Shares up, cost of money down, how is Findex investing into 2021?
9 December 2020
Although it is still early days and many hurdles need to be overcome, encouraging developments on the COVID-19 vaccine front are potentially game changing for international economies and have allowed the Findex Investment Committee to have greater confidence the current crisis will prove temporary.
BlackRock is the world's largest asset manager ($7.8 trillion in assets as at September 2020). In a note dated 23 November 2020, they said:
“An accelerated restart to the economy in 2021 and structural growth trends already in place will spur a continued rise in US stocks”
“Investors should look through any near-term volatility caused by rising daily COVID-19 cases as the distribution of COVID-19 vaccines is just months away”
"We upgrade US equities to overweight, with a preference for quality large caps riding structural growth trends, as well as smaller companies geared to a potential cyclical upswing"
These comments provide an insight into one of the world’s most successful investment managers and are very much aligned to the views of Findex.
The passing of the US election “event risk” has already prompted a significant rally in equities, while volatility has started to moderate – both typical outcomes after a US election.
Global equity fund flows have improved after US elections historically
Global equity fund flows as a % of assets under management
Source: Goldman Sachs Global Investment Research
The Democrats underperformed in the voting for the US Senate and we now expect a reduction in the size of potential Government stimulus initiatives. But this also means taxes are unlikely to rise in the near term. In terms of investors, the market environment is dominated by low interest rates, a hunt for income returns and the search for businesses to invest in that can grow their earnings.
2020 saw the dramatic collapse of sharemarkets followed by an unexpected recovery. Interest rates and the cost of money fell to record lows.
S&P/ASX 200 for 2020
RBA cash rate target since 1990
Source: Reserve Bank of Australia (RBA)
We see the volatility and bearishness of the 2020 sharemarket as being ‘event-driven’, with the collapse and recovery faster than is typically expected, when markets sell off due to asset bubbles or other market imbalances. This volatility has still brought significant economic shock. Extraordinary monetary easing through cuts to interest rates and Government fiscal support packages have introduced a stabilising regime of economic initiatives by central banks and governments intent on doing whatever it takes to protect, restore and maintain market confidence and ongoing economic viability.
From a market perspective, the crucial issue now the US election is out of the way, is what will happen to economic growth? This is now increasingly dependent on a COVID-19 vaccine.
If the Food and Drug Administration (FDA) grants emergency authorisation to at least one vaccine by January, and mass vaccination of the general population starts shortly thereafter, this should boost global growth, and confidence in an economic rebound is likely to rise again. This would provide a broadly positive backdrop for global equity markets. We have seen a sense of this with the positive news on the Pfizer and Moderna vaccine tests in just the past weeks.
Asset allocation and market return forecasts
Based on the current economic environment and the future economic backdrop, our global asset consultants SSGA have undertaken a review of their asset class forecasts. As most readers would expect, the outlook in terms of returns has fallen across most asset classes, with the COVID-19 pandemic forcing governments to undertake interest rate cuts and significant economic stimulus to try to turn global economies around.
Below are the revised forecasts presented by SSGA and approved for use by Findex:
Asset allocation views and guidance
Whilst forecasts have been revised down, over the next three to five years both our analysis and SSGA’s still support an allocation to equities. Asset price momentum has turned supportive in the current financial quarter and earnings growth has demonstrated some signs of improvement. From the perspective of investor behaviour, market flows reflect a “risk-on” environment.
Over the long-term we expect an uneven economic recovery to play out, tied to a variable COVID-19 experience globally. Management of the virus remains a crucial milestone in the journey to recovery and announcement of an effective vaccine has certainly been a positive development in this space. Monetary and fiscal policy support from central banks and governments globally has been strong and aims to bridge the recovery gap.
Our outlook remains relatively positive on growth assets, particularly equities. Long-term asset valuations are marginally supportive of equities relative to bonds. While interest rates are close to zero (or in some cases negative), we will likely have this overriding disincentive to bond investing.
Concerns leading up to the US election centred around markets that were rising on the potential of a COVID-19 vaccine and restrictions lifting while global economies were stalling. We have to look through the noise and focus on probabilities and realistic expectations. While media outlets for example continue to focus on President Trump resisting what seems inevitable, the harsh reality is global governments need to synchronise significant stimulus and monetary programs, infrastructure spending and job creation while rebuilding consumer confidence and spending.
Whilst it may seem there is a disconnect between market behaviour and economic outlooks, here are three reasons for optimism.
A moderate improvement in corporate profits. While it is likely to be an uneven economic recovery, huge amounts of stimulus and improvement in consumer activity should see improvement in corporate balance sheets.
Vaccine progress continues to make headway with several companies working with government support to deliver a vaccine in early 2021. A successful vaccine would also be a massive boost to consumer and economic activity.
Government stimulus packages and support have been at higher levels than the GFC and delivered in a quicker fashion. Global leaders have been outspoken in terms of their wish to leave rates at close to zero for two to three years.
We continue to re-balance client portfolios, as well as diversify and maintain realistic expectations. There is always the urge to take on more risk when interest rates are at or near zero. Whilst asset growth will be supported through low rates and Government stimulus, one eye must also keep track of asset valuations and potential asset bubbles.