Global equity markets moved higher across the board in November as clarity emerged around the U.S. presidential election results, and three companies shared positive data from COVID vaccine trials.
During the month of November, the MSCI ACWI Index, which represents global equities (i.e., both U.S. and international stocks), has risen 11.8%, while the MSCI ACWI Ex-USA (international stocks) has ticked up by 12.6%. The U.S. large cap stock Russell 1000 has steadily risen this month, up 11.6% since November 2nd, while the U.S. small cap Russell 2000 has climbed 18.3%. Finally, core U.S. bonds represented by the Bloomberg Barclays Aggregate U.S. Bond Index have risen 1.0%.
U.S. Presidential Election Results
In our view, markets responded positively to the election largely because there was an outcome. As we have discussed in previous commentaries, uncertainty typically leads to volatility and downward pressure on markets.
Before the presidential election, the markets’ primary concern was the possibility of a contested outcome or election-related unrest; fortunately, for the investment markets, we have avoided those scenarios thus far. We expect the Electoral College to cast their votes on December 14th formally, Congress to certify the election results on January 6th, and President-Elect Joe Biden to be sworn in on January 20th, 2021. In Sage’s view, this increased clarity has had a significant positive influence on financial markets over the past month and we expect more of the same over the next few months as well. Although court cases launched by President Trump continue, Biden is seen as the next President of the United States of America and financial markets have embraced the outcome, generally moving hirer.
Recent news about the strong efficacy of three potential vaccines buoyed markets, but, in general, market sentiment surrounding the COVID-19 pandemic is in a “tug of war:” the vaccine data released in November looks very promising, but, at the same time, U.S. daily infections and hospitalizations are at record levels. It seems that markets are trying to balance the realities of near-term new case and hospitalization numbers with longer-term optimism about the impact of a vaccine, a dynamic we discuss in more detail below.
Hospitalizations and Lockdowns
In November, new case numbers spiked from just under a 7-day trailing average of 75,000 on November 1st to over 175,000 by the end of the month. Hospitalizations also reached new highs. The uptick in cases and hospitalizations has led to a rollout of new public health orders across the country. While any lockdown measure will have negative economic effects, we think that the targeted, less-restrictive nature of these new regulations will reduce their economic impact. For example, many businesses that were forced to close in early March — e.g., medical offices, shops, factories, and even hair salons — have largely remained open despite incremental restrictions from policymakers.
So far, key economic data supports our assessment. In the chart below, each line represents one key economic metric: material production, rail traffic, mortgage applications, and petroleum demand, among others. While we have seen a downturn of some key economic indicators in recent weeks, it has been modest compared to the drop-offs in activity we saw during March and the mid-summer lockdowns.
The general trajectory of these lines is informative; for example, rail traffic has gradually ticked upwards since early September, suggesting an increased demand for consumer goods, which is supported by the uptick in department store sales over the same period. The data also suggests that despite enhanced unemployment benefits coming to an end, consumer spending remains stable (e.g., retail sales +4.8% year-over-year through October), which bodes well for the economy.
In our view, while near-term COVID trends are worrisome, the leveling off of these high-frequency data points is in stark contrast to the severe drop-off in activity that we saw in March and April. While some sectors such as travel and leisure are suffering disproportionately, many areas of the economy remain open, and businesses have adapted to the environment through curbside pick-up of goods, outdoor dining, etc. These adjustments will likely be challenged as we enter the winter months, which adds to the risks associated in the long-term with businesses going under, particularly in terms of employment. The stimulus provided through the CARES Act helped many businesses through the complete shutdowns earlier this year, and unemployment has returned to 6.9%, while consumer spending is up over 5% year-over-year as of the most recent reading in November. An additional targeted stimulus package could provide support and help the markets remain focused on a recovery’s eventuality. We encourage investors to focus on the longer-term horizon (i.e., past the next few months). Although there could be near-term volatility related to COVID trends, we believe the dropoff in economic activity is unlikely to be as severe as March and April of this year, and a vaccine is likely to be widely distributed throughout the first half of 2021.
In November, the markets rose in response to the promise of viable vaccines from Pfizer/BioNTech, Moderna, and AstraZeneca and have now shifted their focus to how quickly vaccines can be distributed. The FDA plans to discuss Emergency Use Authorization for the Pfizer/BioNTech vaccine candidate on December 10th and Moderna’s candidate on December 17th. In anticipation of FDA approval in mid-December, Pfizer has begun to ship vaccines throughout the country, with the help of United Airlines. U.S. Surgeon General Jerome Adams recently said the federal government can hopefully start sending out vaccines 24 to 48 hours after the FDA grants Emergency Use Authorization.
As the chart below from the National Association of Medicine (NAM) shows, the first phase of the rollout would cover roughly 45 million members of the highest-risk groups between January and March, then expand to larger portions of the population. In total, the NAM estimates that 150 million Americans could be vaccinated in the first half of 2021.
While the future outlook is promising, the COVID-19 pandemic is not yet under control, and the virus still poses a significant public health risk, especially considering the surge in new cases and hospitalizations. We would not be surprised to see some near-term market volatility as new case numbers continue to rise, and states continue to tighten restrictions. With that said, equity markets are forward-looking, and the promise of vaccines is providing a “light at the end of the tunnel,” so to speak. Based on recent news, it is increasingly likely that a vaccine will begin to be widely distributed in the next few months, and markets are beginning to expect to see a return to some level of normalcy at some point in 2021. This tempered optimism is providing a boost to more cyclical asset classes such as U.S. small cap stocks. As we have stated in past communications, we expect the economic recovery to continue but to be non-linear with some bumps in the road, creating the possibility for short-term volatility in markets.
Developments regarding a fifth fiscal stimulus package remain in flux. With President Trump and Treasury Secretary Mnuchin taking a step back from stimulus talks, negotiations rest in the hands of Senate Leader Mitch McConnell and House Speaker Nancy Pelosi. McConnell previously indicated stimulus talks would not resume until after the inauguration; however, he recently changed course, saying a stimulus package should pass this year and that it could include aid for state and local governments — a major sticking point between the two sides in previous stimulus negotiations.
President-Elect Biden has indicated his preference for passing a smaller bill now to provide immediate support for the hardest-hit sectors, then perhaps circling back on a larger package in the future. From an investor standpoint, aid for state and local governments would reduce the need for budget cuts, and aid for small businesses would help stave off bankruptcy in hard-hit industries such as travel and leisure. A stimulus package would also likely be viewed favorably by the market, as it could help the U.S. economy return to pre-COVID GDP levels more quickly. In the chart from Deutsche Bank below, each solid line represents GDP projections with no stimulus, a $1 trillion stimulus, and a $2 trillion stimulus. The dotted line represents the pre-virus forecast for U.S. GDP. According to these projections, a $1 trillion package would bring the U.S. economy’s output to 2019 levels much earlier than a “no-deal outcome,” which is likely why President-elect Biden supports the passage of even a smaller package before the end of the years.
Short-term market volatility is possible in the coming months, but we remain cautiously optimistic about the economic recovery. In our view, positive vaccine data from three leading vaccine candidates means that cyclical asset classes such as equities and emerging markets bonds are likely to outperform over the next 6-12 months as the economic recovery continues and accelerates in 2021. Additional fiscal stimulus is also looking more likely as President-elect Biden seemingly favors a targeted deal in 2021, which further boosts the prospects for cyclical assets.
However, some risks do remain, particularly around the logistics of manufacturing and distributing a vaccine. A slower than expected rollout in vaccines, less efficacy, and/or lack of progress in a stimulus deal despite Biden’s push all could mean the recent rotation to more cyclical stocks slows or reverses. Also, a continued increase in hospitalizations may lead to further restrictions. In our view, these restrictions are likely to be targeted to specific high-risk areas such as indoor dining, gyms, etc. and thus would not be nearly as economically catastrophic as the wholesale lockdowns we saw in March and April of this year.
We will continue to closely monitor market data and advise you of any developments that could impact your investments.
As always, if there is anything you would like to discuss, please do not hesitate to contact us.
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