December 18, 2020
Review the latest Weekly Headings by CIO Larry Adam.
- No ‘20/20 vision’ for 2020 due to COVID-19
- Fed’s intervention ‘set our sights’ on investment grade
- We never ‘lost sight’ of new records for the equity market
As the end of 2020 draws near, many of us are anxious to put this tumultuous year behind us, choosing to look ahead to 2021 in hopes that happier, healthier, and more prosperous times will be had by all. As your Investment Strategy Team, the ability to look ahead and anticipate any material developments that could alter our economic and financial outlook is critical. We don’t look in the rear view mirror often, but sometimes reflecting on the past can be prudent as it presents us with the opportunity to improve and sharpen our views and analysis. Therefore, as we began to craft our ten investment themes for 2021, our first step was to evaluate and grade our themes for the current year. In hindsight, the guidance our team of economists, strategists, and portfolio managers gave for 2020 proved prescient as ~85% of them proved accurate. Given that we were all blindsided by the COVID-19 pandemic, our vision for 2020 wasn’t perfect, however it wasn’t far from reality. Below is our 2020 scorecard:
- Keeping A Close Eye On The Economy | Given the rarity of a recession in an election year, record low levels of unemployment, and robust consumer spending entering 2020, we assumed economic momentum would continue unabated at least through the presidential election. However, the COVID-19 outbreak, a ‘Black Swan’ event outside of anyone’s scope or purview, resulted in the sharpest, yet shortest recession in the post-World War II era. With the US still combating the virus, the economy has been unable to return to pre-COVID GDP levels, and therefore our expectation for 1.7% US GDP growth with no recession was unmet.
- The Fed’s Corrective Surgery | We anticipated that the Fed’s three ‘insurance’ rate cuts in response to trade tensions and slow global growth would bolster the economy, and that its balance sheet would continue to expand. While the Fed needed to perform several more ‘emergency’ surgeries this year in the form of reducing interest rates to zero, establishing facilities to further inject liquidity, and expanding purchases to include investment-grade debt, our assumption that the Fed’s actions would support the US economy and ensure the proper functioning of the credit markets held true.
- Tunnel Vision On The 2020 Election | We anticipated that the election would captivate investors and increase market volatility. While our expectation for gridlock (Republican Senate, Democratic House) cannot be proven valid until after the Georgia runoff elections in January, we did accurately predict that the state of the US economy and key swing states such as Pennsylvania and Wisconsin would ultimately decide the outcome of the presidential race.
- Looking For Yield Through The Magnifying Glass | We expected that factors such as muted inflation and international demand would limit the 10-year Treasury yield from moving significantly higher, but the COVID-19 pandemic resulted in the yield reaching an historic low. Our bias toward investment-grade bonds over high yield also came to fruition (outperforming by nearly 280 basis points year-to-date), as the Fed’s purchases benefitted the former and as default risk was a detriment to the latter.
- Seeing The Bigger Picture For US Equities | With a supportive macroeconomic backdrop, easing financial conditions, and lower interest rates, we believed the S&P 500 would be able to notch new record highs. Given the brevity of the virus-induced recession, the expected economic recovery (especially in light of multiple, effective vaccines), the Fed’s intervention, and Congress’ swift actions to pass stimulus at the start of the outbreak led the index to accomplish this feat 32 times since the start of the year!
- Double Vision Of Our Favorite Sectors | Our three preferred cyclical sectors, Information Technology, Consumer Discretionary, and Communication Services are the top performers on a year-to-date basis. We also maintained our bias towards large-cap growth equities, which have outperformed large-cap value and small cap by ~35% and ~17%, respectively.
- 5G Network – Tech In Focus | The Info Tech sector benefitted from the shutdowns as our reliance on technology to perform daily activities (e.g., work from home, stay connected with family and friends) led the sector to outpace all others by at least 9.0%.
- Blurred Vision For International Equities | We highlighted that attractive valuations, a weaker dollar, and possible stimulus action could make emerging markets appealing for long-term investors. Given the overall pace of the global economic recovery and the fact the dollar has weakened 6.8% year-to-date, emerging markets have outperformed the developed markets by 8.9%.
- A Panoramic View Of The Dollar & Oil | We anticipated that decelerating US economic growth and a widening budget deficit (even prior to the record setting stimulus efforts) would lead to a weaker US dollar. While this came to fruition, our expectation that rising global oil demand would lead oil prices higher was jeopardized due to the impacts of the pandemic.
- Volatility Hiding In Plain Sight | Last but not least, we stated that political risk, trade tensions, and geopolitical events would lead to no shortage of headline risk in 2020. Although the COVID-19 outbreak specifically was a ‘Black Swan’ event that led the Market Volatility Index to an historic peak and sector dispersion to record levels, we did accurately access that the aging bull market and increased volatility would make selectivity at the regional, sector, and individual stock level even more important.