From Volatility to Recovery: Interpreting What Markets Are Signaling Now

In this episode of RHP Market Talk, Natalie Picha, Partner and Chief Experience Officer, and Glenn Royal, CFP®, Partner and Chief Investment Officer, revisit the recent period of geopolitical-driven volatility and examine how markets have responded in the weeks since.
 
With greater clarity now emerging, they explore the resilience of equity markets, signals from the bond market, and the reemergence of earnings as the primary driver of investor sentiment. The discussion underscores a central principle: while uncertainty is inevitable, a disciplined, long-term investment approach remains essential to navigating evolving market conditions.

If you found this helpful, please subscribe and share this episode with someone who could benefit from greater clarity and confidence. And please visit us at RoyalHarborPartners.com to learn more.

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Transcript

Natalie Picha 0:12

Welcome back to RHP Market Talk. I'm Natalie Picha, partner and Chief Experience Officer at RHP Wealth Management. Today I am again joined by our Chief Investment Officer and partner, Glenn Royal, for a follow-up conversation to our last episode, where we discussed the developing military conflict involving Iran and the broader geopolitical tensions surrounding it. At that time, much of what we discussed centered around uncertainty, how markets tend to react in the early stages of geopolitical conflict, and the importance of watching key indicators like oil prices, investor sentiment, and overall economic conditions. Now, nearly six weeks into this situation, we have more data, we've seen markets react, adjust, and in many ways begin to stabilize. So today we want to revisit this conversation and focus on what has actually happened, how markets responded, what the bond market is telling us, and what investors should be watching as we head into earnings season. As always, our goal is to step back from the headlines, remove emotion from the equation, and provide perspective grounded in data and experience. Glenn, thanks for joining me again for this interesting conversation.

The Pullback That Vanished

Glenn Royal 1:23

Glad to be here, Natalie. Thank you for having me.

Natalie Picha 1:26

So when we recorded the last episode, we were in the early stages of the conflict and markets were just beginning to react. We're six weeks in now. What have we seen in terms of market behavior? What's actually happened?

Glenn Royal 1:42

It has been all over the map. However, uh, if you had taken vacation for the last six weeks and uh came back and just landed you and no, not a thing happened. The market's recovered all of its uh losses from that sell-off. It's quite quite interesting.

Natalie Picha 1:57

It's it's amazing. Uh we we had roughly a 9% pullback in equities, uh, a very sharp spike in oil prices, and we have recovered all of that. The only thing we're still seeing is that that oil price is sticky. It's it's still up there.

Glenn Royal 2:12

Yeah, and still a concern, uh certainly a concern, but it looks like the markets moved on from the concern of oil prices and back to focusing on corporate profits. We do expect very strong earnings growth season that's kicking off right now, looking for profits to grow, double digits again this year, again next year. And that's kind of got everybody excited. They're looking for that strong economic growth that we had coming into the uh Saranian War. Uh where they want to get back on track with that.

Natalie Picha 2:44

Do you find it interesting that the markets well reacted so so quickly and then recovered so quickly? And and really, to your point, the markets have moved on. Investor sentiment seems to have recovered just as quickly.

Oil Prices And Economic Drag

Glenn Royal 3:01

Is that a true statement? Um it depends. Everything's about depends, right, in this business, but it depends. And that's the sense of we're at in individual investors. If I if I look at professional investors, they were freaked out by this, they reacted quickly. Uh, you saw all that volatility result of it. Many of those professional investors still are not fully invested in this market and messed out on this upside, uh, heavy cash positions right now that we're seeing in those portfolios. Unlike retail, that you know, the Vanguard Army and all the others that went out and bought the dips, they were there. But the one thing I would say different is I'm not seeing the retail investor lean into the riskier parts of investing, like double and triple leverage exchange traded funds. Uh, you're seeing assets flow out of those spaces. So they're coming back to tech, coming back to the basics that were working before uh the war started. So the small mid-caps, things like that.

Speaker 3:59

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Natalie Picha 4:05

So let's circle back around on oil prices, because in our last conversation, we talked about $100 kind of being that benchmark, and that if we stayed at $100 barrel in oil, what that would be as a drag on the economy, do you still see, even though we've markets have recovered and we seem markets are looking forward, you know, out to earnings expectations and we're in earnings season. But what is that that price of oil going to do to the overall economy? And and how how closely should we be watching that?

Glenn Royal 4:36

Yeah, very closely, because it does have an impact on the overall economy, but perhaps not as great as we we think it is widespread, right? Everyone touches it. Uh businesses as well as individuals. Uh but uh Jamie Dimon's out this morning on a call about the earnings for JP Morgan Chase, and he mentioned that the average gasoline expenses by their client base is roughly 3% of their you know uh monthly spend. It's a lot. I mean, gasoline is important, but 3% of your total spend on a month's not necessarily going to move the needle too greatly. So I think that's one of the reasons we've seen probably a smaller impact, plus the fact that we're a little bit more as a producer of energy products here in the United States, not as dependent upon foreign as we used to be.

Natalie Picha 5:26

So, how do you feel that the oil price will affect the stabilization in equities?

Glenn Royal 5:30

Yeah, Natalie, um being in Texas, you know, Houston of all places, we we we watch oil. Uh, but the truth is oil uh energy is about three and a half percent of the S P 500. It's a pretty small industry in relation to our overall economy and vitally important to Texans. But I I think what it will do is it does have that friction of a drag. It's an added cost. What we have to look, does it start to impact the margins, the profit margins of companies? Do they start having to lose a half a percent because of these extra external costs that are coming in? Some cases we're seeing a little bit of that, but it's it's still a little bit early. But uh that would be what we would look for for this to be an ongoing drag on the stock market, is if that starts to come into that profit margin, that earnings stream that these companies make, and you get that reduction. You know, a stock price is nothing about, you know, it's the future stream of earnings that that company delivers that I'm willing to pay for that. I have to have confidence in that. And that's part of what starts to come into question when I have uh inflationary shocks like energy is do I have confidence in that company to earn what I expect them to do? There's a little wrinkle in it. So uh the quicker it resolves, the better. There is that impact that um the shock that we've already exhibited, that lost production that's not through the strait at four moves, it's will never be there, it's gone. Um, that is gonna have that ancillary impact of a drag, as we still have to deal with that for the next few months. If the war were in today, we'd still be dealing with the the reporting, the lagged reporting of higher inflation, of energy prices and well potential earnings. So there's a lag effect once it comes out, but it tends to be, you know, I I I I keep in my mind always that picture that Python eating that pig and that pig traveling through that python. That's that's kind of like an energy spike. It it is problematic, but eventually borrowing.

Natalie Picha 7:45

But it has to but it has to move through the system in order to resolve the case.

Glenn Royal 7:50

You we're draining down the storage tanks to replace that was lost. We've all the ship oil off the seas, everything's empty. So now we got to replace it and all that. So they've done a pretty good job of managing uh energy supplies during this globally. But um, yeah, it's it's probably you know, I think the market would be pretty pleased if things were to resolve themselves very quickly.

Natalie Picha 8:13

And what has the bond market been telling us about this conflict?

Glenn Royal 8:16

Uh so you know, the first thing that the bond market did was it we did see a sell-off in bonds. You saw rates move higher, prices down, uh, and the 10 years our U.S. Treasury is our benchmark reference rate that we like to look at when we reference the bond market. Uh, it went up to you know 1040, 1060 uh uh 4.6 yields uh back down uh lately. Uh but really what it I think it was kind of bouncing between well, first off, is this gonna increase our deficit? Is this gonna put further pressure on my fiscal deficits here in the country? So I saw a little pressure on the long end as result of that, that concern about the deficit overhang. Then on the short end, is this did it it pushed out the Fed cuts? We were expecting two cuts prior to this event. It pushed them off the table. They're not even pricing this year. So we saw the front end yields, you know, you kind of saw that lift higher than year curve. So for me as a bond guy, you know, it kind of got me excited because it went to levels that are absolutely attractive. I mean, when when you're getting a tenure up close to five, or I'm getting, you know, foreign change on one year paper, um, that's pretty attractive to me, just on a on an absolute basis, irrespective of inflation. So you'll start to see we started to see people come in and buy those bonds when those yields went up high because of that. They were insurance companies, things like that that want that. So I I think the bond market really it hasn't said one thing or other, other expressed some concern, and it's right back to where it was normal. Now, we don't have any cuts price in the system. So we do expect those cuts to come. That could be beneficial for bond prices should everything resolve itself quicker than sooner than the.

Natalie Picha 10:06

Well, and that let's talk a little bit about the Fed mandate, their dual mandate, and how much pressure they're under right now. I mean, this this situation really has them sitting on their hands.

Glenn Royal 10:16

Well, and then not to mention uh criminal investigations and you know, all kinds of stuff that's going on on their build out and all that. Uh, new Fed share, the potential that's on hold, you know, all these different things that's going on. But I think probably what it does is that if I'm a Fed governor in the United States, I've got to worry about employment as much as I got to worry about inflation, dual mandate. We're the only central bank in the world that has it. I'm caught in that box. That's what we talk about being so difficult. Before this was happening, I was leaning toward lowering rates to help the labor situation, job market, right? Wasn't terribly bad, but there were signs, little signs of stress. AI, you know, scarity of that, all that stuff. Uh, but now we, you know, it's kind of ripped back to it ripped back to inflationary concerns, and now it's back to thinking, okay, this isn't going to be inflationary. The market is telling you this is going to resolve itself, and we're going to be okay. It could be wrong. It's not likely wrong, but it could be wrong. I mean, something we didn't see the war coming. Something could come that we're not expecting, and I could throw that all out the table. But it sets us up for a bond market that's now paying us really attractive yields that we've taken advantage of and at a pretty pretty decent year. But the bond market, I mean, frankly, you know, if I'm I'm if I'm giving you four and a half percent and I'm all excited about it, that may make the person on the other side seem like that's kind of boring return.

Natalie Picha 11:42

It's gonna be four and a half percent, right?

Glenn Royal 11:45

I get it, but uh yeah.

Earnings Growth And Rich Valuations

Natalie Picha 11:47

I don't know. I think I think boring these days sounds pretty good. I'll I'll take boring. Um we're heading into earnings season, which always gives us a renewed focus on fundamentals. How has the recent pullback really affected the corporate expectations going into the earnings season? Because we're in a different place, even though even though we're kind of right back where we are, we're not right back where we are.

Glenn Royal 12:11

Exactly. Uh the surprise, and one of the reasons I think the markets performed so well is that analysts continue to raise estimates for profit growth through this whole event, through this whole conflict, the last six weeks that had since the first of the year. Week after week, analysts have been raising estimates for the first quarter. I'm now looking for year-by-year growth at 12.4 percent in the first quarter. This is where it kind of gets me excited as a for equity guy as I started looking at earnings growth. And so in 26, I'm looking for 17% earnings growth over last year. 17%. I mean, double digit, that's off the charts. 27 estimates for 16.8% growth by analysts right now. That's what the market is leaning into. It's that earnings as well as stable interest rates, accommodated monetary conditions that will drive this market higher. And that's what it's seeing. Partly one of the reasons we see the valuations, while they have corrected a bit, they're still kind of sticky on the high level.

Natalie Picha 13:19

Yeah. So we talked a little bit about the earnings per share where we were, you know, in valuations and where we are today. Uh a little bit of correction there, but we're still to your point. Still, we're still rich.

AI Productivity And Market Impact

Glenn Royal 13:32

Uh so it it uh we were now on a forward earnings basis this afternoon, 21.4 times forward earnings is on SP 500. That's down from its October peak of 23.2. Down its historical peak was the dot-com, you know, 29, 30 times earnings. They weighed back perspective. But where we are today at 21.4 times, even because of everything I told you about this earnings growth and all that, means that we're still at the 78th percentile in terms of uh rankings of board valuations. Right. We are rich. Uh you're paying more for stocks a day than you have the average over the last 36 years on valuations. So we're still leaning into that. So what does that do? You know, it leaves little margin for error. We saw that correction on the Iranian war, things like that could see those multiples pull back. But my guess is you know, what drives stock prices is is also the earnings growth, but also multiple expansion. I'm willing to pay more for that future stream of earnings because of the outlook for the economy. My PE grows, right? I don't see that multiple expansion because of the general overhang concerns we have, politics, things like that, um, trade, international, all these things. So we probably won't see multiple expansion, but earnings, and that's another way we can kind of if I have to pencil in what the future return will be on a portfolio, what's the earnings growth rate expected to be for the SP? But so this is 17%. I know we'll see that it'd be great. But that's kind of my proxy. So if I don't have multiple expansion, I still have the earnings growth, that kind of puts me into one of those years where you make money, you have a decent year, but it doesn't feel anything as exciting as the last three years where you're up 20% a year. Right. That's that's exciting.

Natalie Picha 15:28

How much of this earnings growth um can be attributed to what we've been talking about now for quite some time, and that's just AI. How is AI playing into the productivity of these companies and what does that do for earnings? Is that the AI story, even though I know we're we're very focused on this conflict right now, but really where we were before this conflict was the whole the whole discussion was what is AI really doing to the economy and to the jobs market? Um and how much of that's playing into earnings.

Earnings Season Volatility And Small Caps

Glenn Royal 16:01

So I I did see a report a couple months ago that Goldman put out related to this. And the initial impact right now is meager. It's a half of 1% to GDP. It's nothing. It does build up over the next few years, but we're in the early innings, so not much of a contribution at this point. I do expect it. I I think that what it does have the potential to provide is productivity gains. You know, if I can get more productivity out of a worker, that means my operating profits are higher, my profit margins, my earnings are better. That is a big, big deal. So if we get into this AI productivity boom and more and more, you know, uncertain how's it going to replace jobs, all that whole discussion is another one to have. But right now we're just seeing it being used to enhance the work that's being done. Uh, as put out a stat this morning, Citigroup announced on their call, they had 30 years of legacy operating data software systems. Multiple companies bought, purchased all that. They it was expected to be like 10,000 hours to put this all back together and fix this. Uh, they did it in two days with AI. 30 years of legacy operating systems. So, yes, it it is real. It will have beneficial impacts, uh, uh, and more is to come. Uh, so I I think that's gonna be a great added value to to our uh market and our economy in the future years. I'm super excited about it. Stephen Walsh, too, right? He's another guy, he's a big proponent of AI, and it's probably gonna lead him to uh want to lead to Fed interest rate cuts. Productivity canes can lead to cuts in interest rates because it offsets the inflationary impact of of rate cuts. So boom. So look for that as a reason if Walsh gets in there, why he'll want to start pushing for rate cuts.

Speaker 17:58

c

Natalie Picha 17:58

Um so we're we're in earnings season, and and so far we've had some even come out today, uh April 14th, um, day before tax day, uh, we're recording this podcast. But let's talk a little bit about a great example, Fastinol, where they missed their earnings by just a little bit. Just a little bit, and really got beat up for it.

Glenn Royal 18:22

So superior companies that deliver superior returns like Fastenol, it's it's at the epicenter of the AI data center build-out. They make all the screws, knots, bolts, fasteners, small handheld tools, all that. Their products used heavily. Right at the epicenter. Uh they were their margin was uh gross margin was supposed to be like 40 and a half percent. It came in at 40, um, roughly. Uh just that half a point was enough to take the stock down six percent. It blew out earnings, it blew everything out. So you you're we're in an earnings period where companies that do well, that are expected to do well, won't necessarily be rewarded for that excellence. On the other side, you might see cheaper value companies, smaller and medium-sized companies who do well that will be rewarded. Valuations are cheaper. That's that next part of the of the market that we expect to lift is that small and mid-caps. So I think based on where they are in their capitalization structure, how they report, as well as uh you know their level of earnings. So uh it's gonna be an interesting period. We do expect strong growth across the board uh and this year and next year's. When your expectations are that high, not meeting is your greatest risk, right? Isn't it? Yeah. So we'll see more of that. So look for a little volatility, a little choppiness of this earning season, but all in all, it should be pretty decent. You know, the problem is we're not meeting lofty expectations. That's a great problem to have.

A 100 Year Case For Staying Invested

Natalie Picha 20:03

We're that's a great problem to have. We're not meeting lofty expectations. Maybe unrealistic. Yeah, right. So we're starting to do that. Unrealistic expectations, right. And I know we always come back to this and we talk a little bit about the difference between how as professional investors, institutional investors, how we see the markets and what your normal retail investor may be doing. We've certainly seen the retail investor in this period buying dips. We've seen that that action going on. You know, often I'll say, please don't jump off the roller coaster in the middle of the ride. We know that markets are going to be volatile, they're up and down. But we tie that back to your financial plan and say your financial plan is what informs how your portfolio is constructed and what that will look like through periods of volatility. Uh, and I think you had some great data around, we're freaking at a hundred years of financial data. That's amazing.

Glenn Royal 20:59

Yeah, the geeks rejoice. I mean, a hundred years worth of data, right? How perfect is that in your stop boxes and everything? Yeah, yeah, yeah. 100 years. But it's it's what's pretty cool about it is when you when you step back, uh let me put my glasses on and read this a little better. I need to want to read this to you. So the average return for the last 99 years, my data goes back at the moment, is 10.2 percent. Average annual return. Wow. That's through Iran wars, Vietnam Wars, Korean Wars, you know, World War II, everything. 10.2% is the average return. Uh of those 99 years, we 25 were negative, 74 were positive. So three quarters of the time, you're getting a positive return in the stock market. So what I want the listeners to understand is that yes, these type of events that we just went through, that's kind of a ticket to the show. It's a cost of investing. The volatility that comes with it. The economy, you know, the economy grows, the economy shrinks. That's the the nature of it. But if you have time, is on your side and you have that uh plan and it's stable, you're not gonna allow things like these kind of markets to shake you out. You're gonna understand what you own, the quality of assets you own. You know, good our clients have very strong quality assets, can handle these kind of environments, and we'll get them on through that. Um but I I really think that's pretty important. By the way, uh on those three quarters of years that we have down years, most of them were followed by the up year. The most recent example, we had a 19.8% loss in 22. In 23, we were up 26.6%. So it's just kind of how it goes. So time in the market, it's it's about owning the market, it's about owning the right asset classes. And frankly, it's it's allowing yourself to not be shaken out by market events like this that certainly we don't always understand the full complexities of it. It's it's complex. I don't I don't know, I don't understand at all. But I can go back to the confidence of a hundred years worth of data and feel like this should continue. I I I had the question to uh portfolio manager last. We were going over this and I I asked him, so what you're telling me is that I have to have faith that we will repeat this data. So this is just like religion, right? I have to have faith in this stuff. And you know, hey, there's there's truth to that, right? There's a benefit, but I can go back to the hard data and have faith that we will repeat that based upon my belief that the US is still gonna be a going concern for the next 250 years, just like it has for the last. Right. That won't change.

Natalie Picha 23:56

I think um if I were to look back over the last hundred years, probably the biggest blip. I you know, you would have thought COVID would be a big blip on that screen, but COVID was actually such a small, small period of time in terms of market performance, the financial crisis, the 2008 financial crisis. Yeah. That I mean, yeah, that's true. You go back and you can find the crashes and and still see the recovery.

Glenn Royal 24:21

Recover. I mean, uh don't discount the United States. That's the moral of that story.

Closing

Natalie Picha 24:26

Yeah. Well, I always appreciate these conversations. I know that our clients and uh our listeners do as well. We always stress that having a good financial plan that it is that is tailored specifically to you and then matched with the right portfolio is how you navigate markets and build long-term wealth. So I just want to follow up by saying thanks, Glenn, for your insights and to our listeners, thank you for joining us. As we've seen time and again, markets respond quickly to uncertainty, but they also adapt just as quickly as more clarity emerges. And while geopolitical events can create short-term volatility, maintaining a disciplined long-term approach remains one of the most important principles for investors. If you found this helpful, please subscribe and share this episode with someone who could benefit from greater clarity and confidence. And please visit us at RoyalHarborPartners.com to learn more.

Disclaimer 25:29

Royal Harbor Partners is a registered investment advisor, and the opinions expressed by Royal Harbor Partners on this show are their own. Registration as an investment advisor does not imply a certain level of skill or training. All statements and opinions expressed are based upon information considered reliable, although it should not be relied upon as such. Any statements or opinions are subject to change without notice. The information presented is for educational purposes only and does not intend to make any offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk, and unless otherwise stated, are not guaranteed. The information expressed does not take into account your specific situation or objectives and is not intended as recommendations appropriate for any individual. Listeners are encouraged to seek advice from a qualified tax, legal, or investment advisor to determine whether any information presented may be suitable for their specific situation. Past performance is not indicative of future performance.