Financial markets proved as resilient as ever in 2020, surviving a global pandemic, worldwide economic shutdowns, and a volatile US presidential election to produce improbably high returns across the board.
The S&P 500, one of the best barometers for US stock performance, recovered from a -20% decline in Q1 to post a full-year gain of +18%. Overseas equities advanced +11% in 2020 as measured by the MSCI ACWI ex-US Index, with the developed markets of Europe and Japan lagging behind the emerging markets of China, Taiwan and South Korea. Within fixed income, the Barclays US Aggregate Bond Index gained +7.5% this year after short-term rates were again slashed to zero in order to stimulate the economy. Ten-year Treasury yields fell roughly 100 bps on the year, closing out 2020 at 0.9% after hitting a record low of 0.318% during the height of the COVID panic in March. Within real assets, the Alerian MLP Index fell -32% as energy markets grappled with global supply/demand imbalances, while gold prices rose +25% on its potential to hedge against both global uncertainty and rising inflation expectations.
After a year defined by uncertainty, the global economy will be focused on a return to normal, with a near-term spotlight on vaccine distribution, getting people back to work, and finalizing another round of fiscal stimulus in the US. As always, we aim to filter the news and noise through the lens of our “Three Dials” framework. Below is a primer on where each of our primary indicators stand to start the new year:
After the waterfall declines in March and the subsequent snapback recovery in April, global equity markets have shown remarkable technical strength through the latter half of 2020, with key moving average levels providing support and optimistic investors buying any dips that have presented themselves. While we expect that the easy gains have already been achieved and plenty of good news is already priced into stocks, the current broad market rally has our Momentum and Sentiment Dial firmly in a “Positive” position.
While unemployment continues to be an issue both at home and abroad, jobs continue to return to the global economy. After peaking around 25 million in May, continuing claims for unemployment insurance in the US are now back below the 2009 peak of six million. Manufacturing output and new home construction continue to creep back towards pre-pandemic levels. On the whole, leading economic indicators are strong enough such that our Fundamental Dial shows a “Positive” reading heading into 2021.
Given that stock prices tend to anticipate earnings growth, we expect to see above-average equity valuations in these early stages of a recovery. That said, the post-COVID market advance in the face of declining earnings only adds fuel to already stretched valuations. In December, several valuation metrics on the S&P, including Market Cap to GDP and EV/EBITDA, were at all-time highs. As a result, our Valuation Dial remains in a “Negative” position.
On balance, despite unprecedented volatility over the course of the year, our Three Dials composite reading is unchanged from the start of 2020. We take a “Cautiously Optimistic” view into 2021, as strong showings in the areas of Momentum and Economic Fundamentals are balanced by Valuation concerns.
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Sources:
[1] https://www.morningstar.com
[5] https://fred.stlouisfed.org/series/CCSA
[6] https://fred.stlouisfed.org/series/INDPRO
[7] https://fred.stlouisfed.org/series/HOUST