Quarterly Investment Commentary October, 2020
This year we experienced one of the fastest crashes and recoveries in the history of the U.S. economy and financial markets. Given the decline in the U.S. economy and continued uncertainties around the resurgent pandemic, the situation could have been a lot worse. Most economists and market analysts have been surprised that the investment markets have held up as well as they have.
While we await the final reports, expectations for GDP (Gross Domestic Product) for Q3 2020 can be expected to be about 6.2% below its level from one year ago. To put this in perspective, the U.S. GDP fell about 4% during the 2007-2009 global financial crisis. It’s clear the pandemic has dealt a huge blow to the U.S. economy.
Investments during the quarter showed remarkable buoyancy. However, the returns earned by investors did not come without some truly scary moments. In addition, not all investment sectors or companies contributed to the good news.
Today, like during many points in history, there are a number of legitimate factors for investors to worry about. But the same proven principles apply: Diversification, periodic rebalancing, controlling expenses, and investing according to when you need the money.
It can be extra challenging during unsettling times to adhere to a well-considered wealth management plan. Many are feeling out of sorts these days, and are being barraged with doomsday predictions.
As always adhering to a strategy that supports your goals and takes volatility into account is a wise path. Remember as an investor, time is on your side.
Today’s Economic Perspective
Prior to the pandemic, the U.S. economy had been experiencing a long period of economic expansion – over ten years since the great recession of 2008/2009. Government measures to control the virus triggered an almost immediate and deep reversal, and while the economy has begun to grow again, economic activity remains far below normal.
Thankfully, swift action by legislatures and the Fed provided a temporary lifeline to the economy. The CARES Act allowed more businesses to stay open and keep employees, unemployed workers received generous benefits, state and local governments received economic relief, and access to capital was kept low cost.
COVID-19 remains a significant public health concern that continues to hamper the global economy. Overall business activity bounced over the summer, but is expected to fade in the coming months. Unfortunately many small businesses are permanently closed.
Today the economy is growing, and consensus among economists is that we will experience a V shaped recovery over the next eight quarters. However, it is an uneven recovery (both by business sector and geography), and could be accelerated or delayed based on how successful we are at controlling the pandemic.
During the first wave of stimulus, many households reduced debt, saved money, and improved their family balance sheets. While it is generally understood among political leaders that another round of stimulus is needed, when relief will come and what it will look like remains unknown as the gridlock in Washington is worked out.
Today’s Market Perspective
We have had an unexpected fast recovery in the U.S. markets since the swoon that occurred in the first quarter of the year. What happened to the S&P 500 between the 2/19 peak to 3/23 was a decline of 34%. Amazingly, the market has recovered all of that value today.
A more detailed look at the markets reveals some important observations which can help better understand the dynamics of recent market history. The stock recovery has been led by U.S. Large Cap stocks, which produced returns of 8.47% for the quarter and are showing positive returns of 4.09% for the calendar year.
By comparison, Small Cap stocks are down 10.34% for the year, International Developed stocks are still down almost 9%, and Mid Cap stocks are down 2.84% for the year.
Even within the indexes, the recovery is very uneven. Technology and consumer discretionary growth stocks have driven the stock market recovery, with a small number of large growth companies gaining the most (Apple, Microsoft, Amazon, Alphabet (Google), Facebook, and Netflix).
Many are wondering out load how the market is holding up with the decline in the U.S. economy, and the huge challenges and uncertainties in the health and political sphere. We can identify at least three factors that are contributing: 1) Fed monetary policy, 2) COVID-19 stimulus (and more expected stimulus), and 3) remarkable growth in profits among the companies mentioned above.
Monetary policy has made borrowing low-cost, which stimulates business spending. In addition low interest rates mean that cash and bonds don’t pay enough to make either a good alternative for investors seeking higher rates of return. This makes stocks attractive by comparison.
The CARES ACT pumped $2 trillion into the economy and was followed by passage of an additional $483 billion supplemental COVID-19 bill. The market is expecting additional stimulus, and stock prices may reflect this expectation.
Lastly, the size and growth rate of the key large cap technical stocks has been extraordinary, and is attracting investors who drive the stock prices higher. For example, analysts expect Amazon to produce 46% earnings per share growth in 2021. When you consider that growth rate, it’s easier to understand why investors have driven share prices to the levels they are today.
On many fronts it has been an unsettling year so far, and we are not done. The next few months will likely prove critical to the future course of the global economy and financial markets. Major changes are anticipated in the areas of politics, economy, medical, and finance.
Although the U.S. presidential election will have a major impact on the economy and financial markets in the months and years ahead, history suggests that the impact of party leadership on GDP and the stock market doesn’t favor one over the other.
Investment markets are “predictably unpredictable,” and 2020 (to date) is one that would have been particularly hard to predict at the onset of the pandemic. The March low point in the market would have been a terrific day to buy, and a very unfortunate time to sell investments.
If you are feeling a nagging sense of disorientation and dread about the world around us, you are not alone. And we recognize that it can be emotionally challenging at times to stay the course with your financial strategy.
Hopefully you can take some comfort in knowing that our investment process is guided by financial planning for your most important goals, and as part of that process we consistently plan for the worst (while hoping for the best).