Global markets rallied an impressive 8% in the last three months of 2020 into a headwind of sterling appreciation, and notching up an overall gain for the year of 13% (MSCI World). The Santa rally in the lead up to Christmas duly arrived this year to soothe frayed nerves after a rollercoaster for much of 2020, particularly after the severe drop in markets in March when coronavirus swept around the world and the rebound over the summer and autumn.
After a stellar performance from the US and China earlier in the year, the standout performers over the last quarter have been Japan, the UK and Asian emerging markets.
Japan’s Nikkei index now stands at a 29-year high following the long awaited US pandemic relief package worth $900bn and the UK market has been buoyed by the Brexit trade agreement increasing investors’ risk appetite. Emerging markets have jumped on US dollar weakness which has characterised recent weeks of trading. Dollar weakness is a sign that markets expect Covid-19 to be conquered by the rollout of vaccines enabling the global economy to get back to ‘normal’, as well as a more accommodative trade policy by Joe Biden’s presidency; this would in turn lead investors away from the perceived safety of US assets and into stocks, bonds and currencies elsewhere in the world.
The economic recovery for 2021 and beyond hinges on the success of the mass vaccination programmes which are now underway around the world. In addition to vaccines developed in China and Russia, the vaccines from Pfizer/BioNTech, Oxford/AstraZeneca and Moderna have been approved for distribution around the world next year. It goes without saying that if there are delays or problems with the global vaccination programme, it will inevitably impact markets and this is the greatest single risk facing investors in 2021.
Governments and central banks have continued to provide an exceptional level of support to the global economy and investment markets. During the last 3 months, most significant is the US stimulus package at $900bn, which is on top of $1.4tn to finance government programmes until next September. This US package includes $600-$2,000 benefit payments for individuals in the US, as well as an extension to tax incentives for solar and wind power. There is also a research and development fund for energy research: carbon capture, batteries, as well as wind, solar and nuclear research.
The European Central Bank has agreed an EU Recovery fund of €750bn and the UK Bank of England has recently injected another £150bn to bring its Quantitative Easing (QE) programme up to £895bn. It is important to note that the UK’s QE programme was just £200bn in 2009 when the banks required a bail-out, such is the extent of the economic crisis with coronavirus.
This huge level of support by central banks has given markets stability, but also inflated asset prices with abundant liquidity. Part of the stimulus is QE, which is governments buying their own bonds – this has had the effect of suppressing interest rates, keeping interest rates at historically low levels close to zero.
Interest rates at such low levels whilst penalising savers have contributed to rising asset prices as investors seek a return on their money not available on cash deposits.
The oil price has recovered to around $50 per barrel from a low of $20 in April. This trend may continue as demand is expected to rise by 6m barrels per day in 2021 as economic growth picks up to approx. 97m barrels per day. This remains below the 2019 peak of 100m barrels per day, but jet travel accounts for about 2.5m barrels per day of this reduction, which is not expected to recover for another couple of years.
US Presidential Elections
Joe Biden’s victory in the US Presidential elections has been broadly welcomed by markets, ending the uncertainty of the election outcome, particularly after President Trump’s efforts to challenge the results. The President-elect is seen as more predictable than Mr Trump and less antagonistic in respect of foreign affairs. Mr Biden’s more internationalist and open approach has been welcomed by investors, as well as his enthusiasm for supporting green energy projects. Whilst the Democrats have some policies which are seen as unfriendly towards markets, such as higher taxes and regulation, the Republicans currently have control of the Senate, which should act as a check on the new President’s power.
Indeed, the two run-off elections in Georgia for the Senate on 5 January are key to the future of US politics. This is because if the Democrats win both these elections, they will control the Senate as well as the Presidency with the Vice President’s casting vote. This could potentially cause some volatility in markets early in the New Year.
Brexit Trade Deal
On Christmas Eve, the Brexit trade deal was agreed between the EU and UK government, ending four years of potential uncertainty in respect of the shape of the future relationship. Markets greeted the deal with both relief and renewed optimism for the future. Whilst the Office of Budget Responsibility (OBR) forecasts that Brexit with the trade deal will have a negative effect on future UK GDP growth, it nevertheless is 2% better than leaving the EU without a deal, reducing the impact from 6% to 4% over time. The challenge for 2021 will be for the UK government to gain a deal with the EU in respect of financial services which is key to the success of the UK economy and largely excluded from the current trade deal.
Many commentators have drawn parallels between the 1920s and 2020s. After the First World War, the Spanish flu killed about 50 million people in several waves dwarfing Covid-19 at this stage at under 2 million deaths. After the horrors of war and Spanish flu, the 1920s was a period of huge optimism and good times with the Charleston, jazz and new trends in fashion and social change. There was a big rise in consumption following significant technical innovation, most notably the car, radio broadcasts, the first liquid fuelled rocket and antibiotics, as well as domestic appliances, sunglasses and cheeseburgers!
There is an expectation that as lockdown restrictions are lifted in 2021, again the world will see a period of optimism and hedonism, accompanied by technological innovations. Areas of particular interest include robotics and 3D-printing, energy storage (batteries and fuel cells), cloud computing and artificial intelligence to analyse big data, blockchain technology for secure online trade, as well as DNA sequencing and therapies to revolutionalise medical science.
Of course, the 1920s ended with the Wall Street Crash of 1929 following an unstable boom and irrational exuberance. Governments and central banks will need to be alert to the risks in the coming years as the world economy needs to be weaned off the huge stimulus packages which have characterised the last 12 years, as well as the socialisation of credit risk and unprecedented levels of debt. Longer term stability requires a return to free-market economics of competition, fiscal prudence and old-fashioned risk management.
At this stage, 2021 should deliver further attractive returns for investors. This is based on the belief that the Covid-19 vaccine programme will be a success around the world and ‘normality’ will return allowing the economy to function again. The good news is that despite a worsening picture in the short-term of new cases in much of Europe and the US with the tightening of restrictions and new strains of coronavirus found in the UK and South Africa, the World Health Organisation says that although the new strains are more infectious, it is likely the vaccines will be effective against them.
A key assumption is also that governments and central banks remain supportive until the private sector is once again back on its feet. Part of this is for short-term interest rates to remain low with inflation kept under control, but longer term interest rates allowed to tick up modestly so as to reward equity investors and cement the growth cycle. JP Morgan expects a further $5tn central bank balance sheet expansion in 2021 after $8tn in 2020, which should lift asset prices further.
In the US, the world’s largest equity market, the S&P500 consensus earnings forecast is for a rebound of 21.7% in 2021 after a fall of 13.8% in 2020. Whilst analysts tend to be too optimistic about future earnings at this stage of the year, it is nevertheless indicative of an encouraging picture heading into the New Year.
In respect of markets, a global recovery should see a continuation of pressure on the US dollar as investors seek higher returns outside the US; Asian and some emerging markets should continue to perform and make progress, as well as more economically sensitive stocks and smaller companies with a broadening market rally.
Technology companies are likely to continue growing strongly as the digital revolution continues, supported by continuing low interest rates validating premium valuations. Regulatory clampdowns on large technology companies in both the US and China are likely to attract headlines, but unlikely to de-rail the position that companies such as Facebook and Alibaba (e-commerce giant in China, akin to Amazon) have in their chosen markets.
Finally, both continental Europe and the UK may surprise to the upside. Whilst Brexit has undoubtedly exacted a high price on the UK in respect of politics, social division and economic uncertainty, valuations of many UK companies are now attractive in comparison with global peers. I expect that opportunities will present themselves, particularly if sterling strength persists discouraging overseas investment. The euro is likely to remain strong too and there are a wide range of potential investments, particularly in Germany and Nordic countries which offer the potential for growth as the global economy recovers.
Please note, our Market Overview & Outlook is our view of markets and does not constitute investment advice. Past performance is not necessarily an indication of future returns; the value of investments and any income from them is not guaranteed and can fall as well as rise. Overseas investments are affected by currency movements and exchange rates. If you would like investment advice on your individual circumstances, please do not hesitate to get in touch, telephone 01392 875500, info@clients@SeabrookClark.co.uk