As we we enter into the fall of 2020, it warrants reflecting back on the first 8 months this year. We began the year with an optimistic outlook for most of the global economies, albeit cautious with global economic growth slowing and stock markets being near fully valued. In general, we were nearing the peak of economic expansion and indicators were predicting that we were entering a mild recession. This was normal and it was expected that central banks would lower interest rates and governments would increase spending. In the first quarter, COVID 19 began to surge across the globe and panic set in. Stock markets overreacted initially and then bounced back. Interest rates were reduced to almost zero in most developed countries, Central banks stepped in to support the financial systems, governments provided unprecedented stimulus and liquidity to shore up their economies. We experienced record unemployment when the virus forced a widespread pause in economic activity.
From late March, we began to see the market indexes correct upwards. This was more in anticipation than fact as earnings growth was still suspect. A few tech stocks skewed the gains on the index. Economic growth has begun to emerge with limited openings of our economies. Central Banks and governments have made it very clear that they will do whatever is necessary to continue to support their economic growth. I expect there may be a slowdown of reopening if the virus spread reaccelerates, but the economic affect will be offset with more stimulus. The old saying. “You can’t fight the Fed” is so true given their seemingly unlimited resources.
So here we are now in the fall of 2020. September and October are typically two of the most volatile months in the year. I expect this to hold true again this year for a number of reasons being: (1) uncertainty of when a vaccine will be found, (2) risk of COVID spread reaccelerating with re opening of economies and schools, (3) onset of annual flu season which could increase spread of COVID, and (4) election in the US in November. These can simply be summed up as “Risk of the Unknown” which markets do not like. The stock markets will trade up off of the current levels given the good news or down on bad news that we will encounter over the fall. The fixed income markets should provide stable cash flow and will most likely not experience anywhere near the volatility. The unlimited bond buying programs by the government have established a floor for this asset class. Real Estate will be supported by low interest rates and government support programs but this stimulus may be offset by higher rates of unemployment and the general slow economic slowdown. In summary, I do expect the stock markets to range trade over the fall until the economy can absorb the resolution of these uncertainties. As I noted previously, I do expect the valuations and thus the stock market indexes to grind their way up over the next 12-18 months, but with short term volatility along that path.
I have had a number of questions on the US elections and how this will affect the stock markets. In the past the markets have performed the best when the incumbent wins a second term (Trump) but on average over the next 4 years, markets have performed equally well with either Republican or Democratic Presidents. Elections are fixed cycles and while economies move through their own economic cycles, they are never on the same timeline so administrative policies of incoming or outgoing Presidents traditionally have minimal effect on the overall economy. The general belief is that the unregulated Republican stewardship is better for the markets is actually untrue. Since 1945, the stock market has returned 14.5% under the Democrats and 10.6% under the Republicans. This is mostly due to the Dot Com bubble burst and the Financial Crisis occurring under Republican administrations.
As we proceed through the month ahead awaiting the development and deployment of a vaccine, we will continue to experience market volatility, however the general trend should be a recovery of global economic conditions, an increase in inflation and gradual rising of interest rates over time. I expect the short end of the interest rate curve to stay low for some time but we should see the long-term rates begin to rise to reflect the longer term anticipated growth of global economies. Government will be taxed with finding avenues to pay the enormous debts they have incurred. This will come in some form of taxation as taxation is their only source of revenue. Fortunately, due to lower for longer interest rates, debt service costs will be a reasonable % of their annual budget.
To summarize: Expect short term market volatility in the short term. This provides buying opportunities in the markets. Focus on the longer term (12-18) months as markets should grind their way back as economies begin to open up. Corporate earnings will expand and support current stock valuations. Central banks and Governments will continue to shore up economies as and where needed. They will worry about the debt levels later. The US election will likely affect the markets short term. Most policies proposed on the campaign trail never get implemented. Longer term, economies function independent of politics and most policies have minimal affect in the long term. There is no crystal ball which is why the best investment strategy is remain disciplined, remain diversified, focus on quality investments and investment funds. These strategies significantly reduce the short term frustration of short term market volatility which cannot be avoided.
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Trevor – Investment Advisor
Dave – Associate Advisor