Envestnet Solutions Co-CIO and Group President Dana D'Auria and U.S. Bank SVP and Public Markets Group Head Lisa Erickson join Yahoo Finance Live to discuss the upcoming FOMC meeting and how markets are faring ahead of the rate decision.

Video Transcript

INES FERRE: Here's the closing bell.

[MUSIC PLAYING]

[BELL]

[APPLAUSE]

RACHELLE AKUFFO: Well, stocks ending the day with lots of red across the board. Let's take a deeper dive on how the major indices did, although all three ended off their session lows. You see the Dow there losing almost half a percent there. The S&P 500 also losing about 3/4 of a percent there. And the NASDAQ losing more than 1% there. That sort of collective draw of breath back as we await some word from the Fed, as their meeting kicks off tomorrow.

Well, for a closer look at the broader markets, let's bring in Dana D'Auria, Envestnet Solutions co-CIO and group president, and Lisa Erickson, US Bank senior vice president and head of Public Markets Group. So Lisa, I want to first start with you in terms of how you're digesting what's happening in the markets right now, as we wait for word from the Fed, as well as jobs data coming out this week as well.

LISA ERICKSON: Well, thanks, Rachelle. We're really fairly cautious on the US equity market. And really, the reason why is we've just got a tough economic environment. Chief among those concerns really is on the inflation front. So if we think about the price pressures we've witnessed in the last several months, what we're seeing is some deceleration in some of the underlying numbers behind the broad inflation, but really, the price pressures remain at a fairly high level.

And so that is really continuing to lead to really central bank tightening, whether it's at the Fed or globally. And that really just is a very tough headwind for companies to overcome, in addition to the fact that they had very strong growth numbers in 2021 coming off the pandemic. So it is even harder for them to sort of lap those comparisons that they had last year. And so growth overall is slowing as well.

DAVE BRIGGS: So, Lisa, make sense of the best Dow month of my lifetime and perhaps the best October ever, given the conditions we just laid out.

LISA ERICKSON: Well, to your point, we've had really somewhat of a run-up in October. But we are having some caution as to whether that really can continue. If you think about the factors that are really driving what happened in October, one is just the fact that we've had earnings expectations come down so low, that there really was a lower bar for companies to overcome. And so that presented a little bit of a relief rally.

In addition to that, though, I think investors have been hanging on the Fed's every word to look at potentially, again, if they may turn some of that more strict monetary policy. And there were some comments during the month that were interpreted as starting to potentially indicate a pivot. But again, as we look forward, we've seen some of that signs of potential pivot be countered with some more recent hawkish speak. And so, again, the overall view is really more cautious.

RACHELLE AKUFFO: And also, Dana, we're seeing that, obviously, we see the Russell in positive territory, unlike the rest of the markets today. What's your take on what we're seeing with small caps and how much they act as an inflation hedge?

DANA D'AURIA: Yeah, well, typically, smallcaps actually are a pretty decent inflation hedge. Small value, in particular, have been able to pass on inflationary costs over time. So we've maintained sort of an interest in diversifying across the spectrum of stocks, and small caps in particular. And if you look at empirical evidence on markets over the long haul, small, small value actually does tend to outperform. I won't say if you're in the smallest growthiest areas where you're kind of just this side of profitability, they don't outperform.

But small value stocks do tend to outperform the broader market over time. And as we transition now, I think, to a more fundamentals driven type of a market, we probably see some of that come back. We've had 10 years of large growth dominating. I think we're seeing that shift now because of interest rate increases and the cost of money increasing.

DAVE BRIGGS: So, Lisa, all eyes on the Fed on Wednesday. Pretty much baked in 75 point hike at this point. And Goldman over the weekend suggests an extra 25. So they've got 75, 50, and then two consecutive 25s. What do you expect to hear from Jerome Powell this week, and how might markets ingest that?

LISA ERICKSON: The key question, really, for everybody with the upcoming Fed meeting is any kind of indication they're going to give as far as future direction. The markets are really, to your point, fairly well settled and expecting 75 basis points for this week. So they're really looking forward as, again, to that forward trajectory. And we really think it's just unclear which way things will go.

Again, the Fed is in a tough position because they're very data dependent. And it's just unclear how quickly inflation is going to come down. So we are anxiously as well awaiting a really-- what they are going to put forward as far as their language. And again, it just remains to be seen how they're going to position themselves at that meeting.

RACHELLE AKUFFO: So Dana, when you look at some of the stickier parts of inflation that are hanging on that are giving the Fed pause in, for example, what we're seeing with the housing market, what we're seeing with the jobs data as well, how are you positioning yourself?

DANA D'AURIA: Well, I mean, diversification is the obvious place, right? I would echo what Lisa said. I think the market right now is just waiting. I think 75 basis points is all but guaranteed. And the question becomes, at what point does the Fed pivot? I would say, just given the fact that unemployment is sort of remaining resolutely low, it really empowers the Fed to kind of push harder.

And, you know, that means likely higher likelihood maybe that the Fed put remains sort of inoperable. And if that's the case, if you're thinking in the short-term, you're probably thinking toward defensive areas, quality, low volatility, et cetera. If you're positioning yourself for the longer haul, maybe you're buying into areas of the market, again, the smaller value type of stocks where you're getting it at a lower price and perhaps a long run, higher return.

DAVE BRIGGS: And the same to you, Lisa, the best way to position oneself, given the setup you laid out.

LISA ERICKSON: We're actually focusing on cash flowing investments, so our focus would actually be more so outside of the US equity market in areas like high quality fixed income and global infrastructure. When you have a very difficult economic period, really being able to have more of that income upfront, we think makes sense. It just cushions your return pattern to a greater degree and provides some balance to the portfolio.

RACHELLE AKUFFO: And Dana, I want to ask you. Because usually, in the run-up to some of these Fed decisions, the markets seem to know what's coming. They're expecting the 75 basis point hike. Yet, when they hear the words from Powell, then we see the markets become more volatile, and they start to sell off again. What are the expectations here? And is this going to happen again, do you think?

DANA D'AURIA: I think Lisa called it. It's really all about the remarks that he makes around what we're going to expect going forward, right? So when he says the word 75, that's priced in. The question is, do we start to even see a tapering off a little in December? The market has remained this year, from my perspective, sort of doggishly devoted to this idea that maybe the Fed will pivot a little quicker than might be anticipated, right? So any sort of dovish comments around what's going to happen in December or confirmation of what a lot of market participants now think, which is that once we get into 2023, the Fed will back off, I think is greeted positively by the markets.

I just don't know that I think we should expect that, given, again, what we're seeing in inflation, what we're seeing in the unemployment rate. It really does give the Fed that mandate to stay hawkish. So could very well hear Jerome Powell simply reiterate what he and the other governors have been saying, and markets react poorly to that.

DAVE BRIGGS: Indeed expecting a hawkish tone. All right, thanks so much, Dana D'Auria and Lisa Erickson. Appreciate you both being here.