Case growth and hospitalizations have mostly slowed across major global economies. While new virus strains may challenge the recovery, data suggests that vaccines have universally reduced the severity of symptoms. Relative to unvaccinated populations, hospitalization risk for the vaccinated population fell by 84% four weeks after receiving the first vaccine dose. Read More
Widespread immunization, accommodative policy, and pent-up savings are expected to support the global economic recovery, although new COVID-19 strains remain a concern. While massive fiscal support and excess savings may risk overheating the economy, we believe the impact will be limited by the one-off nature of the fiscal boost. Stronger corporate earnings and expectations for a larger stimulus deal led us to revise up our US growth forecast to 7.0% in 2021. We expect the Euro area to grow 5.1%. Read More
Congress is on track to pass its COVID-19 relief bill in March, which is expected to be the first of at least two significant spending bills from the Biden administration in 2021. Through the reconciliation process, President Biden and Congressional Democrats are expected to have greater control in determining the size and details of the bill. We expect the Phase 5 fiscal package to total ~$1.5 trillion (6.8% of GDP), with risks to the upside. Read More
US inflation is on track for a mid-year boost above 2% as the economy approaches one year from the worst declines of 2020, a jump that the Federal Reserve has signaled it will look past. We expect the boost from base effects and healthcare-related policy to lift core PCE to 2.5% in April, but to then fall back to 2.05% at year-end, declining further to 1.85% in 2022. Read More
As the global economic recovery materializes, we expect returns to continue broadening out. Value-style stocks should benefit from activity in virus constrained sectors. Small caps’ cyclicality has historically outperformed in the first half of expansions. And globally, we are focused on companies rather than countries, especially those with near-term cyclical earnings potential that may outweigh longer duration growth prospects in a reflationary environment. Read More
The cyclical recovery will likely continue to carry credit, as short-term default risks reprice lower (we expect 3.9% in 2021) and spread curves steepen. As yields test all-time lows, we still see value in 1) HY ‘rising star’ candidates that could be upgraded to IG in the recovery, 2) the proliferation of refinancing issuance as issuers take advantage of strong demand, and 3) global spread sectors with attractive absolute and risk-adjusted yields such as Asian HY. Read More
The tactical opportunity is attractive as most commodities are well-positioned for reflationary momentum. The oil market has undergone a multi-year period of reduced investment and if OPEC production discipline continues as post-COVID demand recovers, the technical backdrop will support higher spot prices. Additionally, with forward curves in steep backwardation, synthetic exposure may provide positive roll yield. Read More
On page two, we examine the implications of an expensive equity market relative to the current macro backdrop of low rates and stable inflation. While equity valuations matter, we believe that being in the early innings of the economic recovery will matter more. Read More
High valuation, low yields, and extreme trade positioning may present near-term hurdles to positive equity momentum. However, we believe the current market is sufficiently supported by low interest rates, massive stimulus spending, and a recovering economy borne out of the vaccine. Ultimately, our expectation for double digit year-end returns is reinforced by the historical high probability of positive returns during increasingly lengthy expansions.
At the 98th percentile of historical CAPE ratios, investors are contemplating the risk-reward of investing in US equities at these high levels. We think elevated valuation can hold for multi-year periods, especially when paired with accommodative policy and stable inflation. The past 10 years is a good case in point with equities returning 227% while remaining expensive. In our view, moments of volatility present opportunities to deploy cash.
The early innings of an economic recovery have often been accompanied by bullish market sentiment. High probabilities of positive returns are driven by recovering fundamentals and a favorable growth picture, which can prove more important than valuation in the near-term. Historical data tells us that economic expansions have been rewarding for investors, posting positive returns 87% of the time, with 63% of returns greater than 10%.
At +78% from 2020’s market bottom, equity gains have reflected only one-fifth of the median returns seen during the last four expansionary cycles. For context, these equity rallies continued for a median length of 109 months and gained 403% from market bottom. We think broader vaccination, warmer weather, and a cyclical rally from COVID-sensitive sectors should continue to narrow this recovery gap.
Top Section Notes: As of February 1, 2021. ‘CAPE’ ratio refers to the cyclically-adjusted price-to-earnings ratio for the S&P 500 Index. Middle Section Notes: As of January 31, 2021. US economic expansionary periods are based on the National Bureau of Economic Research’s business cycle data. Expansion is the phase of the business cycle where real gross domestic product (GDP) grows for two or more consecutive quarters, moving from a trough to a peak. Chart shows the likelihood of subsequent one-year S&P 500 returns during periods of US expansions in post-WWII periods, from 1945-2021, based on total return ranges. Bottom Section Notes: As of February 17, 2021. Chart shows the performance of S&P 500 Index from market bottom to the next US recession. Past performance does not guarantee future results, which may vary.
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