American households are expected to hold nearly $2 trillion in savings accounts by April 2021 following the latest direct payments from the fiscal stimulus package. The enormity of such a figure cannot be underscored and its potential positive impact may notably amplify the economic recovery. We believe the effect to consumer consumption will be one of historic proportions amid an economic re-opening backdrop that is gaining momentum. The conversation across media outlets has instantaneously shifted away from, “when will the economy fully recover?”, to the current question of “will the economy grow too fast?”. There are many components that need critical attention in this environment, but the reality is that no one can accurately answer the latter question, nor should anyone claim they can. The best approach is to focus on the facts and data that we can use to build expected outcomes.
It is important to note that our internal assessment has not been one that questions whether the economy will fully recover. We have been loud proponents of an economic, and market, recovery since the early part of 2020. Even in the depths of the COVID bear market, our guidance was centered on the notion that the COVID event-driven downside cycle was not something that was defined by underlying issues in the economy. It was not something that was plagued by equity market bubbles or an overextended and debt fueled consumer. It was not caused by geopolitical tensions or any other exogenous factor capable of generating sustained economic turmoil. It was not caused by anything other than government intervention to stop a global pandemic. A quick visit to our past commentaries will reveal that our in-depth focus on the health of consumers during the pandemic, as well as the labor market, failed to resemble trends observed in recessions past. The ‘work from home’ wave was a large factor why, among other things. As we take that data into context, and as we step back in the current environment, a strong argument can be made that most Americans have no need for further stimulus. Stated different, in the absence of new direct payments, many Americans would not have risked bankruptcy, foreclosure, or failed to meet debt obligations. That is simply the observable nature of aggregate household balance sheets. What we are likely to see because of this latest stimulus package is an increase in demand for goods and services in a way that may jump start the economy back to pre-COVID levels faster than anticipated. There is certainly nothing wrong with such a fiscal approach, but many investors are starting to question the impact to government induced demand in what seems to be excess demand above and beyond what the economy can potentially sustain in the short-term. Therein lies the risk (and reward).
For those investors that pay attention to the fixed income market you will quickly realize that bonds have a negative total return year-to-date, as observed by Barclays Aggregate Bond Index. This should come as no surprise given that the 10-year yield is hovering near 1.60% (bonds have an inverse relationship to interest rates). To put that in perspective, the yield was near 0.51% just seven months ago. The question investors should be asking is “why are yields (interest rates) rising when the Federal Reserve has vowed to keep interest rates at zero percent?”. The reality is that market driven interest rates matter more than Fed controlled interest rates. I believe we are currently witnessing the market’s assessment of forthcoming economic growth in the form of pent-up consumer demand. Contrary to short-term conventional wisdom, the rise in yields does not yet carry the defined risk of causing stocks to enter a period of weak and volatile returns. In fact, historical analysis indicates that when the 10-year yield remains below 5%, rising yields have been associated with positive returns, as gauged by the Standard & Poor’s (S&P) 500. This may mean that investment risks over the next three years remain more amplified for fixed income investors rather than those investors accepting a higher level of equity market participation. Inflation fears have also ramped up due to the sheer size of fiscal stimulus efforts over the past twelve months. We urge investors to avoid all emotional efforts tied to exiting equity market participation for fears of inflationary pressures. Not only are we not able to gauge the long-term inflationary impact [yet], but it is highly possible that inflation does not occur to the extent that the masses expect it to. This has been an observed lesson following the historically accommodative monetary policy efforts following the 2008 Global Financial Crisis. These are the exact same arguments that we witnessed just 13 years ago.
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.