The lack of economic growth in 2020 has gained tremendous attention over the past nine months, second only to the human and emotional toll caused by the recent pandemic. As unfortunate as it is, many of you have likely had direct, or indirect, experience with COVID, either personally, through family members, or through co-workers. It is by no surprise then that the FDA’s approval of the Pfizer-BioNTech vaccine was a much-anticipated event. Without getting into a debate on the potential vaccine immunization rate in the U.S., we believe the news remains significant for economic growth and may allow for ample benefits for those investors participating in the global equity market. We have extensively discussed the U.S. equity market dislocation this year and why we think it is both extended and unsustainable. The leadership of the large capitalization growth segment in the U.S., led in large part by less than ten individual stocks, has skewed the return profile of the market in a way that has forced many investors to accept historically high valuations and sector concentration. From a risk management standpoint, we adamantly argue against such an approach to portfolio management, despite the short-term benefits that may arise. We also know, from a historical standpoint, that the sustainability of sentiment driven valuations cannot be indefinite and the market is very efficient in pinpointing and reversing severe dislocations. We believe the vaccine developments since August 2020 have been a tremendous catalyst for such a shift and there is notable data to support it.
The U.S. large capitalization value segment has outpaced its growth counterpart by 10% since August 2020 while medium-term treasuries have lost value. This simultaneous relationship is very important as it relates to sentiment, especially on the fixed income front. They are direct clues to the benefits of a true economic re-opening trade that has the fuel to generate broad gains beyond just the technology sector in the U.S. Such developments also allow us to peak into the future, figuratively speaking, as it relates to what a COVID free world looks like. In our view, such a world may be better suited to surpass the previous economic growth rates over the past five years due to amplified stimulus measures and a labor market that has failed to cave like previous recessions. Historical analysis indicates that stocks tend to bottom well before the start of a long-term secular growth cycle begins. It happened dominantly in the March 2009 market bottom and the data currently points to a similar trend, one that may rise the entire tide rather than just segmented benefits. The commodities market, as well as trends within emerging market economies, are also pointing to the revival of a secular long-term growth cycle. Foreign direct investment is gaining ground and currency markets point to mild potential volatility. Additional data that is initially confirming our stance comes in the form of performance benefits within U.S. midcap and small capitalization stocks. These are segments that benefit most from domestic consumers and their relative performance since August has been almost triple that of the S&P 500. We are optimistic that a successful vaccine rollout can have measurable relative benefits to all data points that have been presented here. As always, we will be keeping a close eye on all developments.
With that in mind, we want to urge caution for those investors utilizing fixed income investments over the next five years. The path of interest rates, at best, remains flat to slightly higher (as gauged by the U.S. 10-year treasury yield). This means that fixed income total returns are likely to remain below 0%, net of inflation, and have the capacity to drag household investment returns notably lower. We believe equity market participation across a diversified platform (with a slight international bias) may likely produce an environment capable of participating in the eventual economic re-opening trade. Although the political backdrop in the U.S. is likely to remain at the forefront of media attention leading into 2021, our analysis indicates that the economic growth path is agnostic to politics in the short-term. It is all a function of consumers lowering the level of their record high savings accounts within an environment that [hopefully] has a controlled grasp on the pandemic.
Edison Byzyka, CFA – Chief Investment Officer – Credent Wealth Management
Investment advice offered through CX Institutional, a registered investment advisor.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. The economic forecasts set forth in the presentation may not develop as predicted.
All return data sourced from Bloomberg.
All other data soured from Bloomberg, through the release of monthly figures from the Department of Labor, Bureau of Economic/Labor Statistics, U.S. Census Bureau, or from the Federal Reserve and any of its affiliated regional locations.
Small Business Optimism sourced through NFIB. Small business hiring plans sourced through NFIB. Consumer sentiment sourced through the University of Michigan.
Earnings data sourced through Bloomberg Intelligence and through Bloomberg’ earnings analysis composites. Interest rate cut/rise probabilities are sourced from Bloomberg’s tracking of futures contracts tied to the Federal Funds interest rate.
Manufacturing data – Markit PMI – Bloomberg
Economic Policy Uncertainty data sourced from Bloomberg via The Baker, Bloom, and Davis Index.
The Standard & Poor’s 500 Index is a capitalization weighted index of 500 stocks designed to measure performance of the broad domestic economy through changed in the aggregate market value of 500 stocks representing all major industries.
International markets are represented by the MSCI EAFE.