Stairway To Heaven - Week of December 14, 2020
Chart of the Week: Looking at the various economic data provides proof that Led Zeppelin was onto something when they sang “there are two paths you can go by.” When it was released with little fanfare last week, the 3Q net worth of U.S. households climbed the “Stairway to Heaven” and reached a record high of almost $124 trillion. While the U.S. remains in recession and COVID continues to spread, surging stock and home prices indicate that 4Q net worth is almost certain to again reach new highs despite cooling economic growth (see chart, panel 1). Meanwhile our U.S. Reopening Monitor fell to its lowest level since May reflecting the increased pressure of infections on economic growth. This pandemic-induced recession has clearly been different than a “normal” recession with overall retail sales also already hitting new highs. November retail sales which will be released Wednesday could register a month-over-month decline. Lower gas prices, less auto sales, earlier holiday shopping and increased infections are likely to weigh on spending. The more difficult path has been trodden by in-person services like dining where sales are still significantly below pre-pandemic levels and not likely to improve in November’s release (see panel 2). While the unemployment rate has been falling, job growth looks to be stalling even though only about 55% of the jobs lost during the pandemic have been recovered (see panel 3). “But in the long run, there’s still time to change the road you’re on” with the imminent approval of a second vaccine and a possible year-end fiscal stimulus package helping bridge the gap for those on a more difficult path due to COVID’s economic destruction. Markets are forward-looking and discounting a post-pandemic economic and earnings recovery, so many stocks are not as expensive as they seem on the surface. That said, elevated investor sentiment does provide a reason for short-term caution though.
Week in Preview
· Geopolitical: Another in a long line of deadlines for the Brexit trade negotiations between the European Union (E.U.) and U.K. has come and gone but the calendar is conspiring to bring it to a close soon with a narrow trade deal the most likely outcome. OPEC releases their oil market report on Monday. Increased restrictions continue in many parts of the globe to combat the resurgence in COVID infections, and the impact on economic activity will be closely monitored but revisiting the economic collapse of wholesale lockdowns during Lockdown 2.0 remains unlikely. The Pfizer/BioNTech vaccine for COVID-19 received emergency authorization by the U.S. Food and Drug Administration (FDA) last week and Moderna’s version of the vaccine will be reviewed Thursday. Global December PMI data for the large, developed economies is released this week with manufacturing staying above the growth-level of 50 in most cases and continuing the general theme of slowing economic momentum. The PMI services component is being hit harder by the impact of rising infections.
· U.S.: Focus will remain on the FDA’s next vaccine approval, vaccine distribution and a possible fiscal stimulus deal before year-end. The Federal Reserve (Fed) meets for the last time this year and is widely expected to keep policy rates unchanged but could extend asset purchases and provide more forward guidance. December manufacturing PMI is expected to decline to 55.8 from 56.7 while services fall to 56.0 from 58.4. The Atlanta and New York Fed’s estimate of 4Q GDP growth remained at 11.2% and 2.5%, respectively. Readings for our U.S. Reopening Monitor declined to the lowest level since May with tightening restrictions under Lockdown 2.0 as COVID cases and deaths rose. Underlying high frequency economic data showed only mobility improving while consumer sentiment, jobs, retail sales, airline travel, dining and public transit showed softening.
· S&P 500 3Q Earnings: 7 S&P 500 companies are scheduled to report earnings with FedEx (FDX) and Nike (NKE) the most noteworthy. 4Q 2020 earnings and sales estimates are now -9.9% and 0.1% Y/Y, respectively. 2020 calendar year earnings are expected to be -13.7% Y/Y, while sales are -1.8%. A strong rebound is forecast for 2021 with earning 21.9% and sales 7.9% Y/Y. Consensus earnings estimates for 2020 and 2021 increased last week.
· Europe: The rate of growth in Eurozone COVID cases continued to retreat. Restrictions across much of the globe continue to impact dining with a -56% decline from the global baseline. France, Italy and Spain saw a decline in the weekly infection pace, while Germany saw an uptick and is poised to implement further lockdowns on Wednesday. Forecasts of Eurozone November PMI for manufacturing and services see a move to 53.0 and 41.9 from 53.8 and 41.7, respectively. The U.K. pace of infections ticked a bit higher, while U.K. dining fell to -36.2% Y/Y versus baseline. The U.K. November manufacturing PMI should rise to 55.9 from 55.6 while services rebounds to 50.5 from 47.6. The Bank of England (BoE) is likely to stand pat and keep their powder dry in case further easing is needed with a no deal Brexit. Please see our U.S. Reopening Monitor for international COVID charts.
The increase in cases and restrictions are weighing on dining across the globe.
· Asia: November China industrial production is expected to improve to 7.7% from 6.9% Y/Y, while retail sales rises to 5.0% from 4.3% Y/Y. The weekly pace of COVID infections in Japan rose to a new all-time high. Japan 4Q Tankan index and outlook readings remained negative across the board but showed relative improvements. November exports from Japan should improve to 0.6% from -0.2% Y/Y, while imports rise to -9.0% from -13.3% Y/Y. The Bank of Japan (BoJ) should keep monetary policy rates unchanged but an extension of corporate funding in response to pandemic strains is likely.
· Central Banks: In addition to the Fed, BoE and BoJ, the central banks of Kazakhstan, Uganda, Hungary, Mozambique, Taiwan, Indonesia, the Philippines, Switzerland, Norway, Czech Republic, Mexico, Russia and Colombia are scheduled to meet with no major banks expected to change their policy rate.
Week in Review
· Stocks fell by -1.0% for the S&P 500 with only two of eleven sectors higher for the week. Energy (1.1%), communication services (0.1%) and consumer staples (-0.3%) outperformed the S&P 500, while real estate (-2.9%), financials (-1.8%) and technology (-1.4%) were the biggest laggards. WTI (0.7%) and Brent (1.5%) oil were higher with MLPs (-0.7%) and the energy sector (1.1%) outperforming.
· Large cap value as measured by the Russell 1000 Value outperformed at -0.7%. Banks underperformed with the Invesco KBW Bank ETF (KBWB) lower by -1.3%. High dividend strategies performed in line with the S&P 500 with the iShares Select Dividend ETF (DVY) falling -1.0%. Momentum outperformed with the iShares MSCI Momentum ETF (MTUM) by softening by -0.2% for the week. Small-cap stocks outperformed relative to the S&P 500 with the Russell 2000 higher by 1.0% but small-cap value stocks underperforming at -0.1%. The 10-year and 30-year U.S. Treasury yields were lower at 0.9% and 1.63%, respectively.
· High yield credit spreads widened reflecting decreased risk appetite. AAA municipal bond yields as a percentage of Treasuries rose, causing municipal bonds to underperform. The negative revenue impacts of the economic lockdown on local governments and talk of state bankruptcy have driven municipal bond valuations to low levels relative to Treasuries. Between the strong 3Q economic rebound and Federal support so far, states declaring bankruptcy remains an unlikely outcome. Additional support for the states is likely to come in any future stimulus bills, but one of the sticking points to a new deal is the size and distribution of Federal government aid.
· The U.S. dollar was stronger against developed currencies but weaker against emerging market currencies. Developed international stocks as measured by MSCI EAFE outperformed the S&P 500 returns in U.S. dollar terms (-0.5%) and on a hedged-currency basis (-0.3%). MSCI Japan outperformed the S&P 500 returns in U.S. dollar terms (0.5%) and on a hedged-currency basis (0.3%). Emerging market stocks outperformed the S&P 500 with a non-hedged return of 0.5% for MSCI EM.
· The 10-2 yield curve narrowed to +77 basis points. Another curve measure of three-month yield six quarters forward minus the current three-month yield decreased to +9 basis points. The yield curve has historically provided an accurate forecast of future recessions when the difference in these measures turns negative, also known as inversion. Yield curves are one of the major indicators that we monitor to judge recession risk, but these inversions typically happen more than a year in advance of an economic recession. External shocks like the current coronavirus-induced recession might not be accompanied by inversion. Stocks have historically had significant advances post-inversion.
Our detailed analysis of Berkshire Hathaway's investment portfolio from the 3Q 13-F filing is here. The PDF version of Stone's Weekly Market Guide is linked here. The Guide to the U.S. Reopening Monitor is linked here. The weekly update to the U.S. Reopening Monitor is linked here.