In 1849, Jean-Baptiste Alphonse Karr wrote, “The more things change, the more they stay the same”. Now, over 170 years later, technical analysts are using his prophetic statement to warn investors of a potential top. The stock market is indeed high and is characterised by typical market exuberance – whether it is historically low put/call ratios, record-high active investor equity exposure, record levels of margin debt or very high levels of bullishness on investment polls. At these times, it is worth recalling Humphrey Neill’s 1954 book, “The Art of Contrary Thinking,” where he wrote that the public is often right during the trend, but wrong at both ends.
We wish all our clients and readers a very Happy New Year. 2020 was a remarkable year, by any stretch of the imagination, and one I am sure we would all like to put behind us. Looking forward to the next 12 months, we are, by our very nature, optimistic. Widespread vaccination programmes are expected to be in place worldwide by June. Unemployment should drift downwards as many, though not all, workers are called back to work and interest rates are forecast to remain low. Ironically, it is China that will continue to lead global growth. There are risks – global growth could disappoint, and valuations are high, almost predicting perfection. But with a calmer political environment, both in the US following Biden’s victory and the UK following their free trade deal with the EU, we see stock markets returning close to their long-term averages of 8-10% for the year.
Even with a stout selloff on the final trading day, November will go into the books as one of the best stock months in decades. Good Novembers often set the stage for good Decembers, and there is reason to believe stocks can carry a bit more strength into their final stretch in 2020. In years in which the market is positive through 11 months, as it is in 2020, the last of the bearish money managers are forced to capitulate or risk the wrath of their clients. Scrambling for return, these bears-turned-bulls will tend to window-dress clients’ portfolios with the stocks that have worked best all year.
The COVID-19 pandemic has achieved another grim milestone with the global number of coronavirus cases exceeding 50 million. US data is troubling, while trends in Europe are flat-out alarming. The new wave of infection worldwide has followed relaxation of lockdowns on restaurants, bars and other gathering spots along with the natural inclination to move indoors as colder weather arrives. Fortunately, fatalities are not fully tracking the rise in new cases. But governments want to get ahead of the curve before it worsens with further lockdowns and tightening restrictions that were eased just months ago. Amid widely disparate commentary from health professionals, Dr Anthony Fauci, one of the US’s top infectious disease doctors, has argued that national lockdowns are not the optimal way to combat the disease. Instead, he argues that citizens should maintain proven public-health measures such as masking and social distancing “to help us safely get to where we want to go.” With the devastating effect lockdowns have had on the economy, we could
not agree more.
The financial pain of the pandemic has mainly focused on those least able to afford it – low-wage workers in people-facing industries, such as restaurant workers, airline employees and physical trainers. Knowledge workers, who have been able to continue working from home, have been less affected by the shutdown. Indeed, this group of workers has benefited – not from higher wages, but from sharply reduced costs. Without being able to spend their salaries, their saving rates have rocketed. Increasingly, reporters have adopted the term “K-shaped recovery” to describe this disparate experience of those at the top and bottom of the economy. The structure of the letter ‘K’ lends itself to this analogy, as the fortunes of those on the upward thrusting arm of the letter diverge from those on the downward-sloping leg. It is certainly a more apt analogy than that provided by, say, a V-shaped recovery, with its assumption that we are all in this together. Given that the stock market is experiencing its worst case of indigestion since March, the message is simple: the economy – and by extension the stock market – cannot flourish if a large segment of the population is left behind.
The stock market obliterated the “sell in May” maxim this summer. Anyone who “went away” missed out on some large gains. These gains came amid unprecedented economic pain, high unemployment, and rising COVID-19 cases. Looking past those massive challenges, investors focused on strengthening economic data, growing receptivity to wearing masks and maintaining social distancing, and steady progress on leading vaccine candidates. In a strange year, the stock market and economy are exiting summer with Brexit negotiations and US presidential electioneering firmly on the front pages. With the chances of a Brexit deal estimated to be as low as 30% and Joe Biden leading in the polls, it would not be surprising to see the stock market find direction one way or the other.
Stock performance often seems uncoupled from key economic data and corporate earnings. In general, the stock market is anticipatory of what is to come, while economic data and earnings are lagging – the former by one month, the latter by three months. Thus, it is not uncommon for cyclical companies to be reporting their best earnings of the cycle amid strong data – just as the stock market begins to nosedive in anticipation of a slowdown or recession. And stocks may leap off their lows even amid a steady stream of dismal data. There is indeed an element of hope in the stock market’s anticipatory impulses. Never has that hope been so plainly in evidence as today as investors head into what looks to be an exceptionally weak second-quarter earnings season.
The reopening of the economy is underway, and nothing – not even a fresh wave of COVID-19 infections – is likely to reverse it. With businesses reopening and consumers warily venturing out to restaurants, beaches and hair salons, the economic data is showing signs of ticking higher. The goal of the initial shutdown was never to stop the disease in its tracks. The goal was to flatten the curve so that the pace of new infections did not overwhelm the healthcare system. The economic stakes are too high to roll back the reopening and begin another shutdown. For all these reasons, the phased reopening of the economy will proceed.
Stocks have staged a remarkable rebound over the past several weeks, despite dismal unemployment readings and declining profit expectations. Investor optimism appears to come in several forms: that job losses will be temporary and return quickly once lockdown restrictions are eased; that a relatively quick breakthrough on the health care front will occur to combat the virus through treatments or vaccines; and that monetary and fiscal stimulus will keep consumers and businesses afloat until the economy recovers. Another few things could be fuelling recent market psychology – a “worst-is-over” mentality that is bringing in substantial money from the sidelines; a “no-place-to-go-but-stocks” approach given record-low 10-year yields; and a “fear-of-missing-out” thinking that has investors worried about lagging performance.
Will we ever get back to normal? COVID-19 is not just the worst pandemic in 100 years, but also the first pandemic of the information age. It also reflects a new kind of thinking, that it is worth stopping the global economy in order to minimise deaths. Perhaps the hyper-awareness wrought by social media in the digital age is why global leaders stopped the economy. The first steps on the long walk back from the pandemic have barely begun. And the likelihood is that the world we return to will be changed in fundamental ways.