How to Pick Stocks Like Morgan Stanley With Dan Skelly

The Compound and Friends

In this episode of The Compound and Friends, host Josh Brown is joined by Dan Skelly, Portfolio Manager at Morgan Stanley Wealth Management, to discuss

Key takeaways

• The U.S. economy remains resilient despite negative news cycles, with earnings growth driving market momentum.
• AI is significantly boosting corporate productivity and profit margins, favoring large-cap 'AI enabler' stocks.

Main topics

• U.S. economic resilience
• AI-driven earnings growth

Notable quotes

"Bigger is better again. Quality is back."

Conclusion

Dan Skelly concludes that while short-term market noise persists, long-term

Transcript preview

Speaker 1 (0:00) So this is gonna be fun. How are you? How long have you been at Morgan? 21 years out of college. It only feels like 20. Wow. So what office do you work in? At the moment, 757th Ave, but on my way back to 1585 Broadway. They move you guys around. They move us around. They keep the real estate moving. Okay. But as you probably well know, 1585 has gone through like a five-year construction. So some of us were kind of off grid, as I call it. This will be my third time going back to 1585 in 21 years. Wow. And I always say everyone loves a trilogy. So that's my mantra. So Morgan Stanley is so big that whenever I meet a financial advisor from there, I ask them about other financial advisors that I know in New York, and they never know each other. That's wild. Speaker 1 (0:49) But that's the size of the firm, I'm saying. 100%. Right, because there's so many different offices. And it's just, I mean, I've said this. You don't have to agree or disagree. But I have said Gorman was incredible as a CEO, as a visionary. And that's why, is it $20 trillion now? Do you know? Just under that, yeah. Between Wealth and MSIM? Yeah. Yeah, it's something like $16, $17 trillion. So basically. Stealing Smith Barney. Brilliant move. Yes. During the height of the crisis. In phases. Like really well executed. Joint venture. Then we'll take a third. We'll take another third. Fine. We'll take the whole thing. Yep. Buying E-Trade. The Morgan Stanley at work platform as a lead generator. My opinion, I think that's the key. Yeah. That's like. Speaker 1 (1:37) That was incredible. Yeah. So, I mean, it's, it's, and you were there, you were there, you watched the whole thing happen. Watched the whole thing. When I started Josh in 05, wealth as a percent of overall revenues was 8% of the firm and pro forma for all the different deals you just alluded to, it's like 60% of the firm's revenues now. I'm Dan Scalise. Oh, I'm sorry. So, uh. Right. So I think what was the guy before Mac? John Mac. So I think John Mac understood the value of let's go heavily, more heavily into advice. But Gorman actually executed it. Absolutely. And John was the one who went out and found James, who was at Merrill at the time and had really revamped Merrill's wealth business. And James prior to that, as you probably also know, was a McKinsey consultant. So he brought he brought this strategic consulting background as well. Speaker 1 (2:25) And you said it, like, sometimes timing's everything. So he had the strategy, the timing, the pricing. And, you know, the multiple and the re-rating has come together since that point. Yeah. I wonder if there are still Smith Barney guys walking around saying, I was Smith Barney. I was legacy Smith Barney. You're looking at one. So quick story for you. In college, sophomore year, I interned at a financial advisor's office at Smith Barney. My junior year, I had one of these official analyst programs at MSIM, actually, hired into Wealth in 05 full-time. So after the merger, depending on what office legacy branch I would go into, I was either a Smith Barney guy. Speaker 1 (3:03) Or a Morgan Stanley guy. Very strategic. Right. And then there were also Morgan Stanley, Dean Witter guys. 100%. Predating this. From 97. Yeah. Yeah. All right. So it's been quite an evolution. Yeah. It's a cool front row seat that you've seen. Thank you, Josh. I appreciate it. To see that all develop. How are we looking, guys? Headphones on, everybody. Oh, yeah. Headphones on. Mute your devices. Okay to have my devices on my person? Okay. Thank you. All righty. Yeah, let me do not disturb. Do not disturb. Component of friends. I think I'm doing that right. Speaker 1 (3:39) Today's show is brought to you by Vanguard. To all the financial advisors listening, let's talk bonds for a minute. Capturing value in fixed income is not easy. Bond markets are massive, murky, and let's be real, lots of firms throw some flashy funds your way and call it a day. But not Vanguard. At Vanguard, institutional quality is our standard, the same discipline the world's largest investors demand at Vanguard cost. It defines our approach to active fixed income across 40 funds built on three pillars, consistent performance across market cycles, Speaker 1 (4:08) a low cost advantage that compounds into better outcomes for your clients, and intentional risk management. That isn't a great quarter, it's a great decade. That's the Vanguard difference. Check it out at vanguard.com slash audio. That's vanguard.com slash audio. All investing is subject to risk. Vanguard Marketing Corporation, distributor. This episode is brought to you by Federated Hermes. Active ETFs are changing the way portfolios are built, giving advisors more flexibility for their clients. Speaker 1 (4:35) but not all ETFs are built the same. Federated Hermes puts the investments in their active ETFs through a ruthless vetting process, gaming out a wide range of market scenarios, so only the strongest survive. The result? A suite of 12 active ETFs spanning the full stock and bond market. Whether you use them as core building blocks or tactical allocations, you'll get the strategies you want in a convenient ETF wrapper. Simply put, Federated Hermes has the active ETFs to help you build portfolios designed to last because they've been vetted for it. Explore the full lineup at federatedhermes.com. ETFs are subject to risk and may lose value. Federated Securities Corp. Distributor. Before investing, carefully consider the fund's investment objectives, risks, charges, and expenses. Read this and more information in the prospectus or summary prospectus available at federatedhermes.com. Speaker 1 (5:39) Thanks, John. Oh, boy, what a treat. This is going to be a very... I'm feeling like this is going to be a very special episode. Nicole's nodding her head yes. John's saying thumbs up. Guys, we are coming to you live from Bryant Park in New York City. This is America's favorite investing podcast. It's called The Compound and Friends. First time listeners, we appreciate you coming by. Long time listeners, thank you guys so much. We have a very special guest today. First time, first appearance here on The Compound. His name is Dan Skelly. Dan is a portfolio manager. Speaker 1 (6:17) of equity. Wait, what is equity maps? Managed advisory portfolios. We have a lot of acronyms at Morgan Stanley. So it's an SMA portfolio. Portfolio manager of the equity maps at Morgan Stanley Wealth Management, where he oversees the equity model portfolio team and thematic research products, including Alpha Currents. They love that. U.S. Policy Pulse. He is lead portfolio manager for the U.S. model and dividend equity strategies, part of a suite of eight Long-only SMAs, he has spent his entire career at Morgan Stanley, starting in 2005 as an associate in the research division. He's a regular on CNBC's Squawk Box and Closing Bell Overtime. Ladies and gentlemen, please say hello to Mr. Dan Skelly. Thank you. Speaker 1 (7:05) Thank you. The crowd almost cannot be contained. All right. Tell me about the squawk appearances. I watched two of yours recently. You do a pretty good job there. Do you like doing television? Do you like... getting the firm's views out to the public? I love it. And look, I think it's become in this kind of media technology intersection, it's become table stakes for kind of what we do, right? And so I remember my first appearance on CNBC was a 6 a.m. slot in the summer of 2015. And it was with Becky, Joe, and Andrew. And, you know, it was, I would say it was touch and go to begin. And, you know, as you know, from having done this world for so long. Yes. Speaker 1 (7:47) Over time, you get your feel for it. You get your groove, and it's been really fun to do it over the years. I spent a year doing the 5 a.m., and I asked the host, like, who are we talking to? And she said, basically, Singapore. Yeah, Asia markets. I said, all right, let's do it. All right. Thank you so much for coming here. Thanks for having me, Josh. I'm excited. So, as we mentioned prior to officially starting the show, You sit in a really interesting seat at one of the largest firms on Wall Street, one of the largest asset managers in the world, quite frankly. I wanted to get your take just overall on the current environment. There's a little bit of a push-pull right now. Speaker 1 (8:29) I think a lot of the investing public professionals and retail investors have arrived at this point where they almost have learned that they can't afford to pay attention to the news anymore because it's almost all negative. And every time they get carried away with one of these negative narratives, they miss the next 20% of the S&P. How do you help people with that kind of like, you know, all right, I know the news is bad, but the stock's... keep going up any either way. Like, how do you help people with those two opposing ideas? Yeah, absolutely. Josh. And candidly, aside from this podcast, of course, we, we often, uh, advise and counsel a lot of, um, you know, normal retail investors to turn it off. Like just stop paying attention every moment of the day. And what's interesting, except when you're on, then, then keep it on. No doubt. Got it. Or you, I say the same thing. Exactly. So Speaker 1 (9:23) Look, I mean, I think a lot of the other additional biography piece I would just add to is I'm a member of the firm's asset allocation committee, which is called the Global Investment Committee. And in that effort, right away from my day job picking stocks, we're really focused on long term compounding, diversification. And as you well know, better than anyone, the last decade plus, maybe prior to even the last few months has been all about concentration. Speaker 1 (9:47) And now the market, of course, is broadening. And we're all talking about broadening as per the last several months. But at the end of the day, we've tried to counsel our clients to stay focused on their goals, stay focused on their risk tolerance, which at times, you know, a lot of people who have made wealth, as you also know, in a concentrated fashion via entrepreneurship or starting up, coming up with a innovation technology or something really, you know, kind of innovative. Speaker 1 (10:15) they're used to taking risk in a concentrated fashion. It may not be the most preferred way to stay wealthy over time. And so having that diversified bent is always top of mind for us. Okay. Do you think more people are worried about the next correction or more people are worried about missing out on S&P 8,000, Dow 60,000? Like where do you think the bigger fear is at the moment? It's interesting timing of that question. If you had asked me that back in May or June, it was definitely FOMO, definitely missing out. Speaker 1 (10:43) I think the rotation and some of the implosion and some of that first half momentum leadership that we've experienced definitely has rebalanced that feeling, that sentiment. And so today, I think it's more balanced. I don't think it's really one way or another, but earlier in the year, it was absolutely fear of missing out. I think if you asked people, took a poll, next 10% move, I think it'd be close to 50-50. Speaker 1 (11:06) Yeah, I think you're right. I think you're right. And in May, it would have been like 70-30. 100%. Absolutely. And what I would say is, you know, look, we've coined this phrase that the markets and certainly the economy— Was that you guys? Not us. We can't come up with Halo. That was me. That was you? Or Kramer, I think, dovetailed off you. He's welcome to do that. All right. So what I would say is we've come up with this observation, this realization as of the last year, really, that— Speaker 1 (11:35) The economy continues to be super resilient. Everyone's been talking about it. And it really continues to look through these policy shocks, these inflationary pressures. Is it the economy that's resilient or S&P earnings that are resilient or both? I think it's the economy mostly. And I'll circle back to earnings, no doubt, which is a great comment. But earnings have been really astronomical. And I'll come back to my theory on that in a second. But the economy, I think what— Speaker 1 (12:01) Isn't as realized today, and it certainly wasn't four years ago, Josh, was this idea of how much the economy has paradigm shifted away from cyclicals, away from a normalized income distribution, and add on top of that the AI spending super cycle. And you've got, I think, a very non-atypical economic cycle. And so we've seen this resilience. And on top of that, coming back to your question on earnings, look, earnings at the index level did 28% year-over-year growth in the second quarter. Speaker 1 (12:29) If I look at the median company, it was 14% growth, which I don't think gets talked about enough. So why is the median, the average company experiencing that much growth? It's not just AI. And I know we're going to talk about AI ad nauseum today, which I look forward to. My presumption, I'm trying to prove this with data. And I know our mutual friend, Adam Parker, is a friend of the show. And we have been talking about this a lot recently, personally. I presuppose that we had a synthetic tariff trade-related Speaker 1 (12:58) earnings or economic cloud or hangover in the first half of last year. Emerging out of that right now, 12 months later, is a equally or proportionate synthetic operating leverage earnings boost for the average company who had more pricing than I think most people would have perceived. And then didn't have to give it back. Correct. We passed through on the tariff front, which remember tariff was the headline for like six or nine months. So Trump really is a genius. Some people would say that. So every company had to take price. Speaker 1 (13:25) Most companies, the average company. Just to muddle through. Just to muddle through, but they passed on 60 to 70% of it. Right, and the prices don't go back down when the tariff emergency is over. Josh, do you think that's tariff related, this margin expansion? So this is the 493. I think part of it is tariff related on the pricing perspective, which I do want to come back to. As a new, relatively new suburban homeowner in Long Island, my wife is Long Island, I'm New York City, but I'm an adopted Long Island child now, son. Speaker 1 (13:54) You're going to love it. It's been a wild ride so far. I never left. How about that LIE? What I learned from my landscaper after COVID is when he had to take up price 15% to 20% because of cost, because of all these things, he never took it back. That's right. And so it's just a small anecdote which speaks to this broader thread. So I think part of this great question is no doubt pricing, surprising to the upside. Secondly, I think coming through on this, and it's hard to obviously prove dollar for dollar, but we hear it a lot in terms of surveys, and we're seeing it in the transcripts, is AI productivity on top of existing workforce. What your margin math at the moment on the chart doesn't yet show is a labor lever being pulled. So let's go higher? Absolutely. Wait, wait, say more. What's the labor lever? We're in this, if you zoom out, we're in this no hiring, no firing zone. Speaker 1 (14:49) And we've been there for a long period of time. A couple of years, it feels like. And what I would argue is, if you think about what people were talking about in terms of all the different AI boogeymen in January, SaaSpocalypse, software going away, that's been thus far disproven with some dispersion. We could talk about it. Labor apocalypse, also disproven. What is happening at the Fortune 500 level vis-a-vis our data and our surveys? It's productivity on top of existing labor force, right? And so I think that is coming through in the margin line. Speaker 1 (15:17) To my earlier point, I don't think what's coming through just yet, and I think it's a 12 to 24-month time horizon, is labor actually being pulled in terms of additional margin and earnings. And that's going to be largely AI driven. So you're saying earnings are going up without additional headcount? That's what it looks like at the moment. Right. So normally, in order to produce the revenue, so I think the revenue increase for Q2, year over year. was also an incredible number, 15%. On 6% nominal GDP. So historically, in a more cyclical analog economy that's more goods heavy, you're not doing 15% revenue growth with no headcount growth. No way. Well said. You need people on an assembly line literally welding things together and packing them in boxes. You're saying now the next tailwind might be companies continue to grow revenue, which translates into earnings. Speaker 1 (16:08) without the concomitant addition of another 10%, you know, labor force. I'm not saying this is great societally. However, we're in the business of earnings and it should be good for the earnings. I think you summarized it perfectly, Josh. And I think- I'm very good at this. I think to your, embedded in your statement was this longer term debate around socioeconomic effect. Just have less babies, it'll be fine. I mean, honestly, we can't solve that on this show. We talked about Asia markets coming on. Like that is a phenomenon going on across Asia, across Europe, and no doubt across the US. And so, you know, we'll see. The joke I've been saying is in terms of GLPs and longevity on top of a housing stuck in the locked-in housing market, on top of AI and robotics is we're all going to live longer, but we're going to have nothing to do and nowhere to live. Speaker 1 (16:59) So that's like our future. And a shortage of 18-year-olds, apparently. I was reading about Syracuse University this week. They're not going to hit their admissions targets yet again. And obviously, there are some Syracuse-specific issues like the weather. But the bigger picture is there just aren't going to be as many young people, prospectively. And the nature of work is going to change too. Back to AI. What is the entry level legal audit? What does that all look like? Syracuse is very near and dear to my heart. I was fortunate enough to marry a former Syracuse laxer who played for Gary Gate in her day. And so it's the article. It's definitely batted around our house. They threw that one factor in amongst many. But to your point, Europe, China, the Koreans are not reproducing anymore. So it's a, so I think. Speaker 1 (17:49) I've always been glass half full about robotics, automation, AI. In that we're sort of going to need it. Like we're going to have a nursing shortage here pretty soon. We're going to have shortages of specific careers and it'll only get exacerbated by a slower population growth. Well said. And oh, by the way, let's talk about, there's been so much myopic focus on AI and there should be a lot of that is justified, but let's focus for a minute on some of the other massive initiatives. Speaker 1 (18:15) impacting the earnings picture, the economic picture, et cetera, reshoring, which I don't think gets enough press and enough ink. But we're going to have, according to a lot of the work Morgan Stanley's industrials team has done, we're going to have a lot more factories. We're already seeing evidence of that. Will all of those factories be filled by the next 18 to 35-year-olds? No. A lot of it's going to be automated. And so there's an effect and an initiative under reshoring and production. Speaker 1 (18:40) That also questions that demographic risk, but I think the robotics is no doubt part of the answer. So it sounds like you're fairly sanguine on where we sit today. Not that you don't think a correction is possible, but you sound as though the earnings growth looks to be sustainable based on these tailwinds that you're talking about. My presumption is we have the midterms coming up right around the corner. It's going to be Labor Day this weekend. That flew by. Speaker 1 (19:08) And the phrasing I'll go back to the outset of this conversation that I've come up with over the last year is policy shocks, inflation pressures, all of these factors and dynamics that used to matter more to markets are like pop-up ads today. They kind of come and go. And the main narrative keeps coming back to earnings and AI. And so like being intellectually honest, knowing that Liberation Day mattered for a minute for the market, knowing that Iran has mattered in March and April and other points in time. Speaker 1 (19:34) Can I intellectually say that the midterms aren't going to matter? No. But to your point, Josh, because the earnings backdrop is so strong, I think whatever drawdowns or corrective experience we get is super moderate. Well, how about this? I think one of the reasons why all of these things that we've dealt with over the years that would have at a minimum derailed the economy, if not thrown it right into a recession, I think part of the reason is there's so much money in the system. Absolutely. And I think it's underappreciated. Speaker 1 (20:04) how much that is distorting, not in a bad way, what otherwise could have happened in a different generation. Now, the assets could shrink in a bear market and fear can return, obviously. But think about like all of the secondaries that we're seeing. Anytime something goes bad, it's bought up immediately. And that is- Google's issuance ahead of the big SpaceX deal bought up immediately. I think that's really impacting the economy and the market in an underappreciated way. No, I think that's absolutely right. And that's like the residual benefit of a 15-year bull market. Yeah, here we are. It started out as FANG, then went to MAG7, then went to AI CapEx. And now, I agree with you, the most healthy thing, I would argue, in terms of the duration of this cycle, is the rotation we just saw. Speaker 1 (20:43) It's as if you really needed the semis in June and some of the other first order AI CapEx winners to roll over. Here, healthcare, take it. To get the healthcare sector, to get- Materials. Mathematically, get the Mag7 working. Right. And we saw that in, you know, selectives, banks. Finance, financial stocks working all year and all year last year for the most part. Healthcare this year. small caps coming out of nowhere. Industrial Pataron, I know they've pulled back, but they had a big run. And kudos to Mike Wilson, our other friend and partner of many years, who used to be my direct boss 10 years ago, who had a small caps call earlier this year, late last year. So yeah, I think that's been one of the surprises as well. Okay. Are we going to see the dramatic earnings growth gains that have now spread from the S&P into the mid caps and the small caps? Is that sustainable? Speaker 1 (21:34) So I feel like that space is a lot trickier. Yeah. Because on the one hand, you would argue like the sectors that are disproportionately overweighted to small and mid, industrials, financials, have a lot of, as I've mentioned so far, a lot of idiosyncratic positives like capital market cycle, rates. Building. Building, production, no doubt, Josh. FOMO. FOMO, for sure. That risk-taking liquidity you mentioned, great. All the M&A leads to more M&A. And it should. And look at how the biotech sector is acting of late, as an example. So all of that can be true on the one hand. And then on the other hand, I think it can be true that rates backing up, particularly for that lower quality cohort of small caps, should be an issue. Speaker 1 (22:15) And we've talked about this phenomena as of the last 15 years. We went through this massive monetization cycle in privates. And something like 80% of the companies in the U.S. today that generate 100 million plus revenue are private. So basically, your small cap allocation as a retail investor could have just been in the private market