The biggest opportunity in the markets right now, according to a $1 trillion fund chief

Mike Ryan has spent over three decades watching markets and developing investment strategies.

Business Insider deputy executive editor Matt Turner recently caught up with Ryan, who is chief investment officer for UBS Wealth Management Americas, at the UBS CIO Global Forum in New York. UBS Wealth Americas oversees about $US1.1 trillion in invested assets.

We asked him about Trump’s economic policies, his view on the stock market, and the tech sector.

This transcript has been lightly edited for clarity and length.

Matt Turner: What are your clients telling you?

Mike Ryan: If you listen to our clients, there are three things that are essential to their concerns and focus. One is politics. In this environment we’re in today, you can’t escape the ongoing onslaught of political feedback. Whether it’s happening in Washington, or more recently what’s happening in Germany and parts of Europe, there’s certainly more of a focus now on politics. Our clients are tapped into what’s happening across nation’s capitals both here and abroad.

The second thing they’re focused on — the question I get repeatedly — is this is an economic expansion that’s now in its ninth year and how much further can this go? The durability of the expansion is always a question mark.

The durability of the expansion is always a question mark.

What sets this expansion apart is we’re not seeing the excesses and imbalances build up that usually wind up tripping up the business cycle, which is encouraging.

The last thing we hear is, given the fact that markets have come so far off their bottoms and given the fact it’s the second-most-robust bull market, how much further can markets go in terms of gains? Here, too, we think largely it’s going to be based in earnings growth going forward. While early in the process it was about central-bank policy, and simply about an absence of bad news as we came through the crisis, now it’s about incrementally better news to drive markets. That’s why there’s such a focus now on earnings growth.

Turner: Let’s tackle each one of those on their own. You mentioned politics. Obviously, there’s a huge amount of noise from DC, lots of different kinds of noise, some of it pertains to markets and some of it less so. How do you think markets have reacted to the uncertainty there seems to be in Washington? How do you see that playing out over time?

Ryan: It’s a good question. I would say, first of all, we have to understand that while politics matters, it’s not the only thing. In fact, it’s not even the most important thing that matters, because it’s the fundamentals that ultimately drive the economy, and that’s what drives financial markets. That said, outcomes in Washington and other nation’s capitals probably matter more today in terms of determining policy choices. The things we hear in terms of the focus in Washington right now, our clients are focused on what are we going to see in terms of the administration initiative on tax reform. That’s something that whether you’re a business owner or an individual, that’s something people are looking for because there’s an appreciation that the tax code as it’s structured now is not a very well-designed one.

The second issue they’re looking for is, what do we see in terms of the regulatory environment? This was one of the things the panel we were just on earlier in part of our program where we had my colleague John Savercool from UBS. One of the things that John mentioned is that the real progress being made, while everyone’s focused on tax reform or the repeal of the Affordable Care Act, the real progress and certainly what’s benefitting businesses the most, is regulatory relief, the slow unwinding of the regulatory overreach we’ve seen over the course of the prior eight years. I do think the positive development there is what you’re seeing behind the scenes, what I call the “hidden dividend” of regulatory relief.

Turner: With regard to regulatory relief, what parts of the economy does that affect most, and how does that affect markets?

Ryan: Ironically, when people think about regulation, they reflexively think about financial services, and that’s certainly one area; but it’s not just financial services. It’s manufacturing; it’s certainly the energy sector. I actually think this could be fairly broad-based. When talking about regulatory relief, it’s really the challenges that business owners have that matter.

By the way, we always envision the challenges for large businesses and bureaucratic issues they have to deal with but it’s also small businesses. It’s not just the large financial-services firms or the large multinational energy companies, a lot of it is at the small-business level, just making it easier for them to operate in the current environment.

Turner: And that brings me to the next thing focus you mentioned, which was the economy. How does that then feed into the economic expansion? As you said, it’s run for nine years now. How does something like regulatory relief and small businesses, those often drive the economy, how do those two things fit together?

Ryan: It’s really interesting. There are a couple of things that are the catalyst for economic growth. Of course one is consumers, to the extent that we’ve created an environment where there’s more hiring because there are fewer restrictions on companies in terms of how they hire. When they feel there’s greater labour-force flexibility, companies will tend to add to payrolls. That’s important because when people are working and they’re making more money they tend to spend more, and, as we know, we’re a consumer-led economy. The more that we have consumers where they’re working, they’re earning more, and their personal wealth is improved, that’s largely going to drive the economy.

The more that we have consumers where they’re working, they’re earning more, and their personal wealth is improved, that’s largely going to drive the economy.

On the other side, and going directly to your regulatory question, one thing that’s been a hallmark of this expansion — remember this has been the slowest postwar recovery and expansion that we’ve seen on record — is that business-investment spending has been so low. I’d say the only exception was early in the cycle, energy, because of the North American energy transformation and revolution, but absent that we didn’t see a whole lot of investment spending. That’s attributable to several things: the lack of visibility on the business climate.

When you don’t have a lot of confidence in the business environment, you’re not going to make investments in your own business. Second, the uncertainty around the tax code, because we saw lots of stop and starts with regard to extending tax cuts but not extending them, waiting until the 11th hour, and the failure to really address any fundamental tax reforms. That caused businesses to pull back a bit. The last one, though, is regulatory. When you have a more burdensome regulatory environment, it makes it more difficult for business owners to go out and invest in their own business.

It’s not only the regulations that are in place but also the uncertainty about how they’re going to be implemented, enforced, and what future regulations might be. So even a constructive step is just halting this creep upward in terms of regulation; that alone is constructive. Then if you start to see some pullback or pushback or rollback of some of those other regulations, I think that’s going to restore business-investment confidence. That business-investment confidence ultimately drives business spending. That’s one of the things that’s going to be important.

Turner: How does this then all affect markets? How does what’s going on in DC and in the economy play out in the markets?

Ryan: To the extent we get some kind of tax relief, we get continued regulatory rollbacks, and not even necessarily big infrastructure spending, or perhaps some improvements in existing infrastructure. This can give the expansion fresh legs.

To the extent we get some kind of tax relief, we get continued regulatory rollbacks, and not even necessarily big infrastructure spending, or perhaps some improvements in existing infrastructure. This can give the expansion fresh legs.

By the way, it’s also happening as a backdrop where we’re seeing better global growth prospects. While we tend to look too narrowly in the US economy, remember that the rest of the world matters a great deal. In fact, the world matters more to the US than it has at any other time in the postwar era.

The fact is, we’re seeing better growth in Europe and Asia and the emerging markets. If we can see this better growth globally, then we have some contributions through a more constructive policy backdrop in the US. I think that can give the expansion some fresh legs. I believe this will be a much more durable and longer-lasting expansion than many people envision.

Turner: How does that affect specific segments of the market? For example, you’ve seen, as the Trump tax plan has gained some steam heading into the next few days, small-cap stocks that are domestically focused and would perhaps benefit more from that start to rebound a little bit from where they have fallen off when tax reform looked like it might be a bit of a long shot.

Ryan: First of all, from a market-cap standpoint, we don’t have a real strong current preference in terms of small cap versus large cap. There are advantages to both. While certainly the improvement in the policy and operating environment in the US helps small-cap stocks, the improvement in global-growth prospects certainly helps the large caps, which tend to be multinational and have much greater exposure globally.

The area we’ve become more interested in is this dynamic of value versus growth stocks. Remember that early in the cycle, growth stocks are really the place you want to be in, and certainly they have outperformed while value stocks have now lagged. We actually think there’s an opportunity now in terms of value.

Turner: Could you dive into that a little more? Where do you see specifically on the value side there is an opportunity?

Ryan: One area is financial services; that’s an area that we certainly have an interest in. I think selectively within the energy patch there are places there. Now, although it’s not considered to be a true value area, but one of the areas that we do look at in terms of where we have a sector preference is technology. There it’s based as much on the secular growth, long time secular growth driver. So like I said that’s a departure from the pure-value play, but remember it’s never a pure-value or pure-growth story; it’s trying to find the opportunities correctly priced within the markets that not only take advantage of the current business cycle but also can leverage long-term secular drivers.

Turner: In terms of the secular drivers within tech, obviously a huge focus is paid to the FANG [Facebook, Amazon, Netflix, Google] stocks and those consumer-oriented companies that are in the lives of everyone really now, but there are lots of other companies in tech that have also got great stories to tell. Within tech, what are the secular drivers, what are the big themes that are driving returns there that you think people should be paying more attention to?

Ryan: First thing we’ll focus on is mobility because clearly the world is becoming increasingly more mobile. We have been unchained from our desks and even unchained from having to sit in front of our televisions; I think mobility is critical. Obviously, as information becomes more portable and certainly more voluminous. Access to the cloud is critically important as well.

An underappreciated part of technology that will be increasingly the focus is cybersecurity. Remember that technology has always had a duality to it. It can be a tool, it can be used effectively, but it can also be a disrupter. Certainly the more dependent we become on technology, we increase our vulnerability. It’s not just about enhancing and building out the tools that make our lives better and improving businesses, but it’s also about protecting them. I do think as we become increasingly dependent on technology, our security, cybersecurity and the protocols we put in place are more important. So those are the three secular drivers we see in technology.

Turner: We’ve talked a lot about the opportunities in markets. Where are the risks? What is it that’s keeping you up at night and has you worried?

Ryan: One of the things that always keeps up at night is the risk of a policy mistake. I tell people, “Look, every time I checked, every one of the central banks all around the world, the pencils come with erasers at the top.” There’s no infallibility. Vatican City’s the only place that claims infallibility. Central Bankers do not have that, nor do they claim it. We have to also understand we’re living through what has been the greatest monetary-policy experiment in history. We’ve never seen this before.

I grew up in an environment where, early in my career I was a fixed-income strategist, and I was led to believe that zero-interest rates were a lower bound. Well, that’s been put on its head because rates can go below zero. So we’ve had a change in the rates dynamic, but we’ve also seen a much different approach in terms of how central banks are willing to expend and expand their balance sheets.

Think about the Federal Reserve, the Bank of England, the European Central Bank, Bank of Japan, what they have all engaged in is this extraordinary balance-sheet expansion that commonly has been known as quantitative easing. That’s been extraordinary in terms of helping stabilise markets and allowing the economy to recover. Now we’re in the process, the very early, beginning stages of policy normalization. That’s going to be a bit of a challenge, so there is no rulebook, there’s no guidepost to how we do this. I think what it’s going to require is very prudent actions by central bankers; they’re going to have to be cautious in terms of how they apply policy changes. They’re going to have to be very open and transparent with markets about what they intend to do and what they are doing. I’d say, if you ask me what the biggest concern I have, is for a policy misstep. It’s that somewhere along the line, central bankers get it wrong, either they move too quickly or they move too slowly.

What you see is there’s an institutional quality about the Fed that can’t be underestimated or underappreciated.

Turner: With regard to the Fed, when you talk about central-bank policy, obviously there’s a lot of uncertainty there in terms of who’s about to lead it next, there are open positions there, it’s difficult to predict. How much of a risk is that for you, that with the uncertainty with who’s in the driver’s seat there, that markets are going to struggle to get their head around that and kind of price it in and predict what’s going to happen next?

Ryan: I think it’s certainly a risk, but I don’t want to overstate that risk either. There are always transitions of central bank leadership, we’re going through one right now. By the way, it’s not preordained, it could be well that Janet Yellen’s reappointed; there’s certainly a chance of that. But let’s assume for a moment it’s not. I recall when I was early in my career, the handwringing was over who could possibly replace Paul Volcker. Then we ended up having Alan Greenspan. Who can possibly replace Alan Greenspan? The answer was Ben Bernanke. Who is going to possibly come in and follow up on Ben Bernanke? And we had Janet Yellen.

What you see is there’s an institutional quality about the Fed that can’t be underestimated or underappreciated.

Because a lot of what happens in terms of the policy decisions is driven by the folks who have been at the Fed for a long time, the really seasoned professionals. When you go through any leadership transition, especially when you have a number of governor spots up, the chair and vice chair, that’s probably a time of upheaval that will probably lead to some market volatility.

I do think the quality of the people we hear are being vetted … some of the names we’ve seen floating for Fed chair are reasonable people, the folks they have put up potentially for governors. I don’t see anything that’s going to be radically outside what I’d consider to be mainstream-policy decision-makers. I think this transition will prove to be, like many of the other transitions, surprisingly smooth.

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