Clean up — Week of March 29, 2021
Written by Steve Orr, Chief Investment Officer, and Greg Kalb, Investment Advisor
|Index||Wtd||ytd||1 year||3 years||5 years||index level|
|S&P 500 Index||1.58||6.19||63.31||16.51||16.55||3,974.54|
|Dow Jones Industrial Average||1.36||8.58||59.40||13.54||16.24||33,072.88|
|Russell 2000 Small Cap||-2.88||12.70||102.49||14.39||17.07||2,221.48|
|MSCI Europe, Australasia & Far East||-1.62||2.71||58.56||12.06||13.88||2,194.08|
|MSCI Emerging Markets||-3.58||0.02||48.44||6.68||9.69||1,288.42|
|Barclays U.S. Aggregate Bond Index||0.50||-3.13||57.82||5.75||12.67||2,317.08|
|Merrill Lynch Intermediate Municipal||0.30||-0.48||2.39||4.93||3.28||315.61|
As of market close March 26, 2021. Returns in percent.
Can the world catch a break? Just as economies start to reopen, Europe and the Suez Canal go into lockdown. The photo of one guy in his excavator next to the giant Ever Given has spawned endless internet jokes. We think he should get an “A” for effort.
We have consistently beaten the Recovery drum since last summer. And we have cautioned readers that it would not be a smooth climb out of last April’s depression. Privately we wished for a blowout fourth quarter and first half of this year. While it hasn’t been a blowout, we have gotten great growth and a solid recovery. Last week’s third estimate of fourth-quarter GDP notched the official growth in the economy another two-tenths higher to 4.3%. After two rounds of stimulus checks and subtracting ten or so days of activity for Winter Storm Uri, this quarter’s growth looks close to 5%. Just as stocks reached new highs, it is time for the economy to catch up.
This week closes the first quarter and the report card so far is pretty good. Major stock markets have experienced a “V” recovery. A short list of things that are above pre-pandemic levels: global stocks, commodities, the U.S. dollar. Flat: U.S. GDP. Lower: interest rates, inflation (for the moment). If this quarter’s growth estimate of 5% is on the mark, and growth accelerates in the second half of this year, then we can confidently move GDP into the “higher” group and see the economy complete its “V” recovery.
There is always more action under the surface than meets the eye. The “up leg” of stocks’ “V” was led over the last nine months by work-from-home and mega tech themes: Netflix, Amazon, et al. The sectors that may ride the economic “V” recovery are the value-oriented areas: materials, industrials and financials. The tech-heavy NASDAQ has moved lower five of the last six weeks and sits about 8% below its February record. Most of the decline was confined to late February and the first few days of March. Since then, the index has mostly drifted sideways, making a new range. The rotation from growth mega-tech to value began in earnest this quarter and likely has room to run. This does not mean that we are shunning tech — far from it. One of the principal themes of growth stocks is that they can grow earnings in any weather, good or bad. Trader attention has focused on financials, health care and industrials. The S&P industrial sector rose over 9% and financials are 14% higher this quarter while tech is flat.
Well, that is the question. A lot of market participants are still arguing about the starting line. Ours is the only business we know of where there are just as many arguments about what actually happened as what could happen. What happened is that stocks bottomed on March 9, 2009, amidst the Global Credit Crisis. From that point we have had numerous 5%, 10% and greater corrections. March 23, 2020, stocks bottomed after falling over 30% in 33 days. Was this the start of a new long-term Bull market or just another bull cycle in the long-term Bull that started in 2009? For our clients, we care more about the second year of the current rally that began last Wednesday the 24th. History tells us that the last 12 months were the third-best start to a cyclical Bull market since 1900. Certainly, extremes were hit in interest rates (0.5% 10-year rate), price-to-earnings (P/E) ratios (41x!), and money supply growth (27.1%).
The good news is that earnings generally rise enough to lower P/E ratios down to reasonable levels, calming nerves. The other half of the P/E ratio, prices, tends to be positive, but not double-digit gains for the year. We are sticking with our high single-digit forecast for the year but realize this quarter’s 4.7% return for the S&P 500 puts that forecast about halfway home. Which brings us to the bumpy news. Most quarters, regardless of the economic backdrop, have at least a couple of 5% corrections. Ned Davis Research reports that post-recession Bull markets have higher volatility in year two. History often rhymes, so we anticipate there may be bumps down the road as the economy improves this year.
February’s Uri effects will be felt for a long time. For the economy, much of the headline activity will see a bounce back in March and April numbers. For example, new and existing home sales, durable goods shipments and personal consumption all declined in February but will report sharply higher in the coming weeks. With a new month this week, jobs Friday looms large. Recent jobless claims are usually a good indicator of trend in the employment report. Recall that the non-farm payroll estimates are taken from surveys of businesses during the week of the 15th of the month. That was spring break week for much of the country, so service and leisure businesses should have reported more activity and hiring. Reuters polling has the analyst average at 655,000 net new jobs, a nice springboard to re-opening. If the jobs tally is significantly above estimates, expect stocks to do very well the following Monday, as markets are closed for Good Friday.
Through Wednesday the U.S. Treasury said it had issued about 37 million coronavirus aid checks worth $83 billion in the first batch of payments. The chatter in D.C. is that infrastructure is something both parties can agree (spend) on — but likely not combined with full-tilt Green New Deal programs. So far, the price tag being tossed around for highway, bridge and electric charging stations is another $1 trillion. More coming ...
Unfortunately, we wonder if more virus cases are coming. The U.S. current case count has been basically flat since March 12th. This is on the heels of more than two weeks of vaccination rates at over 2.4 million per day. The death counts continue to decline, but at a less rapid rate. Logic tells us that with more folks out and about there may be some spread due to contact. We do expect cases to start declining again in the coming weeks. Here in Texas, cases, deaths and hospitalizations continue to decline.
The first quarter of 2021 will mark the rotation from tech growth to economic growth. Value handily outperformed growth for the first time since a two-month stretch in 2009. Long-term interest rates rose nearly three-quarters of a percent and crude oil rose 25%. We think both are set to move higher.
The current “wall of worry” includes the canal bottleneck and supply chain strains, European lockdowns and global vaccine distribution. Thankfully, all are solvable.
Steve Orr is the Executive Vice President and Chief Investment Officer for Texas Capital Bank Private Wealth Advisors. He holds a Bachelor of Arts in Economics from The University of Texas at Austin, a Master of Business Administration in Finance from Texas State University, and a Juris Doctor in Securities from St. Mary's University School of Law. Follow him on Twitter here. Greg Kalb is an Investment Advisor at Texas Capital Bank Private Wealth Advisors. He holds a Bachelor of Arts from The University of Texas at Austin.
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