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Vaccine Shot to Provide Tailwind for Equities
2020 closes on an optimistic note as countries around the world begin to administer COVID-19 vaccines. The vaccine-development timelines have been nothing short of extraordinary, as multiple companies were able to develop a vaccine, run trials, receive regulatory approval and begin distribution, all within a year’s timeframe. We expect rapid vaccination in the first half of the year, setting the stage for a vigorous growth recovery to take hold in 2021. The beaten-down services sector should be the principal beneficiary of this return to normal as the in-person economy roars back to life in the post-pandemic world.
The Policy Pipeline Will Keep Flowing
In response to the pandemic, 2020 saw unprecedented fiscal and monetary actions globally. Global central banks launched multiple initiatives: axing interest rates, developing new policy tools and boosting asset purchases. In parallel, fiscal authorities aggressively supported their domestic economies. The combined fiscal and monetary support proved crucial to global economies and financial markets.
As we move into 2021, these levers of support will remain in place, and in some instances, expanded upon. In the U.S., for example, we expect further financial support from the federal government, with additional stimulus of nearly $1 trillion (5% of GDP); in Canada, further federal stimulus worth 6% of GDP has been passed. While we expect the global economy to recover from its recessionary levels of 2020, we anticipate central banks across the world remaining accommodative for the coming year and beyond. With unemployment still elevated, economic growth potentially being uneven and inflation muted (albeit moving higher), central banks will likely keep accommodation in place to allow for economic growth to take full hold. Despite interest rates remaining at or near their lower bound, central banks still have tools available to further accommodate the recovery.
Equity Outlook: Macro risks ease and earnings improve
We continue to have a favorable medium-term view on equities due to our expectations for a vaccine-driven economic recovery and revitalized global corporate earnings in 2021. While earnings in the U.S. were negative throughout 2020, momentum turned sharply positive in the third quarter as a record high percentage of S&P 500 companies reported earnings above expectations.
The fourth quarter of 2020 saw a recovery in Value stocks and Small-Caps, which had lagged their Growth and Large-Cap counterparts significantly over the past several years. Despite this short-term reversal, we recognize that long-term secular trends are at work here and we remain relatively neutral on Value versus Growth, but we overweighted Small-Caps versus Low-Vol stocks as a reflation play.
U.S. Outlook: Growth leadership to continue
We expect the U.S. economy and financial markets to perform well on the fiscal, monetary and vaccine developments discussed above. In past expansions, headwinds often built up as the Fed lifted interest rates to head off inflation pressures. In August 2020, however, the Fed announced a new “average inflation targeting” approach that not only backs away from pre-emptive tightening to contain inflation pressures but actually permits inflation to be above target “for some time.” This policy could play a prominent role in 2021 and beyond as an accommodative Fed provides support to risk assets. For now, the question of whether equity market valuations are “too high” is front and center. It’s important to understand that comparing PE ratios across time excludes many important variables — growth, interest rates, inflation, risk appetite and structural shifts in the market that may have occurred. Our long-term valuation modeling, which includes these considerations, indicates that equities are reasonably priced at current levels.
Outlook for Energy Prices: Illusive long-term recovery facing green wave
Despite some recovery following vaccine announcements, oil prices remain one of the worst performing assets this year, down about 25% as demand collapsed while inventories swelled. COVID-induced lockdowns have been a major headwind, but the world was already in excess supply of oil and OPEC+ countries were rationing crude supply to keep prices from falling further. As life and economic activity normalizes into 2022, oil demand should rebound, but at a slower pace than the broader pace of the economy. This will likely leave demand to fully recover only by 2022 or later.
