Betting On Innovation: How Much Longer Can The QQQ Continue To Outperform? (Podcast Transcript) (NASDAQ:QQQ) | Seeking Alpha

Editors’ Note: This is the transcript of the podcast we posted last week. Please note that due to time and audio constraints, transcription may not be perfect. We encourage you to listen to the podcast, embedded below, if you need any clarification. We hope you enjoy.

Jonathan Liss [JL]: For reference purposes, this podcast is being recorded on the morning of Wednesday June 3, 2020.

My guest today is Ryan McCormack, QQQ Equity Product Strategist at Invesco. Prior to joining Invesco, Ryan was an ETF specialist at Oppenheimer Funds working specifically with the FA Community. Before that he spent seven years at Merrill Lynch on the portfolio solutions test. He earned a BA in economics from Johns Hopkins University.

Welcome to the show, Ryan. It’s a thrill to have you here.

Ryan McCormack: Thanks so much for having me, Jonathan.

JL: Yeah, so this is great, listeners of the podcast, you’ll know this is like close to our 50th episode at this point. They’ll know that Invesco QQQ ETF (QQQ) has been my core portfolio holding for well over a decade really since 2008, since I started building my own portfolio, and then my children’s portfolios for college savings, dealing with some of the things that my parents do in their portfolio, and it’s — I’ve made it the core holding really in every single portfolio that I’ve constructed myself.

My general thesis on it has not changed amazingly and I guess the outperformance has been there to kind of prove it. Although I chalk a lot of that up to luck also, but my general thesis is just that the companies in the NASDAQ 100, and particularly those largest holdings there, are really the most innovative companies in the world. There are certainly the most innovative companies in the U.S. And they have unbelievably pristine balance sheets. And we’ll get into all that stuff, I’m sure in short order.

Before we do though, what made you decide to get into the ETF side of the asset management business to begin with?

RM: Well, I came out of — I graduated college in 2007, and joined a wealth management team in New York. And within that team, they had run two — they’re running two separate portfolios for clients, one was a single stock portfolio. And the other was an ETF model. And that was really my first introduction to ETFs.

When you looked at the product, and what interested me the most is you were able to really express a view in a diversified way. Not only did I see all the growth and assets and the attention that were going to ETFs but the fact that you could really dive into some very niche themes that have afforded a lot of flexibility with portfolios to sort of play themes that you thought could be expanding in the long run.

So, I kind of dove in headfirst, did a lot of work with those ETF models. And at that point, I realized I really just want to get into the ETF side. From there, I went over to Merrill Lynch, where I was on a — essentially an equity strategy desk, where we were looking at single name, equities, but the vast amount — the vast majority of our time was looking at ETFs and determining which ETFs played research themes, market views the best. And that’s really where I gained most of my ETF experience, and just love the product, love the strategies that you can harness using that. And from there, I decided that I wanted to make that my career.

JL: Nice. Yeah, that’s great. And I mean, I first joined Seeking Alpha in 2006. So I started tracking the ETF space around that time also on our editorial team. So sounds like we had a similar trajectory in terms of the time we joined the industry. I think probably when you came out in 2007, there was certainly less than $200 billion in assets in ETFs at that point, or something along those lines. So it’s pretty unbelievable to see that more than 20 fold growth in assets over that period.

RM: Absolutely. And I think as we started our careers right towards the tail end and leading into the financial crisis, we headed into ’08 you even saw more attention and you’re getting into QQQ in ’08, first of all, great timing.

JL: And pure luck.

RM: But secondly, I think not only did you see the assets, but you also saw just numbers of ETFs increase. So I mean, it really expanded the product set. And, just the options that you had, it really was a great time to sort of dive into the world of ETFs.

JL: Yeah, definitely. So QQQ recently passed the 100 billion assets under management mark. So congratulations on that. I think that the timing of your visit, I mean, would always be good just because this is such a central fund. So that’s definitely a huge landmark. And you’ve obviously seen asset growth accelerate over the years.

The performance of the NASDAQ 100 Index, and the one ETF still, that tracks it, there aren’t multiples, like with the S&P 500, it’s just QQQ has really been nothing short of incredible. So before we get into things like specific holdings, if you could just kind of walk around listeners through how the NASDAQ 100 Index is constructed, how often it’s reconstituted, what are the criteria for inclusion? It’s kind of a strange index to some extent with some of the rules, and I’m not sure all of the listeners will be fully aware of how it’s put together.

RM: Yes. No, it is a bit unique. Essentially the index is — the construction of the index is pretty simple. It’s the 100 largest companies listed on the NASDAQ exchange X financials. And the reason for that is the index was constructed in 1985. And there were two separate indices, there was the financials index, and then the NASDAQ 100, which was, again the hundred largest other than financials. So in kind of making those two indices, the NASDAQ 100, almost by luck became this huge kind of growth engine, where you look at the companies that are listed on NASDAQ and as you I’m sure we’ll get into a lot of those, generally, very innovative very growthy companies.

So what it developed and what it grew into, is this preeminent large cap growth index. It’s rebalanced quarterly, it’s reconstituted annually. And as we look at hitting that $100 billion milestone, I mean, number one we’re absolutely excited, we’re very happy with it. A lot of that was driven by performance. As you said, the outperformance has been nothing short of spectacular.

But beyond that, we’ve really seen a very strong flow picture, particularly this year. As you look through the end of May, according to Bloomberg, our flows are over $13 billion on the year, coupled with pretty decent performance. But when you look at the sort of the balance of the two, it’s — the ETF is doing what it’s designed to do, and giving those great returns. But on top of that, you have investors recognizing the value and the exposure that the ETF brings. So it’s been a very nice balance of both the performance along with inflows that have helped drive that number to 100 billion.

JL: Yeah, absolutely. And I guess something else is that it’s incredibly liquid. So I think it’s the second most liquid ETF on the market if I’m not mistaken, correct?

RM: Exactly right. Exactly right. So yeah, I think the liquidity — the secondary liquidity is certainly an asset to the fund. I think as you’re looking at folks that are looking to put positions on the large cap growth side, this is a very easy vehicle where you’ve essentially, more than enough liquidity in the vast majority of cases. And like you said, it’s the second most actively traded ETF in the U.S.

JL: Sure. So getting into the outperformance and it really has been incredible. It’s amazing how when, let’s say, investors can be overly focused on a couple of basis points. They might say, maybe I’ll go for a fund like (VTI), which is Vanguard Total Market Fund cheaper by maybe 10 basis points, then the Q’s, you would have saved yourself probably 2% over the last decade with compounding and lost out on roughly 240% of returns; so just to put that out there. So over the last decade that QQQ ETF is up 467%. I actually pulled these numbers at the end of last week. So just so listeners are aware this is the end of May.

And if you compare it to let’s say, Dow Jones ETF (DIA) that’s up only 217%, (SPY) is up 241%, (IWM) small caps obviously have gotten really just trounced by every other major index. They’re only up 142% over the last decade. What do you attribute the QQQ’s massive outperformance to both, let’s say year-to-date, where it’s also really crushed all the other indexes in the aftermath of the COVID sell off. It’s really crushed its peer indexes like Dow Jones like the S&P 500, like the Russell 2000. And then also looking at longer term picture, so going back, let’s say 10 years or to the end of the great recession, the global financial crisis, the outperformance has been just incredible. Also, what do you attribute all that to?

RM: Yes. I think, as we kind of alluded to before, the way that the ETF is constructed, it’s firmly in that large cap growth bucket. And as you’re looking at sort of these growthy names, I mean, a lot of that has driven the year-to-date performance; consumer discretionary technology, communication services which are really our three overweight sectors as you look pretty much relatively to almost any other index. It’s really been the ones that have been driving the bus.

I think as you’re looking for that performance, it’s not only the balance sheet, not only the way that these companies are positioned in the current environment, investors have recognized that value and they’re very high quality companies, maybe a lot different than what the same companies would have looked like 10 or even 20 years ago.

So as we head into this kind of this Coronavirus pandemic that has dragged equities down across the board, I think people saw safety in the relative strength and quality of lot of these companies balance sheets. So it helped us as we were heading into those March lows, and beyond those March lows, I think when people looked under the hood at these companies and the trends they had exposure to, and the interest that they were generating from the sort of new environment that we’ve been living in over the past two months, you saw a lot of interest there.

Secondarily, I think, and this is just a very interesting dynamic that that I’ve seen. When you’re looking at the healthcare sector, most people kind of don’t attribute QQQ to having exposure to healthcare, but it does. For the year, we’ve averaged about 7% exposure to healthcare. The healthcare sector within QQQ is up near 12% year-to-date, relative to let’s say the S&P 500 healthcare sector, which is up barely over 1%.

So I think when you’re looking at the sector, where we have a lot of exposure to very innovative biotech and medical device companies, whereas we’re not so exposed to large cap pharma, medical devices, which are — excuse me, medical providers which have severely lagged in this market. So it’s not only the sectors that we have exposure to but beyond that the way that sectors are constructed and the companies that are located with or companies that live within those sectors are delivering outsized returns.

When you look at kind of what we don’t own, that’s also helped us year-to-date. We have no exposure to energy, we are underweight industrials, no exposure to real estate, financials, materials. A lot of these sectors that have come under serious pressure, year-to-date and frankly as you look even beyond that, the fact that we are either without exposure or severely underweight there has also helped shelter QQQ relative to again, one of its competing indices and ETFs, something like an SPY.

JL: Yeah, that makes a lot of sense.

RM: And I think, when we start to look — turn the clock back to 10 years, and as you said, as we kind of emerged from the great financial crisis, the story is similar, but it takes a little bit of a different narrative. As you’re going back to say 2009, you’ve seen unbelievable outperformance as you had mentioned, and as I had spoken about, it’s really been tech communication services and consumer discretionary that have been the sectors that have driven that that vast outperformance.

Beginning that — I kind of look at that as the beginning of this new tech wave, right? You have the advent of the iPhone in ’07, you have this rapid expansion of cloud computing that that has begun to take hold over the past couple of years. You have the advent of social media, social networks. It’s essentially kind of the starting point for this age of connectivity that we found ourselves in, where you have information that can be accessed, almost instantaneously. And it’s almost been that society and our jobs almost depend on that. So you started to see this shift in the way that we conduct business and the way that we conduct our lives.

Going back to ’09 Tech was really the largest contributor from then until now. We’ve had an average weight in that sector of roughly 47%. Within that sector, unsurprisingly, the two heavyweights, Apple (AAPL) and Microsoft (MSFT) have really been the ones that brought that sector much higher. Apple since the spring of ’09, is up over 2,000%, Microsoft over that same time — timeframe, up over 1,000%. And I think there are examples beyond that and you go down to some of the communication services names, which, I guess, the advent of communication services was only two years ago, but the names have been consistent, whether it be Google (GOOG), whether it be Facebook (FB), both names up over 650% over that timeframe.

And discretionary, again an overweight relative to most indices at about 14% over that timeframe. Names like Amazon (AMZN), names like Starbucks (SBUX), Amazon is up over 3,000% over that timeframe, Starbucks up over 1,300%. So you’ve kind of seen the cream rise to the top over the past 10 years and the unbelievable performance of these underlying holdings and underlying overweights have contributed to QQQ’s massive success.

JL: Sure. And I could see in industries like information technology or communication services or discretionary with some of the holdings. They’re also, I think the post-COVID economy might favor even more leadership by many of these companies, because they’ve been able to continue, in most cases firing on all cylinders from a work from home kind of economy. And smaller potential competitors are likely to have been kind of snuffed out, right out of the gate before they could get really large because of what’s going on right now. I’ve seen recently that a lot of earlier stage startups are in very big trouble right now, which you would think just kind of clears the competitive landscape even further for companies like Microsoft, Apple, Amazon, Google, Facebook, et cetera.

RM: Yeah, I think just the speed at which this drastic shift in the economy really, but the way that we’re doing business to and immediate work from home lends itself to those companies that have already been established within those kind of sub sector, right in some things. So as you’re looking through earnings transcripts, you have executives of companies pretty much across the board, not only talking about the COVID impact now, but also kind of where we are going to be months and years from now.

And this tremendous demand that we’ve seen from work from home type capabilities, whether that be cloud computing, whether that be video conferencing services, and then the list goes on, a lot of these companies had already spent the money the time — the research on developing solutions pretty much ahead of the game. So it almost seemed natural that people would gravitate towards them and their services.

So I think in terms of how they’re positioned going forward with a lot of these budding themes, and certainly the connectivity from home aspect, they’re definitely poised to potentially benefit from this paradigm shift.

JL: So you’ve referred to the index and this is obviously how it’s commonly referred to as a large growth index. But I would argue that at least some of those very largest holdings, certainly the two largest Apple and Microsoft really don’t exude purely growth characteristics. They really are some kind of hybrid between growth and value. What can you say about the fact that many of these companies that really are hyper growth companies, have also done things like growing their dividends for more than a decade in Apple’s case and Microsoft’s case, probably a lot longer than that. You’ve got other companies like Intel also that pay nice dividends. It’s hard to call it a pure growth index I think.

RM: I think when you’re looking at the NASDAQ 100, and QQQ what we like to say is in investing in QQQ, you’re getting exposure to innovation. We look at these companies, innovative characteristics, and it’s very hard to quantify, right? How do you point it — how do you put a number or a finger on innovation? And the way that we’ve looked at it is looking at their R&D spend. And as you look at R&D spend, relative to other industries, what we found is the companies within NASDAQ 100 have a continued commitment to reinvesting in their business. And I think in doing so they found ways to come up with very innovative products, very innovative strategies and position their companies in very unique, very unique ways to take advantage of long-term trends in the economy.

To put it in perspective, in 2019, the NASDAQ spent 10.4% of sales went back into their businesses in the form of R&D. That compares to the S&P 500 companies, which were 5.9%. So this continued commitment of taking, essentially $1 for every $10 in sales and reinvesting in the business, again has really positioned them well to take, take advantage of a lot of these transformative themes in the economy.

Now beyond that, the question is, okay, you have all this R&D spend. That’s great. And you come and new products, new strategies, what does that mean? What we found is that it does trickle down to the bottom line. And as you look at things like revenue earnings and dividend growth over the past 10 years, we’ve seen unbelievable growth significantly more than other major indices that are out there. Revenue growth of over 200% for NASDAQ 100 index, earnings growth of over 300% over that timeframe. And maybe as you were saying before, the most staggering statistic is nearly 600% of dividend growth.

I laugh because I think if you look 20 years ago at some of the companies, or at least some of the sector allocations that QQQ holds, and I were to tell you, these companies are going to be initiating and raising their dividends, chances are I probably would have been laughed in my face.

What they’ve — what they’ve done when this R&D spending getting ahead of the curve is they’ve been able to translate that to the bottom line. And not only are they coming up with innovative products, but they’ve translated that into becoming innovative ways to return value to the shareholder, one through again, that R&D spend that has shown unbelievable performance of the stocks, but beyond that, just by way of dividends.

So I definitely do think that that there are characteristics of both growth and value when you’re looking at something like the dividends that are paid out by a handful of these companies. But overall, we like to say, investing in QQQ gives you exposure to innovation.

JL: Sure. I like that. And in terms of just looking at the out performance, I think it also, to me at least raises one of the shortcomings of the whole factor investing craze. In that when you only focus on a specific factor, you’re kind of limiting yourself to whatever the historical performance of that is, you’re not getting necessarily a group of companies that are poised to continue outperforming on a forward basis. And so they’ve studied the persistence of factors and they’ve shown that there is momentum within different factors.

So if growth is outperforming, it’s likely to keep on outperforming and if small caps are outperforming or underperforming, they’re likely to keep on underperforming. But I think that, unless you have a crystal ball and you can get your timing perfect on some kind of factor rotation strategy, the idea of just being able to buy innovation and keep that as a core holding in your portfolio is a very appealing and probably likely to deliver more out performance for typical investor who’s not going to sit there and shift their factor allocation every six months or whatever it is.

RM: Right, I think you are getting exposure to multiple factors. And in QQQ, I think when you’re looking at kind of the broader factor investing, you kind of have to stick with that specific factor over the long haul, right? Over the course of the full market cycle, and that’s where you’ve seen a lot of these generally accepted factors deliver that outperformance.

As you said, there’s kind of the factor within the factor and it’s very difficult to try to time rotation into different ones. So something like QQQ where you will have exposure to various factors and various themes, I think does afford you the opportunity to outperform given a lot of the trends that are occurring in the economy and marketplace.

JL: Yeah, sure. So speaking of specific factors, I’d like to talk the indexes valuation for a bit. I think it’s probably pointless to get into forward PE multiples right now, because pretty much every company has said they’re not forecasting right now. It’s just too difficult to predict what’s going to happen through the end of the year and probably even beyond. But I checked a bunch of different sites, it seems like the current PE ratio on the Qs is somewhere around 24. What is fair value for the index and for this fund in your mind, or is that not necessarily the right way to be thinking about this?

RM: Well, I think, you made a great point before, as you’re looking at all the companies that are pulling guidance, it’s very hard to forecast out on a forward PE basis. Fair value, we’ve kind of bounced between low 20s to high 20s maybe even increasing 30 over the past few years. So I don’t think we’re far off from fair value. But I think what’s kind of driven a lot of this is obviously they expect vacation for future earnings and earnings in the face of this resiliency.

And I think when you’re looking kind of from a backward basis, a lot of the companies within QQQ have shown a lot of resiliency in the midst of sort of this unprecedented business disruption, where it’s been a picture of not as bad. But I do think kind of looking forward the discussion amongst these companies, and from their earnings reports and transcripts. I mean, a lot of it is focused on the future. And I think that focus on the future — and it dovetails very nicely with the continued spending in R&D, because it’s not necessarily kind of where we’ve been, it’s where we’re going.

And I think as you’re looking at these companies that have consistently kind of changed their business model from Apple going from a personal computer now then to the iPad — the iPod to their iPhone and their iPad, right? I mean they’re consistently kind of changing the product set and the way that these products can deliver performance essentially.

JL: Sure. And they really keep on doing it. I mean, the variables market has been one of their biggest growth levers, so for the last couple of years.

RM: And you look at some of the products and you scratch your head and say, yeah, I would never buy that. And then next thing, you’re decked out in all things Apple.

JL: I sat out with the Apple watch for years, and then when I upgraded my phone last year, they threw it in for a price that just seemed too reasonable to refuse and yeah, it’s been awesome. since then. So yeah, they managed to suck you in that way.

RM: Exactly. And then you look at companies even like Microsoft and Amazon, I mean, they’ve fundamentally changed the way that they do business with consumers. So I think it’s growth of things like cloud computing, it’s — for them, the focus is where the puck is going. And using that innovation to try to gain a foothold and a place in the market where they’re well positioned to deliver on these emerging themes.

JL: Yeah, that makes a lot of sense. So speaking of companies like Amazon, Microsoft, Apple, the whole range of them in the index here, so I mean, you had broken up and this is obviously not only you, this is what different indexers do, groups like gigs. But you’ve broken out information technology, communication services, you’ve got Amazon in the community — in consumer discretionary, though, realistically, the majority of their revenue comes from AWS at this point, not from their — of their profits, certainly from Amazon Web Services, not from amazon.com and their retail business.

So I think by many measures this index is probably 60% tech or higher. And there are people that say, I’m obviously not one of them, but there are people that say 60% tech, sure, you’re riding this wave higher, but the index isn’t really nearly well diversified enough to be a core holding in portfolios. What would your response to that be?

RM: Well, I do think that we’re categorized as in that large cap growth bucket. And I would probably agree with that. I think it’s very hard to kind of put a label on quote, unquote tech. As you look maybe at the irrational exuberance of kind of the tech bubble back in ’99 and 2000, I mean, the vast majority of these companies really just needed to have a website to be considered tech.

Over the past 20 years that has changed significantly and tech has kind of permeated across sectors. You look at something like a Tesla, is Tesla a tech company? Is it a utility? Is it a battery company? Is it a space exploration company? You look at all these different sectors and products. I mean, if you haven’t embraced technology, chances are if you’re not out of business already, there’s a chance that you may be.

So I think what we’ve classified is, and my colleagues at NASDAQ have called the NASDAQ 100, the 21st Century Industrials, where their products have permeated across business lines. Yes, it’s a technological solution in many cases, but it’s utilized by various industries across the board. Beyond that, as you look at the aforementioned healthcare sector, I mean we have 7% of biotech and these innovative companies that are utilizing technology, no doubt. Technology as it comes to gene mapping as it comes to AI, big data analytics, but at the end of the day, they’re trying to solve a problem. And generally that’s the healthcare of the human population.

So using technology for sure, but you’re still getting exposure to very different industries. So I do think you’re very well diversified from a growth perspective in utilizing QQQ, and just because companies across various industries are utilizing technology to their advantage. I don’t think it’s necessarily something to be wary about.

JL: Sure, yeah. And also not to be too much of a futurist here, but if you compare the NASDAQ 100 to something like the S&P 500, and you look at the sectors that are missing, underrepresented not in the NASDAQ 100, they really are in industries that have changed at least to some extent, which means that they haven’t really either had to or decided to embrace technology. So you don’t have any real estate in here really and if you think about the rental models and that industry is not really very techie in any way shape or form.

Same thing with financials, energy, sure there is some green technology going on, but if you look at the big players in that space, the Exxon’s (XOM) and the Chevron’s (CVX), really most of what they do is still just stick a shovel in the ground and pull fossil fuels out of it. And so to some extent, it really might — that over reliance on technology and innovation, while it may seem like superficially a lack of diversification in the index, what it really might indicate is, as you’ve said, a willingness to be open minded and skate to wherever the puck is.

And also just to focus on ever set of increasing efficiency and permeation of people’s lives. And so that is obviously going to be a recipe for greater profits and greater outperformance and industries that are still kind of fossilized in the year 2020.

RM: Yeah, absolutely.

JL: Awesome. Okay, so I’d love to get into some of the non-tech components here a little more, because I think many listeners who think NASDAQ 100, think QQQs, they think about the same stocks, and we haven’t mentioned Netflix yet, but obviously, that that stocks been a hell of a performer, also since listing. And then of course, Microsoft obviously belongs in that group. But there really are some great non-tech companies in the index. And I’m going to avoid the biotechs as you’ve discussed them companies like Amgen and Gilead and Biogen which of course are really on the cutting edge of innovation in the healthcare and pharmaceutical spaces.

But so I think probably some of the best known non-tech company just consumer staples in the index, you’ve got Pepsi (PEP), you’ve got Starbucks (SBUX), you’ve got Costco (COST), you’ve got Mondelez (MDLZ), those are probably some of the best known in the group. What are a few other non tech holdings that you think are really powering the index? Or can lift it going forward in the coming months and years that maybe investors will be less familiar with? And we’ll be surprised to find out that yeah, they’re also in the QQQ?

RM: I think when you’re looking at what’s powering the index, I touched on Tesla (TSLA) briefly. Tesla is a perfect example of kind of an emerging company within QQQ that has garnered a larger, larger share of exposure. And obviously, it’s been amazing when it comes to their electric cars, the growth that they’ve seen in deliveries, even in the face of adversity across Q1 and kind of diversifying their business lines.

I think that’s a company that is very interesting, and I think one that we will be hearing obviously a lot more about in the coming years, but I can anticipate seeing something like Tesla, garnering more and more exposure within the index. And beyond that, I think there are two names that are that are interesting kind of in the online marketplace, e-commerce world. The first would be MercadoLibre (MELI), an Argentinian based company that focuses on e-commerce in Latin America and South America.

You’ve seen this company advance by over 200% over the past three years. I believe it’s up over 50% year-to-date. And the second one would be JD.com (JD) in China, another huge one of those very large online marketplace titans. They’ve really adopted the role of technology, particularly within their delivery systems. They’re looking at robots, at drones using AI a lot of autonomous tech for their delivery systems.

So I think these two companies, even though they’re international, very innovative by nature and maybe not household names. But as you look at how they’re positioned in the marketplace and recent performance there, there’s certainly ones to be aware of.

JL: Sure. And interestingly, the index, this might also come as a surprise to some listeners or investors, the index really is not 100% U.S. domiciled company. So you have baidu.com (BIDU) and they are also — and there are definitely some additional names that are ex-U.S. just offhand, what percent of the companies are U.S. domiciled in the index?

RM: It’s still well over 90%, but we do have exposure to various ADRs. Like you said, we’re about 97% U.S. exposure.

JL: That’s by market cap that 97%, and then I guess in terms of names, maybe 90%, or something along those lines?

RM: Yeah. That’s about right.

JL: All right, interesting. Okay, so what’s your outlook for the U.S. economy and the global economy right now? And do you think that, even let’s say an index with as many quality names and quality balance sheets, as the Qs — after the run up we’ve seen since late March here, do you think that the market is right to continue moving higher here, it seems like we basically just priced in best case scenario at this point.

And for example, if there’s another wave of infections in the U.S. or another key economies around the world and there are all more for shutdowns, or if we don’t manage to get a vaccine, mass produced and one that really works and provides immunization for individuals within let’s say 12 months or so, that could provide some real disappointment also, what what’s your outlook here at these prices, particularly after the last two months where we basically just seen a line straight up for equities?

RM: Yeah. I think you touched on a very good point. And there are a lot of external forces at work here, and obviously a lot of unknown, right? You really just need to look at commentary from officials and company executives to very quickly understand that it’s very much wait and see, whether that be — the looming election, whether that be another potential wave of COVID. I think there is a lot of fear and I think that we will be taking steps back and steps forward, right? A little bit of fits and starts.

I think a vaccine right now is — would be the best case scenario, as you know, across the board, we’re seeing various states open in various stages. So we really would like to see kind of a business start to begin to pick back up. I think we need that sort of — that base in order to allow — a lot of these companies to grow into their earnings.

Now we started to see risk on comeback after the March lows, right? If you look at stock to bond ratio, we’re starting to see stocks climb. I think as you’re looking at specific performance over the past two weeks or so, you’ve started to see a lot of these travel and leisure names, a lot of retail names that were particularly hard hit with closures and quarantine measures that were put in place. They’ve started to perform.

So I think investors. They’ve been looking at companies that are on sale. As you’re starting to see growing optimism for the case for a vaccine and some of these businesses grow, opening backup. But in general, I think it is going to be fits and starts. We’re very news and headline dominated. So as it comes to the market, what we’ve found is this speed of information has kind of increased, in many cases, volatility around the equity markets.

So I do think it’s not going to be a straight line up, but in general that there are some positive indicators as we start to see more and more states and businesses open up that could potentially kind of accelerate this U.S. economy in terms of stock market.

JL: Yeah, sure, definitely. And in terms of you mentioned the stock bond ratio, it seems pretty clear and this is certainly what the market is betting on, that rates are going to be pretty close to the zero bound, really up and down the curve for three years, five years a decade. A lot of that has to do with the fact that the fed has grown its balance sheet so much backed by the U.S. Treasury. Of course that they can’t really afford to raise rates anytime soon, because when they rollover debt at the end of every year, their shorter term debt or debt that’s expiring their debt servicing costs, every time they raise rates, will simply go higher.

It’s not only going to create issues for the U.S. government, but many companies are fairly leveraged at this point in many to stay afloat here have to become more leveraged. And so again, every time borrowing rates go up, that higher percentage of their free cash flow goes into paying down debt as opposed to reinvesting in their businesses. So do you think that low rates are kind of key to the thesis for continued outperformance of equities here? Is there simply nowhere else to go for individuals and institutions that have cash on hand and want to put it to work in some way?

RM: Well, I think what you’re looking at, yeah, I mean, stocks are still looking rather attractive relative to bonds. And I think kind of across the board, as you’re looking at rates, yeah, we’re looking at very low rates for a pretty prolonged period of time. With that, I think that the economic recovery is going to be very, very policy driven, right? It’s going to be kind of a long drawn out recovery, and as I had said before, seeing kind of fits into starts and pauses along the way.

But no, I think as you’re looking at these low rates and what seems to be supportive policy, generally, I think that should bode well for equities, as we kind of move forward through this next cycle. As you look at where rates are, there are some companies that are taking advantage of it. And just in the past couple of days, we’ve seen Amazon accessing the debt market, locking in $10 billion of debt at historically low rates. You look at the $1 billion of that was three year paper at 40 basis points, at historical low.

So, I think for those companies and kind of we had talked about before those quality companies with very strong balance sheets. So I think they are in a position to take advantage of this low rate accommodative environment and use that to their advantage.

JL: All right. So as a parting shot here, I’d love for you to make the case for listeners. Why do you think the Qs are poised to continue outperforming key competitor indexes S&P 500, Dow Jones Industrial Average, the Russell 2000, as well as international indexes in the coming decade?

RM: When you’re looking at QQQ and the companies within their — you’re accessing a concentrated list of 100 of the most innovative companies that are out there. I think it’s shown that their continued commitment to R&D and reinvesting in their business has made significant impact to the bottom line. And with that they’ve positioned themselves very well for these transformative themes that we’ve been seeing in the economy, and have been kind of building over the past few years, but have been recently accelerated by kind of this new normal brought on by COVID.

So the fact that they are positioned in this — to take advantage of a lot of these themes, while yet still spending that money on research and development, they’ve set themselves up to really be able to being nimble, and to gaining exposure and advantage to a lot of these things.

JL: That’s well put, and really many of these companies, the largest companies in the index, you have to really come up with some farfetched scenarios to see how they would go under or stop being really at the top of their industries with the amount of cash, they have on hand, and the amount of just unbelievable intellectual property and they attract the most innovative people in the world. So that obviously is a good sign for them to continue to be able to do this.

Just to get you to play devil’s advocate a bit here. If there was one major risk to the Qs continuing to outperform, what would you say that is, is that maybe government regulation, sort of in the form of a Black Swan of maybe the government breaking up some of these companies because of monopoly rules are there, there’s something else you think that’s at least a theoretical risk lingering out there for the continued outperformance here?

RM: Yeah, I mean, I think further regulation is just another unknown, right. And we’ve seen that, in many cases plague other businesses, other industries. So I mean, I think that for sure, is a potential risk, the fear of the unknown, like what’s going to happen? I think they’ve done everything in their power to try to stay at the forefront of where we are headed. And you know, in some cases, a breakup may unleash value in certain companies.

So I think at least in the short-term, if you do see sort of this relief rally around some of the value or really beaten up out of favor unloved sectors, that could be a potential risk for outperformance in the short-term. But I do believe that long-term SKUs [ph] and the companies within them are very well positioned.

JL: Sure. All right. Anyway, Ryan, this has been great. I personally remain long, the Qs in all of all my key portfolios And I have no plans to change that anytime soon. Are you long also, are you allowed to own?

RM: Yes. We’re allowed to own and I’m also long.

JL: Okay, good. We like people that eat their own cooking here.

RM: Yeah, exactly. I’m a big believer in your home cooking.

JL: Otherwise it’s kind of weird. You’re like trying to convince other people to buy the Qs and then you don’t own it yourself.

RM: Exactly. Yeah, it seems — I mean, I feel like that would be just — like — and probably too strong word but unethical, right? I can’t be selling a product that I don’t personally believe in or own so.

JL: Totally agreed. Yeah, it’s amazing to me how many issuers you speak to where they’re not really allowed to own products. And it’s crazy to me. I don’t get that at all.

RM: Me neither.

JL: We’re definitely on the same page there. Where’s the best place for listeners to go online to further research everything we’ve been discussing here today. So I mean, for example, I know that you post a blog on Invesco’s website. So if you just point listeners in that direction, and then maybe some other places you recommend for further research.

RM: Sure. I think, right on invesco.com, you can go to the QQQ page, where we have obviously the fact sheet, as well as a link to a micro site, where we post a number of videos that we’ve produced, focused around innovation. Most of the content pieces that I write will be posted there. And I think another great source for research would be the NASDAQ site, on NASDAQ 100. They put out some really great content in terms of kind of slicing up the index and looking at trends within the index. And between those two places, you can find a pretty good amount of content relating to Qs and both NASDAQ 100.

JL: Nice. Anyway, Ryan, thanks for being so generous with your time. I look forward to getting you back on the show soon.

RM: Thanks so much Ryan for having me, Jonathan.

JL: So disclosures Ryan McCormack is long QQQ. As I’m sure you all know by now, I’m also long in QQQ.

Disclosure: I am/we are long QQQ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Both Ryan McCormack and Jonathan Liss are long QQQ. Jonathan Liss is also long VOO.