_1
that on we’re not there yet, but that’s where the market is intensely focused on.And on the consumer side, the problem is, given the uh sticky inflation, given the policy uncertainty, given the doge related sort of cuts, all that is leading consumers to start scaling back on their spending, right? So both those premises have weakened.In terms of the broadening, what your point though, this recent uh correction 10% from the peak, whatever we have seen has been largely focused mainly on tech, especially big tech. The rest of S&P has not corrected quite significantly, um, and so they have buffered to some extent the market, but our view is that if things go wrong.And the rest of the market is not immune.
17:38 spk_0
They catchup. Yeah,
17:41 spk_1
in fact, in my, when we cut our earnings number, it is for the rest of S&P outside of tech, where we were expecting them to grow about 3.5% in earnings. Now we think they declined roughly 0.5% to 1% now.If things get worse on tariffs, it’ll be a lot more than that, right? So I think um we are not necessarily in a uh in a so let me put this way, we are in a precarious environment right now, uh, mainly because of what I almost feel like it’s a self-inflicted.A problem.
18:14 spk_2
That’s my fault
18:15 spk_1
driven by the scale of policy uncertainty,
18:19 spk_2
uncertainty, but we did see the deep seek news to kick off the year, which sort of started this anxiety, I guess, around the tech trade and how frothy that market was. Does that worry you?At this point, or have those fears sort of been pushed aside and now it’s kind of all the focus is on in theadministration?
18:36 spk_1
No, the deepse information was a big catalyst. I agree with you, and that was one of the reasons why the correction started, but then recovered. The point over there is in the big scheme of things, I think it’s important. It will force the big tech companies to be more careful about how they’re deploying the capital.Uh, and I won’t be surprised if they start moderating that capital spend down the line
18:57 spk_2
could bea good thing,right?
19:00 spk_1
What we really want the success of AI ultimately depends on applications growing quite significantly, right? Uh, and when that happens, it means that you will start seeing the productivity impact also on the broader economy. And what is happening right now is that the pace of adoption is still relatively modest, but speaking of.Fast. Like if you look at even, you know, open AI, you know, their consumer base has increased well over 30% in just the last two months, right? So I think it is beginning to happen, um, but it doesn’t mean that we are clear from, you know, everything is good, but deep seek in the in the big scheme of things, I think it’s a wake up call, uh, but I’m not too worried because the end of the day, the center of gravity for innovation and growth and the ecosystem and the dynamism.is in the US tech industry, and that’s why I remain incrementally positive on big tech, even though I say that in the short term, there are no clear catalyst for them to start rallying again.But once they post decent numbers and the tariff uncertainty clears, I think they will workfine.
20:07 spk_0
Perfect segue for today’s runway showdown, which is lit with the glow of GPUs and data centers, but which is the look of the future. First down the catwalk, we have monetization mode, draped in sleek margins and wearing custom tailored earnings beats. Monetization struts with confidence and ad revenues back.Cloud margins are improving. The enterprise is on board. AI is finally paying the bills. Microsoft and Nvidia, they wave from the front row, but stalking in right behind is capex chic, a challenge to monetization mode. This look is bold, capital intensive. It’s high fashion, but also low cash flow. Think data centers, power hungry chips, and eye watering build outs that don’t yet print profits. CapEx chic.Isn’t interested in your Ford PE. She’s interested in tomorrow even if Wall Street doesn’t foot the bill. And watching it all from the sidelines is the skeptical bull. He loves the narrative, hates the multiples, but believes in AI, wondering if it’s already baked into the price. So Venu, help us out, help the skeptical bull in all of us make up our minds. Who is wearing the future of AI better? Is it monetization mode or capex chic?
21:14 spk_1
I would say that I would stick with the monetization board. I think it is going to happen. Uh, it probably take a little longer, uh, and though I am, I am somewhat skeptical about the level of enthusiasm on the scale of the productivity improvement and monetization, but I do think it’s going to happen. And I think capital spending, I’ll give you one very interesting statistic. One of the things we looked at was last year in 2024, S&P companies spent almost $775 billion in stock buybacks.Big tech as a group accounted for over a third of that. So think about it. If they just stop spending on buybacks, it’ll fund almost all of the caps for this year, right? So my point is, big tech capital spending is very high. It’s self-funded.It is being funded by the mature businesses which make a tremendous amount of money which are high margin businesses. They are facing idiosyncratic risk for sure, uh, and it’s a show me story on monetization, but I think eventually we’ll find the right spot. Uh, I just hope that the worst case scenario is that.This all this capital spending was not worth it. I don’t think that’s an extremeexample.
22:25 spk_0
Yeah, I don’t, I think it’s going to be found to be worth it too. And unfortunately we have to leave it right there. We have wound things down here at Stocks and Translation. Make sure to tune in next time for another episode.