January 2021

Key takeaways

► What a comeback

► Living in 2021

► Tailwinds for stocks

► Can this last?

► Diversification is crucial

What a comeback

Remember the bleak days of March? A virus originating in faraway Wuhan, China, began spreading. As fear across the globe gradually increased, flights were canceled,  borders shut down, and finally, economies went into full lockdown. The S & P 500 index hit bottom on March 23, down 34% from its high on February 19. US small stocks fell 42% from their recent high on January 17. The longest bull market ended. As the Fed and Congress took aggressive measures to stem the damage, and vaccines arrived, stocks began to recover. Look how far we’ve come. The S & P 500 index finished the year up over 60% from the low. Small caps almost doubled. 

Will it last?

Borrowing from the future

In many ways, we’ve been living in 2021 for months already. So much good news and positive developments anticipated later this year may have already been priced into the market. The stock market rally in the final two months of 2020 was astounding. Look at the stats above. After the presidential election, you could feel a palpable sense of relief. A significant uncertainty lifted. Stocks took off. But the performance of stocks in 2020 wasn’t just about the passing of the election. Don’t forget we are still living with the COVID 19 pandemic, and it is getting worse. There are several tailwinds supporting stocks. 

Tailwinds for stocks

Many of these tailwinds have been with us since the nadir in the stock market. Here are a few:

• The Fed
• Fiscal Stimulus
• Breathtaking vaccine
• Strong housing
• Manufacturing coming home
• Tech disruption
• Biotech boom

By far, stocks owe their remarkable trajectory up despite a dismal real economy due to the Federal Reserve’s extraordinary efforts. The Fed and other major central banks have lowered rates to historical lows – real rates are negative – and are buying bonds of all sorts. They have pledged to keep rates lower for longer. Following the Fed’s latest meeting on December 16, the Federal Reserve committed to continuing buying bonds until the economy reaches full employment and inflation stays at 2%. The Fed also voted to hold short-term borrowing rates near zero.

The various stimulus packages passed through Congress and signed by the President also contributed significantly to stabilizing the economy and lifting stocks. The four relief bills passed in 2020 amount to over $4.2 trillion. America’s final bill for World War II amounted to $4.1 trillion in today’s dollars.

And I must mention that scientists’ phenomenal work in studying disease and developing a vaccine for COVID 19 in record time is nothing short of extraordinary. The vaccines employ new mRNA technology, unlike typical vaccines containing a live virus, virus particles, bacteria, or other pathogens. Research to develop a vaccine for the novel coronavirus kicked off just months after the first case was identified, and trials began a few months later. In comparison, the influenza virus was first isolated in a lab in 1933, and an effective flu vaccine was not licensed until 1945. Many diseases, e.g., AIDS and malaria, still don’t have any effective vaccines. News on the progress of a vaccine was building all year. When the FDA finally approved the rollout of various vaccines, stocks jumped. Near the end of the year, the start of vaccinations probably prevented further deterioration in the market as concerns grew about Congress delaying more stimulus. 

Can this all last?

Although a lot of good news is already priced in, there are many reasons to think that stocks may continue rising. As the vaccine distribution widens, the recovery will accelerate, and pent-up demand (and savings) should drive the economy. Several banks are predicting GDP growth of 5 – 6%. With stocks reflecting these positive expectations, a lot will depend on policy, inflation, and real interest rates. A new Biden administration will likely favor more relief measures and stimulus spending on infrastructure and clean energy – all will accelerate the economy and stocks.

Most economists recommend more relief for our struggling economy, especially assistance for the unemployed and small businesses. Many receiving stimulus checks are not suffering financially and are mostly saving the money. Meanwhile, 20 million Americans are unemployed, and the unemployment rate is 6.7%. Many industries hit hard by the pandemic – restaurants, hospitality, and travel – will probably remain strained until mid -2021. Money paid to those who need it most would guarantee their spending on essentials and stimulate the economy.

Diversify. Emphasize income.

All of this makes diversifying your portfolio even more critical. Stocks, particularly international and beaten down value stocks, should deliver strong returns, but things may go wrong. President-elect Biden may not be able to deliver big stimulus with razor-thin majorities in Congress. A significant wave of COVID-19 infections (and its many variants) may cause additional havoc on the economy. Even a national lockdown is not out of the question. And higher rates due to spikes in inflation from pent-up demand may give stocks stiff competition. 

Despite low rates, I think it’s still important to keep an appropriate amount in bonds. Bonds are like ballast in a portfolio. They provide income and protection in a stock market collapse. Corporate bonds, high yield, in particular, may be ideal for accomplishing two things: lower volatility and income. And dividend-paying stocks – stocks out of favor in the past few years – are also great additions providing growth and income.

I wish you all the best in the new year. Be safe. Please let me know if you have any questions or concerns.  

Sincerely,

Henry

Henry Gorecki, CFP®

HG Wealth Management LLC

10 S. Riverside Plaza, Suite 875

Chicago, IL  60606

312-474-6496

henry@hgwealthmanagement.com