Well, joining us this morning to weigh in is Tim Urbanowicz, Chief Investment Strategist at Innovator from Goldman Sachs Asset Management.
Good morning, Tim.
Thank you so much for joining us.
Well, I do want to start out by looking at emerging markets.
So give us your take on EM as the next leg of the AI trade here.
Good morning, Remy.
Great to be with you here.
It's interesting, you look at emerging markets, we really view this as the area where the next wave of big returns can potentially come from this AI infrastructure trade. you know, even with the run-up that we've seen this year with emerging markets doing incredibly well to kick off the year, you still have a very wide valuation gap between EM and the U.S.
In fact, it's still one of the biggest ones that we've seen over the last 20 years.
But when you step back and you look at what is inside of this index, you have almost half of your exposure, Remy.
You have half of that in Taiwan and South Korea, which are really central to the AI trade, whether it be manufacturing, memory both key players there and and so a lot of growth potential earnings are off the charts but you still haven't really seen valuations at the level that they are in the U.S.
So we think that's a that's an area that you want to be exposed to.
Reverend we have a lot of conversations with advisors right now and one common theme that we're seeing is that there's still a pretty big underweight.
Most advisors are heavily overweight towards the U.S.
They have underweight exposure to emerging markets and really if we want to capitalize on this growth, we want to make sure that we true that up and even implement that overweight to get that exposure.
And Tim, here in the U.S., we are winding down earnings season, but we have retailers as well as NVIDIA reporting this week.
And when we take a step back and look at the geopolitical picture, the recent Trump-Xi summit did reinforce some trade stability.
But at the same time, we are monitoring Treasury yields across the globe.
Here in the U.S., the 10-year Treasury just crossed that 4.5% level.
So how concerned are you about these higher rates for U.S. equities if the market can't look past these new inflationary pressures?
Well, Remy, what we've seen over the last couple of years is when you have rates that hit this level, you know, that four and a half percent level or above, you start to see equities becoming much more sensitive to moves in interest rates, meaning that as rates move higher above that level, you start to see a more violent move downward because markets cannot stomach higher rates from that starting point.
So we want to be very cautious of that, and I think if you take a step back and you look at, okay, what is the key threat to my portfolio right now?
The key threat here is that this situation in Iran does not get resolved quickly.
The conflict drags out.
You drag in more of these Middle Eastern nations as trade reform moves, stays closed.
And what does that do?
That makes inflation sticky. the jump that we saw in CPI and even core CPI given, you know, the spike in energy shocks and the factors that that had across the entire CPI basket, you know, that's a risk.
That stays sticky.
And when that stays sticky, we see interest rates having to move higher to account for that.
So that is clearly the key threat here.
The key threat is higher interest rates.
And when you look at how you typically structure a portfolio, we see portfolios structured all the times, it's really reliant on fixed income, core bonds, low volatility equities for risk management.
And I just don't think that playbook is set up to work in the environment when you step back and you look at those visible risks.
So we really want to be thinking about other structures here, built-in risk management, I think options-based strategies, buffered ETFs, dual directional ETFs that provide that element of built-in risk management regardless of the direction of the next move of interest rates. is critically important right now.
And again, that risk is very visible.
I think everybody out there knows it is the biggest risk to markets.
And so we need to see portfolios being structured in a way where we're aware of that.
Yeah.
And you mentioned a key word here, and that is risk.
Here in the U.S., we are counting down to the Memorial Day holiday weekend.
And that also means that driving season, the summer driving season, is about to kick off.
And WTI still remains elevated here.
But the ongoing Iran conflict does leave Europe highly vulnerable to recession risks, given their weaker economic starting point, as well as their reliance on energy.
So how can investors actually leverage EM oil exporters to offset this downward pressure at the index level.
Well, Remy, I think you need to be cautious of the exposures that you have in your portfolio right now, and we really see this as a U.S. and E.M. trade.
I mean, the U.S., incredibly strong.
You look at the earning season that we just had, nothing short of phenomenal.
The macro data continues to come in strong in the U.S., and that's why you're seeing revisions being pushed up even higher, some of the best revisions that we've seen in a very long time here.
So, the U.S. starting point is very strong. you know, will higher energy prices have an impact on stocks?
Absolutely.
And I think, you know, part of what we're seeing in the U.S. here is that rotation trade that we really had playing out over the last year, where it wasn't just MAG-7 names, it was small caps, it was the S&P equal weight that we're starting to show some outperformance.
Higher rates have a much bigger impact on those names.
And we think that, you know, you're going to need to see interest rates come down to see that rotation trade in the U.S. continue.
Shift over to Europe, I think the starting point is much, much different.
Growth was not strong coming in.
Inflation was already somewhat problematic.
They're very heavily reliant on oil imports.
They're a net importer.
That's a problem, okay?
And the longer this conflict drags out, the more of a drag it's going to be on growth in Europe, which is going to be a problem.
And, you know, you look at that market, we just see it as very high risk.
Obviously, if the conflict resolves quickly, they're going to be a big beneficiary of that.
But it doesn't look like it's going to.
And again, I think the market continues to look for very short, simple solutions. to complex problems.
Iran is an incredibly complex problem with their ideology.
It's something we've been dealing with for half a century.
And to think that we're just going to get this situation resolved with some negotiations in the next couple of weeks, I think is naive.
And so we want to prepare for our portfolios for the possibility that this could extend.
And Europe, quite frankly, is very, very exposed to this conflict escalating.
EM, you still do have some of those issues, but again, we like the AI trade, and then if you look under the hood, you have Brazil, you have Mexico, the UAE, Saudi Arabia, all of these countries that really should stand to benefit also from this conflict escalating, because they're exporters of oil.
So, all in all, we think a lot to like there, a lot to like in the U.S., obviously cautious on rates, cautious on the rotation trade, but very careful when it comes to Europe.
And finally, Tim, before I let you go, I do want to look at small caps.
In New York Morning Trade, we are looking at the Russell 2000 pulling back slightly, but we have to keep in mind that year-to-date the Russell is up over 11%.
And small caps have been seeing incredible resilience in 2026, outperforming the S&P 500 on positive days.
So why do you believe that this asset class will be a top performer once some of this geopolitical attention does finally subside?
Well, Remy, at the end of the day, you look at what drives small caps, what drives small caps is economic growth.
And again, the growth backdrop in the U.S. is very, very strong.
You know, PMI is still, you know, north of that 50 level.
You have the fiscal impulse, all the stimulus coming in that really is driving growth.
I do think you know earlier in the year up until I'd say before the start of last week when the market was selling off you really saw you saw small caps selling off more but also at a muted level I think you're trailing by about 15 to 17 basis points on down days which is not much given typically the higher beta nature of that asset class.
And then on up days, you were seeing about 30 basis points of outperformance.
And, you know, so a lot to like there, but I think the big question mark now is the rate picture, Remy.
That relationship where you saw the muted moves on the way down really broke down last week, and it broke down once we popped that 4.5 level. on the 10-year.
So I think there's a lot to like.
The runway is very long.
But we do need to see some resolution in the conflict in the Middle East, because I think rates are going to be a problem for that rotation trade until we see some rate relief.
And very quickly, we have about 60 seconds here.
I understand that you have said investors might need to revisit the 2022 playbook to manage risk.
So in a nutshell, could you summarize this for viewers out there?
Well, I think it comes down to what we talked about a little earlier, Remy, which is that you have to think outside of the traditional portfolio construction box, 60-40.
I mean, the correlation between, you know, bonds and equities is very high.
It's going to continue to be high given the most obvious threat here.
So again, it's disconnecting risk management needs from the reliance on interest rates having to come down.
That's the number one piece here.
Obviously, having some sectors in your portfolio like energy to help, you know, provide some positive returns, very strong.
But we also think it's really important right now, Remy, to lean into those derivative-based strategies.
Again, I think buffered ETFs are incredibly powerful in this environment.
Why?
Because they don't rely on interest rates having to come down to provide protection.
They have structured built-in risk management, you have a known level of downside protection, you have known upside.
And so that certainty in this very uncertain geopolitical environment is incredibly important.
And so we want to look at that playbook and run that back, because those are the key threats this year.
Well, Tim, we will have to leave it there for today.
But as always, great having you on the show.
Thank you so much for joining us.
And thank you so much for sharing all of your insights.
