LIZ ANN SONDERS: I'm Liz Ann Sonders.

KATHY JONES: And I'm Kathy Jones.

LIZ ANN: And this is On Investing, an original podcast from Charles Schwab. Each week, we analyze what's happening in the markets and discuss how it might affect your investments.

KATHY: Well, good morning, Liz Ann. This is the morning after the election. We've both, I know, been up and communicating for several hours now. And at first, we didn't think we'd have much news on the election. That was our assumption, is it would take several days to figure out who won the presidency and the various houses of Congress. But in fact, we have a lot of information now, certainly on the presidency and the Senate. So, a big week, obviously. In addition, we get the Federal Reserve meeting. So, a lot to talk about. What is it that is going through your mind right now?

LIZ ANN: Yeah, so obviously the reaction in the equity market is massive. You know, if you wanted to point to, I don't want to say fundamental reasons for it, but perceptions around policy reasons for it, I guess you could point to the possibility of lower corporate taxes, a more lax regulatory backdrop, perception of pro-growth policies. But you know, in your world, and certainly I want you to weigh in because our worlds are very connected, especially these days, I think the move up in yields is all is also a function of concern about tariff policy and inflation, which that in and of itself would not be a positive backdrop for equities. That said, you've got the dollar surging as well and all else equal a stronger dollar is earnings negative. So that's another offset to some of these other perceived positives. 

So it's oddly a bit of cross currents for the equity market, but the equity market is charging ahead, at least for now. For me on a day like today, not that I'm forecasting some intraday reversal, but these are the kinds of days where you want to sort of stay in tune throughout the entire trading days, because some pretty funky things have happened in the past when you either get a big, big, big starting gain or a starting drop. So that's what I'll keep an eye on. But you know, Kathy, you and I had an exchange this morning before markets opened and before some people were up, about the Fed meeting on Thursday. And would this potentially move the needle from what is still very much an expected 25 basis-point cut. So I'm going to toss it back to you broadly on what you think is going on in the bond market, but would love your thoughts on the Fed meeting as well.

KATHY: Yeah, Liz Ann, as we've talked about, the bond market has really sent yields sharply higher in response to those expectations that we're going to get expansive fiscal policy in an economy that's already running at a pretty healthy rate and is pretty close to full employment via tax cuts and perhaps other programs and the risk of inflation due to tariffs. And again, all of this is very unknown. We don't know what policies will actually get implemented. We don't even know yet the composition of Congress to a full extent. So betting on policy now is really a risky business. But I think the market has to price in a greater risk than expected that inflation is higher than we had expected, or at least we get a bit of an inflation hit via the tariffs. And that fiscal policy will be more expansionary, which will probably raise the deficit and increase the risk of more inflation down the road. So that's the market's trying to price in when I look at what the bond market's doing right now. Still pricing in a rate cut at this meeting on Thursday, which I think is realistic, but a shallower path of rate cuts going forward. And that's reasonable if we don't get the kind of decline in inflation from here than expected. And I look at, the breakeven rates and TIPS, the Treasury Inflation Protected Securities market. And that's a market where you can look at the breakeven rate, the yield between nominal Treasuries and the inflation-protected securities and imply what the market is pricing in for inflation over the time period of that bond. And what we're seeing is those are up eight to 10 basis points. So, the expectation for somewhat higher inflation is starting to show up in the numbers and that's where we are today. Again, we don't know. I think there's a huge wide range of outcomes over the next year or so.

But it does put the Fed in an interesting position because as you say, the dollar is up, which tends to hold down inflation import prices. And we see oil prices down sharply, agricultural prices down sharply because they're all traded in US dollars. So, that's a hit to those markets. And if we have tariffs on agricultural goods, that certainly would be another hit there. So you have some offsets on the inflation outlook, but the focus, I think, is more on the stimulus and the increase in deficits that we would probably get down the road if all these proposed policies are implemented. 

And that's a huge if. Nobody really knows what will actually come out of Congress after the campaign. A lot of things are said on the campaign that don't get implemented, so we'll have to wait and see about that. But I think you're seeing this knee-jerk reaction. And if I'm at the Fed right now, chances are they'll go ahead with a 25 basis-point rate cut tomorrow on Thursday because that's really been part of the game plan so far. It's what has been signaled. There's been no kind of leaks to the press about them changing their minds or anything. So there's no countersignal right now. And inflation has come down and is tame. And there is a big gap between the Fed funds rate and the inflation rate. It gives them room to ease policy. 

That being said, on a forward-looking basis, when we hear Chair Powell speak at the press conference, forward guidance may be a lot more cautious than it has been. And that's because, just like us, the Fed is looking at all these crosscurrents and saying, "We're not, you know, it's hard for us to forecast where we're going." And I think a pause at the December meeting might be in the cards. Hard to say, because we get more data between now and then. If we have really, really soft employment data, then I think the Fed could go ahead in December and cut. I think they'd like to get to around 4%, which is a reasonable Fed funds rate if you have a 2.5% inflation rate. But December, they could take a step back to say, "Let's take another look at things. Let's maybe hold off a little bit and be more cautious," and maybe in every other meeting kind of cut and ending at a much higher level than we might have thought just a few days ago.

LIZ ANN: You know, it's interesting when you said how much we don't know. I thought about that, too, in the context of the equity market. I think there are all these knee-jerk assumptions that are made. Maybe it is human nature when you get the result of election and then you start to think about, "What's this good for? What's this bad for? Who benefits? Who gets hurt?" 

And this is my PSA for our podcast episode today. And you probably know where I'm going with this, because I often use it as an example of the perils of extrapolating the kind of narratives that you hear in the immediate aftermath of election, especially around sector behavior. And prior to the results of this election, I went back and looked at a lot of Wall-Street-related headlines research providers in the immediate aftermath of the 2016 win by Trump to see what the narratives were. And probably the most dominant one that brought sectors into the mix was this is going to be great for the energy sector. And as a reminder, the S&P energy sector is all traditional energy companies. 

There's no renewables in there, no solar companies, no alternatives. It's actually a pretty concentrated sector in that ExxonMobil and Chevron represent almost 50% of the sectors. We think about, you know, sectors like communication services, consumer discretionary and tech being top heavy. Man, energy is pretty top heavy too, but the remainder of the stocks are traditionally E&P companies and drilling companies. 

Well, the warning about extrapolation is if you look over the full first Trump term from Inauguration Day 2017 to Inauguration Day of 2021, you saw that the energy sector was the not just the single worst performing sector, it was the only one down. And it was down 60 percentage points more than the next worst sector. Fast forward to the Biden-Harris administration from the inauguration day in 2021 to basically yesterday's close. The energy sector, again, all traditional energy companies, has been the best performing sector, even outperforming technology. And the real point there is not "Wink, wink, nod, nod. It turned out Trump was actually anti-traditional energy and Biden Harris were pro-traditional energy." The point is that there are so many forces that impact what markets do, what sectors do, what sub-industries do, what types of stocks do, be really careful about letting election-related narratives define how you approach investing and markets. It just doesn't tend to work, maybe beyond the very, very, very short term.

KATHY: Yeah, I think that's also true in the bond market. Although one thing we can say is we're probably going to get more cautious about duration rather than less. We've moved from, "Well, let's go ahead and extend duration as rates moved up to more benchmark, staying kind of with your benchmark." I would say even though rates are up, we're going to wait and see what happens before suggesting any more duration extension from here. And we may, for some people, it might make sense to even shorten it a bit. Again, though, not to make drastic moves the day after an election. That's not a smart idea. Because again, there's such a wide range of outcomes. And I'll remind people just talking about the Fed that Powell's term is up in early 2026. So I don't think there's a lot of other turnover coming. A couple of members will turn over in the next year or two, but it won't be a lot of change. So that being the case, we'll only have probably the prospect of a new Chair ahead of us in the near term, in a year, well over a year. So that gives plenty of time to kind of assess where the Fed is and what the composition will be, but it adds to that level of uncertainty in terms of where we go from here because we're just getting used to Powell's communication style. We'll have to potentially get used to some new communication styles and that'll take a while to interpret. So yeah, I would just echo, "Be careful, don't make big changes right now. Give some time to think this through." But we are getting more cautious in our view, simply because the wind seems to be shifting towards more expansive policies for the economy at a time when the economy is already growing at a pretty healthy rate.

LIZ ANN: You know, Kathy, you mentioned getting down to brass tacks to the extent we there's any sharpness to those tacks at this stage post-election. But let me do the same thing on the equity-market side of things, as you know, and I'm assuming maybe many of our listeners know, we have had a view that factor-based investing makes a bit more sense than trying to make monolithic sector calls. We've been recommending you stay up in quality in terms of those factors. And for those that don't know what factors are, it's just a kind fancy word for characteristics. And there's been much more consistency in terms of leadership at that characteristic level: stronger balance sheet, better profitability trends, better free cash flow, high interest coverage. And in general, I don't think that changes. 

But I also think that the rotations that started in the market, back to mid-summer of this year, where you started to see a bit of a pullback in some of the high flyers and mega cap tech and tech-related names, the Magnificent 7, and you started to see rotation at least initially into the interest-sensitive areas of the market, especially when the Fed started telegraphing easier monetary policy. And you've had rotations in other areas when China announced some of its stimulus measures, you got a little bit of a lift in some of those globally sensitive areas like materials and industrials, we've had bouts of leadership shifts toward the more traditional defensive areas like staples and healthcare when there's been a bit more uncertainty. And that was going to be a theme for us as we look ahead to 2025. And that's not changing. I just think that those rotations have the potential to be more significant, more severe at times, given what we know now, I think it's more of a reinforcement again of at least having that factor-based overlay versus trying to make these shorter-term sector-based calls. 

Whether it's tied to the uncertainty with regard to policy broadly or as we learned back in 2018, all the uncertainty that came about with regard to trade policy and who were the areas, the companies, the industries that were on the receiving end of the giving end and how you work that into analysis. So I think maybe more volatility around those sector rotations at this point, I think is an easy call for 2025, knowing what we know now.

KATHY: Yeah, totally agree. Volatility is going to be with us, I think, for a while in all the markets until we've figured things out. And I will just mention the dollar as you did. It surged today. It's going to be toughest if there's major trade policy changes, toughest on emerging market countries because often they issue debt in U.S. dollars. So they are stuck trying to pay with a much stronger dollar payback, that interest and principal, but it also, a lot of the trade affects those countries as well. They're big, usually trading countries, big exporters. So you can see this morning, we're seeing a lot of pressure on the Mexican peso, and as you go through the emerging markets, it's really rippling through there. 

So that's just something to pay attention to because even though we're cautious and want to wait and see what the policies actually are, the market's going to price in these things. The market's going to try to price in maybe three or four times before we actually get a policy change. But that kind of volatility is likely to be what we see across both currencies and bonds here for a while. So with that, I think we could note that next week our colleague Mike Townsend, who is our expert on all things Washington and policy, will have a full post-election episode on his WashingtonWise podcast. And we plan to rebroadcast that episode in our feed, so stay tuned for that one. And I know we're all looking forward to hearing his analysis and how he sorts through all this information. 

But, Liz Ann, besides the obvious, any economic indicators you're watching ahead for the middle of November?

LIZ ANN: Yeah, so next week we'll get an update on the NFIB data and that stands for the National Federation of Independent Businesses. So it takes the pulse of how small businesses are feeling. It may be too soon to truly capture the reaction to the election, but on a going-forward basis, at least over the next couple of months, that's one I'll be keeping a little bit closer an eye on because in this cycle of significant bifurcations and cross currents we know large companies have generally been doing well, but there's been a little bit more pain being felt down the size spectrum and I think maybe as we get more election-related survey data like the NFIB that'll be interesting and then of course the big ones next week are the consumer price index and the producer price index to your point about additional data is going to color the Fed's thinking not just the election and then retail sales too, which obviously is a pulse on the health of the consumer. Those are what's on my radar. I assume those are on your radar as well.

KATHY: Yeah, absolutely. The inflation numbers and you know, we did get a big move in the bond market off those retail sales numbers last time around. So definitely keeping an eye on those. Those often come with revisions and they are in nominal terms. So anything goes when you get retail sales and of course the inflation numbers. But first we have to deal with the FOMC meeting. So that's going to take up a lot of my time and then I'm hoping we can cruise into the Thanksgiving Day holiday without too much turmoil. I'm looking forward to a few days off then.

Again, thanks for listening. You can always keep up with us in real time on social media. And I'm @KathyJones, that's Kathy with a K, on X and LinkedIn. Had a new imposter last week, so please doublecheck that for me. And if you want to find any of our articles or written reports or videos, please check them out at Schwab.com/learn. Those are all publicly accessible. You don't need to be a client to view them.

LIZ ANN: And I'm @LizAnnSonders on X and LinkedIn. And to your point, Kathy, about imposters, I continue to have a rash of them, some on X, but also to an even greater degree on Facebook and Instagram. It feeds into WhatsApp. They're not me. I don't have a private stock-picking club, so don't get duped. But if you've enjoyed this actual show with the real us and the episodes we've done so far, we'd be really grateful if you'd leave us a review on Apple Podcasts, a rating on Spotify or feedback wherever you listen. And you can also follow us for free in your favorite podcasting app. And we'll be back next week, so stay with us.

For important disclosures, see the show notes or visit schwab.com/OnInvesting where you can also find the transcript.