Investing Outlook for 2024

EMS:

Hi Ketu. Thank you so much for being with me today.

Ketu Desai:

Thanks for having me, Elana.

EMS:

Absolutely Ketu. So, to kick off the conversation, tell us a little about the firm and how you got to where you are today.

KD:

Yeah, i-squared is an independent RIA based out of New Jersey. I started the firm about seven years ago. The “I” in “i-squared” stand for “integrity” and “independence,” and that's a core value of the firm. I-squared is a fiduciary. Alignment of interest is critical to the firm. I, as the principal, am one of the biggest investors and I manage my money alongside clients. I-squared provides a customized high touch portfolios across various strategies. I-squared doesn't try to push any products or other services or invest in expensive products. The idea is to help clients reach their goals by delivering attractive risk-adjusted returns. And the way I kind of view i-squared is it's kind of in the space between traditional hedge funds and traditional wealth managers where not quite a hedge fund, I don't charge 2/20, we're not tax inefficient, but we are a bit more tactical to help clients reach their goals in a risk adjusted manner. And my background kind of lends itself well to that. I started my career pre-financial crisis at Credit Suisse as an investment banker. I was in the M&A group there. After that, I spent nearly a decade at Lighthouse Partners helping run their credit portfolio, after which I started i-squared and I've been running that ever since.

EMS:

Great. Thanks for that high level overview, Ketu, of your business and your background. So, to kick off the conversation, I would love to hear your high-level investing outlook for this year.

KD:

Yeah, I think the key word for this year is normalization. For the last couple of years, the Fed has been raising rates, inflation was at high levels, growth was very uneven and volatile. In many ways, the past couple of years have been part of the normalization process from the excesses of the pandemic policy. I think in 2024, the Fed will likely cut rates, inflation will come close to or hit the Fed's 2% target and growth will sort of steady somewhere between 2% and 2.5%. I think for the last couple of years, many businesses have been frozen waiting to see how rates and the economy evolved. I think with the Fed, simply removing the hiking bias for a cutting bias removes a massive weight off businesses. And I think you'll start to see thawing in the business environment. And I think housing is definitely one area where you could see a bunch of thawing.

The IPO market was down a third last year. I think this year you'll likely see 200 IPOs bringing us back to pre-pandemic levels. I think deal volume will certainly pick up this year. And you're already starting to see that just the past few weeks. We've seen a $14.1 billion deal for U.S. Steel, a potential take-private for DocuSign, a $5.8 billion bid for Macy's, a hostile for Wyndham, Honeywell buying a Carrier unit for $5 billion, a $10 billion deal from AbbVie, Bristol Myers has made a couple of acquisitions, Occidental bought CrownRock, so overall, I think it could be a pretty good environment for both businesses and markets as the economy and the macro environment kind of normalizes.

EMS:

Great. Ketu. And more specifically, what are some of the greatest opportunities you see looking ahead and why?

KD:

I think AI looks like the next mega cycle in investing. McKinsey estimates that AI could add about $4.4 trillion annually to GDP. Goldman estimates that generative AI will lift productivity by 1.5% and driving margins by 4%, which is a pretty big boost to earnings. I think in 2023, AI was obviously the major theme. The biggest winners in the S&P were all related to AI, but mostly focused on the infrastructure names, the hyperscalers and software, so names such as Nvidia, Meta, Adobe ServiceNow, Palo Alto Networks, Microsoft AMD, were the biggest winners in the S&P and I think those will continue to do well. But I think as 2024 sort of plays out, I think the larger percentage gains could come from the consumers of technology relative to the producers of technology. And I think one of the areas that's kind of at the intersection of a normalization of the economy and technology is health care.

Health care had a significant COVID hangover and I think normalization will help the industry. Health care is expected to have the highest earnings growth in the S&P at 18.1% this year. I think AI and technology will help drive margins. McKinsey estimates that it could be 5% to 10% annually for the health care industry. Harvard estimates about $360 billion annually. I read a research report last week that said 92% of Kennedy drugs fail. I think with AI you can definitely see a higher hit rate, which can help drive earnings for a lot of health care and biotech companies. There's obviously a ton of innovation going on in this space right now from GLP-1s to cancer to Alzheimer's. As I mentioned previously, I think M&A will be a big portion of this sector. And I mentioned in my previous answer about AbbVie and Bristol Myers, I think pharma is kind of the epicenter of the M&A cycle this time and positioning is really low in health care. It's only about in the 20th percentile and you're able to buy the stocks at a discount. So, I think that's one area where there could be some upside.

Another area that I'm looking at is financials, which is a bit contrarian, but I think there's good opportunity there. Positioning is at the lowest level since such data has been recorded. Flows out of financials have been pretty negative for a couple of years now as the economy normalizes, in particular, the yield curve steepens to a positive inflection, financials are, they are one of the biggest beneficiaries. Their balance sheets and income statements are highly levered to the rate environment. And they traded just 10 times cash flow, which is a 40% discount to the S&P from an earnings perspective. Despite the regional banking crisis and a potential recession last year, financials were able to grow both their revenue and their earnings last year. And I think that should continue this year. They're expected to grow about 10% this year, and I think normalization in capital markets and the M&A environment will be a further tailwind to support earnings growth among financials. And just one final point on this is that the market value of banks relative to the S&P hit an all-time low late last year. And the ratio was this previously depressed back in the late 1980s, and that led to financials being one of the leaders through a lot of the ‘90s. So, sort of in summary, I think a lot of bad news has been priced into the sector. There's very little position in the sector and there's a bunch of stuff that could be even just marginal fundamental improvement I think could drive meaningful returns in the sector.

EMS:

Ketu on the other hand, what are some of the greatest challenges expected when it comes to investing this year?

KD:

I think inflation still remains the key. So, a lot of the normalization premise is that we can get a more normal rate environment, and that means inflation coming back to near 2%. But this is a very different business cycle than traditional business cycles. In most business cycles or in traditional business cycles, rate cuts usually happen because something bad is happening, we're seeing high unemployment or there's something happening in the economy that's going to cause weaker growth. I think in this cycle is very different. It's an inflation cycle, so rate cuts will happen because something good is happening, inflation is coming down. So as inflation is coming down and the Fed funds rate remains the same, the real rate starts to become onerous. And that's why the Fed is going to cut rates. So, it's cutting rates for a very different reason than what happens in a traditional business cycle. So, I think inflation remains the key, and as inflation comes down, the Fed can start to cut rates to get the policy rate closer to neutral, and that should be a tailwind for businesses in the economy, just removing that weight of a hiking bias away from the markets.

EMS:

Ketu, we've covered a lot of ground today and wanted to see if there are any final thoughts you'd like to share with us.

KD:

Regarding my firm, the top priority remains continuing to serve current clients to help them reach their goals. I'm very fortunate to have a great client base and a highly successful one. I-squared was recently ranked a top 20 wealth manager in the U.S. so I will selectively take on new clients to grow the firm, but the primary goal remains serving existing clients.

EMS:

I want to thank you so much for sharing your perspective with our listeners and thank you for listening to the EisnerAmper podcast series. Visit eisneramper.com for more information on this and a host of other topics. And join us for our next EisnerAmper podcast when we get down to business.

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