Quarterly Investment Commentary January, 2021
2020 was a strange year from a number of directions, including the U.S. investment markets and economy. In light of the economic data, and what we can all observe by simply looking around, it seemed that investment markets defied logic altogether.
Once again, what investors experienced during 2020 illustrated the folly of trying to predict the future of markets. At the beginning the year, who could have forecast that a massive global pandemic would engulf every aspect of our lives, or that it would take hold more persistently in the U.S. (the wealthiest country in the world) than anywhere else. Moreover, who would have ever thought that despite all this, the U.S. stock market would conclude the year at record highs.
Both economic data and markets swung wildly during the year. Real GDP was reported at (-31.4%) during the shutdown of the second quarter, followed by a swing of +33.4% in quarter three. Consensus forecasts for Q4 are for moderate growth (+3.5%) which should bring the annual GDP for 2020 to about (-3.5%).
Markets experienced one of the fastest crashes and recoveries in the history of the U.S. Surprisingly, after quickly swooning (-34%) in response to the forced recession, markets recovered as investors saw opportunities. The S&P index gained more than 16% in a year of steep job losses and widespread pain.
We have been in a period of heightened volatility in stocks since April 2020. Sudden changes in value to equities are not uncommon – equities do not offer the stability of value that other asset classes such as fixed income do. However, those willing and able to weather changes to value in the short term have historically been rewarded with a higher rate of return.
While vaccine development is undeniably good news for consumers and businesses, the damage to the economy from shutdowns and withheld aid has already been done. The coming months will show the extent of the damage, and provide more signs regarding the direction of the economy. The big question is how bad the damage is.
Our focus in serving investors it to help clients achieve their most important goals by participating prudently in risk markets.
Today’s Economic Perspective
Economic output as measured by the GDP is recovering from it’s rapid decline during the second quarter of 2020, albeit at a slower rate than one would hope. While manufacturing and housing have remained strong, the service economy is still under duress.
Government actions, including the second wave of COVID-19 stimulus, and Federal Reserve’s highly accommodative stance on interest rates will offer some needed economic relief. However, it may years for the economy to catch up with it’s trend rate of 2.5% GDP growth.
Americans are exhibiting characteristic resilience and creativity in meeting today’s challenges. For example, applications for new tax ID’s for businesses (which is an economic indicator of new businesses being created) has spiked dramatically.
Economist largely agree that despite some difficult months ahead (which may include pauses or slowdowns in vaccine manufacturing, distribution, administration, and consumer uptake), we can expect to see signs of global recovery as COVID-19 abates and economic activity normalizes.
Today’s Market Perspective
The market, which is generally considered a forward looking indicator, has been strong. Expectations of a big economic recovery once most Americans are vaccinated is clearly a factor driving the optimistic outlook of investors.
The investment environment has been characterized by high-flying technology companies and businesses that benefited from the pandemic leading the markets higher, while many fundamentally sound businesses with more reasonable valuations lagged.
More recently, the rally has broadened and other sectors of the market are starting to show signs of strength relative to the recent high-flyers. While large cap growth stocks have been in the spotlight for much of the recent past, it seems likely that growth opportunities in other segments of the market could take the lead in the coming months or years.
Small cap stocks, for example, posted gains of over 30% during the fourth quarter to finish up the year up over 17%. At the end of Q3 small companies were down over 10% for the year.
In bond markets, yields on 10 year Treasury bonds have dropped to remarkable lows: just 0.95%. 30-year government bonds are yielding just 1.64% a year.
With interest rates and bond yields at rock bottom, many professional investors have decided that stocks are the only way to make money in their investment portfolios.
Much of the general optimism looking forward to a better 2021 is already reflected in the market prices, and investors can be expected to be looking for confirmation as the year progresses. Spats of bad news can be expected to trigger additional volatility.
These are scary times, and the next few months will likely prove critical to the future course of the global economy and financial markets. We are in a period of transition in politics, economy, medical, and finance.
It is a natural human tendency to prefer avoiding losses to acquiring equivalent gains. But risk avoidance, as a practice, often leads to return avoidance (or opportunity costs).
2020 provided a textbook example of the unintended consequences of risk avoidance. Many investors, sensing danger and fearing potential losses, avoided or minimized participation in risk assets. Meanwhile, the market surprised everyone and did well despite a grim state of affairs.
In the final score, missing upward market moves is likely to be more costly than being invested during downturns. The market has historically moved up more often than down, and for longer periods of time. During 2020 (where a typical portfolio might have returned 10%) an investor who sidelined $200,000 experienced opportunity costs of about $20,000.
Our focus is to help clients achieve their most important goals by participating prudently in risk markets. Our process recognized time as a key factor in investing and integrates goal funding and investment strategy. Our desired outcome is to fund client needs without having to recognize investment losses to do so. At the same time we strive to allow long term assets to stay invested through different market cycles so as not to experience unnecessary opportunity costs.
We are committed to providing you objectivity and steady guidance through both volatile markets and euphoric markets – to give you the peace of mind to enjoy your life and focus on what really matters most to you.
Harvest Asset Group, LLC