We can’t hear you?! . . . You’re on mute. This new and recurring phrase for 2020 was rushed to the forefront of our daily lives like a blast of artic air in March of 2020 and remains part of our new normal. The forceful pivot by nearly everyone in the world to make the best of an unprecedented global pandemic has been most impressive on many fronts. Operation WARP speed, a public-private partnership started by the US government to facilitate COVID-19 research, trials, treatments, vaccines, manufacturing, and distribution has been a critical component to the enormous progress made to date. Monday morning quarterbacking is not our style, so we will opine from a position of the present. Even as we write these comments, many countries are revisiting various stages of COVID-19 restrictions and lockdowns while simultaneously distributing vaccines to their citizens. The distribution of vaccines is happening at a varied pace and we would expect the learning curve to steepen so that many who want the vaccine will have at least the first shot of this two-step process by mid-year 2021.
During the early days of COVID-19, remember that automobile factories converted to making ventilators while distillers and brewers converted to producing massive quantities of hand sanitizer, and healthcare providers waived patient costs for COVID-19 treatments. An acknowledgement by the average citizen that approximately 90% of drugs are generics and made overseas has changed the supply chain mentality forever. More countries will look to source important components onshore given the challenging experiences during this pandemic driven by their nations’ best interest.
What we learned (and are learning) from COVID will not be forgotten too soon. We need certain essentials and a supply of various items, just in case. The just-in-time inventory is fine for discretionary items, but for non-discretionary items, it is now just-in-case! We expect manufacturing to come onshore for the U.S. and other countries with duplicative production distributed throughout the globe. Presently, pharmaceutical ingredients are essential and there will be other components on the horizon, in our nation’s best interest. We equate this secular shift to the tactics to ensure national defense and it may be even more powerful because every individual is experiencing the pandemic. The next phase will be developing and implementing just-in-case inventories and supplies and this will take years to fully be established. Perhaps some of the inventory will be unconventional (like the household’s toilet paper supply), but many others will be critical to the safety of respective citizens and countries.
With a budget of at least $10B to Operation Warp Speed, approximately 20 million COVID-19 vaccine doses will be delivered at or close to year-end 2020. There is still the challenge of the last 25 feet and into the arms and that is being addressed by each state and county. Thus far in the US, Pfizer and Moderna vaccines are in distribution, while across the pond Astra Zenaca is also being used. Remember that the goal of Operation Warp Speed is to develop, manufacture and distribute hundreds of millions of COVID-19 vaccine doses throughout the US. At year-end 2020, an agreement with Merk was announced to support development and manufacturing of their own preliminary vaccine.
The tremendous monetary and fiscal stimuli in the US propelled money supply to record levels! Money supply (M2) is the sum of the amount of money that flows throughout an economy, and it jumped 25% over the last year to more than $19T (of which M1 made up 53% as of Nov 2020). M1 includes cash, deposits, and savings while M2 includes all M1 plus money market accounts and time deposits. The US is not alone in its stimuli as charts of money supply across advanced and major emerging economies indicate growth of between 10%-30%, according to the National Central Banks, Haver Analytics, throughout 2020. This is meaning stimuli of unprecedented proportions!
Monetary Policy – Global Central Banks Remain Poised to Act
The Federal Reserve executed much of the heavy lifting in 2020 and, in our view, will play a critical role once again over the next 12-24 months. The Federal Reserve will be revisiting its zero-interest rate policy during this time, which will bring volatility and uncertainty to the markets. Before increasing the Fed funds rate, the Federal Reserve has commented that inflation would need to exceed 2%. Further, we would like to emphasize that raising the Fed funds rate would be a long-term positive while creating near-term volatility. A healthy and growing economy could have a Fed funds rate back near 2% by year-end 2023.
The Fed aggressively lowered rates as the health crisis became acute to near zero in early 2020 from 1.50%-1.75% previously. The Federal Reserve and other Central banks around the globe were the only stimuli initially. Their respective strong and swift actions provided confidence and liquidity to the global bond and equity markets.
The yield curve is steeper than it was a year ago but, once again, at historically low rates; The ten-year US Treasury bond yield at 0.93% and the two-year at 0.13% at year-end 2020, versus 1.86% and 1.61% a year ago. For comparison purposes, the S&P 500 yield stands at approximately 1.6%. These ultra-low interest rates are driving home refinancing activity to very robust levels and this is especially helpful for many people seeking new homes based upon their COVID experiences. Further propelling this trend is the work-from-home model which is extending well into 2021. For many years, the work from home opportunity had been a relatively small component of many businesses, but it took a dramatic turn in adoption and acceptance during the COVID restrictions. Many employers and employees have a new sense of work from anywhere and are re-imagining the ideal lifestyle of working and living (and some teaching) at home.
By mid-year 2020, most G20 countries committed to fiscal stimulus. Some countries committed to stimulus of approximately 3% of their GDP while other countries were at more than 21% of their GDP. The US stood at 13%, according to statistica.com and presently, with the recent $900B plan stands closer to 18%. Maintaining liquidity during stress is a key component to keeping an orderly market environment. The other key point is that the Federal Reserve and other Central banks stand poised to act when additional action may be needed, and this commitment continues to be an underlying positive to the global markets.
Let us review 2018-2019 as a recent market guide to gradual and measured rate increases by the Federal Reserve. Recall that a combination of tariff tiffs and fear of tighter monetary policy drove sharp selling into year-end 2018, but the gradual execution of rate increases was acceptable to the broader markets in 2019 given the strong economic earnings indicators throughout the year as well as trade wars that did not materialize in a substantive manner. The Fed may likely reduce its quantitative easing program throughout the next 18-24 months as the vaccine deployment slowly reopens the global economies.
Fiscal Policy – More, More, More
Fiscal stimulus in the U.S. has amounted to nearly $3T, including the year-end $900B plan. Across the world, the collective fiscal stimulus is estimated to be at about $9T with $4.4T to public sector loans and equity positions, and guarantees and other activities adding up to another $4.6T, according to National authorities and the IMF. There is more fiscal stimulus to come during 2021 and, based upon the figures that were discussed during the second half of 2020, the additional stimulus could be more than $1.5T.
The US COVID-19 Relief Plan, a $900B stimulus program, was signed into law in December 2020 to once again support individuals and businesses of all sizes that continue to be negatively impacted by this pandemic. This Plan provided up to $600 of direct stimulus checks ($160B), $120B of unemployment benefits at an extra $300/week, $280B to the Paycheck Protection Program, $70B for COVID-19 treatments, vaccines and distribution, $80B for schools and universities, $25B for rental assistance, and other items. Further, this substantial program was connected to a crucial $1.4T spending bill to keep the US government operational for the next fiscal year.
The US Cares Act, a $2T stimulus package, was signed into law in March 2020 to provide support to people, families, and businesses negatively impacted by COVID-19. This Act included approximately $560B to individuals, $380B to small businesses, $340B to state and local governments, $500B to large businesses, $150B to public health and $44B to education and others, according to NPR. Specifically, this Act included the $1,200 stimulus checks, the extra $600 per week to unemployment benefits, the Paycheck Protection Program, and the Economic Injury Disaster Loan Program.
Across the pond, governments reached agreements of nearly $1T Euro including both grants and loans to be distributed among countries and sectors most impacted by COVID-19. Further, there is a proposed plan to end new debt issuance by 2026 and repay all new debt by 2058. Also, these governments want to be climate neutral by 2050 and are committing 30% of their budgets to climate concerns.
How does the US stimulus compare on the global stage? The direct checks of $1,200 sent in the spring of 2020 and the $600 being sent in January 2021 are higher than other countries, but the overall fiscal stimulus plans are smaller, according to Bruegel, a think tank. The US fiscal stimulus is approximately 18% of GDP, compared to that of Japan (21%), Canada (16%), Brazil (12%), and China (7%), according to Statista. It is also important to note that the debt levels of these countries as a percentage of GDP are also much lower than that of the US. The US debt level as a percentage of GDP ballooned in 2009-2012, rising from nearly 68% in 2008, to 91% in 2010, to 100% in 2012. The 2020 debt ratio will be skewed substantially higher due to the wild swings in GDP and the enormous stimulus plans.
Volatility is here to stay. The long-term average VIX (volatility index) value is 22 (the higher the number, the more volatility) and most often the value is 12. In 2020, the trading range has been 85 – 12. Since April 2009, the VIX had not traded at 50 or above until COVID, which drove the VIX to trade near 85 in March. We expect more volatility as we move through the re-opening of the global economies and the new administration. The agenda thus far includes more stimulus, more unemployment benefits, aid to state and local governments, higher individual and corporate taxes, high capital gains taxes and addressing climate change to name a few items. This too will bring volatility to the markets.
Therapies and Vaccines R&D to Lead to Discoveries. Several major companies are delivering their vaccines across the globe, which is a positive from a long-term perspective. The full throttle effort by universities, governments, and companies across the globe, in our view, fueled discoveries that have been sidelined to focus on the near-term needs of the pandemic. However, we believe there has been so much research and progress that there is likely to be some very important unintended discoveries from the research that has already taken place. Are we one-step closer to finding a cure for diabetes? Or customizing health care to the individual based upon what we will know about DNA sequencing? It will take time to play out, but the seeds are planted, and the results are germinating. We believe the next few years could be quite robust for the research and development companies and the potential new specialty drugs coming into the marketplace.
5G begins to take hold. The 5G large trend is progressing. Many companies talk about what they are doing in 5G and specific geographies throughout the US are being wired for 5G, but the technology has a long way to go to fully implement the productivity improvements across a plethora of industries. It will take several years for 5G to be rolled out with enough magnitude to make its mark in multiple sectors of the global economy, and it will be worth the wait.
Capital Management Strategies to Resume. Last year many companies cut their dividends and suspended share buybacks to fortify their balance sheets and preserve capital. In 2021, financial services companies should be repurchasing shares as the positive stress test results in the fourth quarter will allow many companies to repurchase shares once again. After COVID-19 forced sabbaticals from some of the capital management tools, both buybacks and dividends are poised for a comeback. Companies in the S&P 500 Index are positioned to pay more than $530B in dividends in 2021 up from approximately $500b in 2020. This past year was better than originally forecast once COVID-19 lockdowns were in place with 42 companies suspending dividends and 26 companies cutting their dividends, according the S&P. In late December, the news came that banks can, once again, execute buybacks and dividends given the results of the stress tests. JP Morgan was ready in the wings with their announcement of a $30 billion buyback program which hit the tape within minutes of the stress tests results. This year in not likely to be a record year for buybacks and dividends as there is still uncertainty with respect to how quickly the global economies will recover but it will increase for certain sectors.
Keep in mind the plethora of SPAC IPOS which raised more than $80B in 2020. These companies have a relatively narrow window opening in which to execute their strategies or risk returning the funds to investors. Some of the SPACs had deals lined up as they went public and executed quickly while others are still looking and negotiating. There were more than 200 blank-check companies created in 2020. Last year, approximately 160 companies went public, most through the traditional initial public offerings channels but a few went direct to market. Late last year the SEC approved direct listings which means companies and investors can sell directly to the public. The direct listing approach has, thus far, not sold new shares nor raised additional funds as occurs in the more traditional initial public offering process, but it is an option.
Long-term Themes
• 5G
• Healthcare
• Infrastructure
• Green Strategies such as sustainability, carbon neutrality, alternative energy, climate friendly
The consensus projections are for US GDP growth of 5% in 2021, which would be the best year since 1984. S&P 500 earnings are forecasted to grow $168-$170 per share, up modestly from 2019 at $169 and well ahead of 2020 $138 per share. Based upon the GDP forecast, and the robust stimulus packages that are still forthcoming, there a risk that the consensus earnings projections for the S&P too low.
As you know, we regularly post market commentary, and it is important to remember that these are short-term views as we customize respective asset allocations to the individual’s time horizon and risk characteristics. We thank you for your continued faith and trust in us. Stay safe. Stay healthy.
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