2020 has provided more thrills and spills than an amusement park’s best adventure rides. Good thing, since most of us cannot go to Disney or Six Flags during these odd times.
Equities, in particular the largest U.S. technology shares, have been carried to near record prices since the S&P 500 bottomed in late March. This approximately 40% rise has been fueled chiefly, but not exclusively, by extraordinary fiscal and monetary action. The Fed’s bond buying along with over three trillion dollars of spending by the administration and Congress has resulted in the loosest financial conditions since World War II. No discussion of the markets current level can fail to note these remarkable measures. However important government largesse has been, other factors have contributed to the rise in the major stock indices.
Importantly, credit has continued to flow in the private sector. In the Great Financial Crisis, commercial loans and bond issuance almost halted as the financial sector rebuilt its reserves and licked its wounds. By contrast during the pandemic, banks and markets have continued to supply business with credit despite the uncertain outlook for the economy post-Covid-19.
American households, in the aggregate, are in much better financial shape than in most past downturns. Consequently, loan defaults remain far below what might have been expected given very high unemployment levels. Home values, representing many households’ biggest asset, have so far remained firm. This provides important support for markets.
Considering the news of late regarding the rise in U.S. coronavirus cases, a surprising source of strength is the positive direction of economic indicators in May and June. Spending snapped back smartly since bottoming this spring. The labor numbers have been improving faster than many expected. While we face big impediments in reaching 2019 levels of economic and profit growth, the direction is positive, providing a boost for the markets and a balm for the optimists.
If one were looking for a flaw in this positive outlook, we would start with those same optimists. The current rich price of the major stock indices implies the improvements cited above will continue apace. While that is possible, even likely, setbacks in the recovery pose a higher than average risk of stock market declines. Bonds, particularly government bonds, have provided good protection for investors so far in 2020. While bonds play an important role in safeguarding balanced portfolios, we believe they are set to underperform as the economy recovers.
What’s an investor to do? Just go along for the ride? In a word, yes, but we believe positioning away from some market winners to more modestly priced shares is warranted. Also, we believe conditions are in place that make foreign equities more attractive than in the recent past. The outlook for the U.S. dollar is negative making investing overseas more attractive. Most of these markets trade at discounts to the U.S.
While uncertainty is elevated, the weight of the evidence points toward better times ahead. Renewed Sino-U.S. tensions and the upcoming political season are concerns but supportive policy and a healing economy will be the biggest drivers of markets for now.
We are grateful for your continued confidence and hope you and your family are staying safe and healthy during these times. We look forward to being in touch.
The Altavista Investment Team ~ Summer 2020