March Investment Outlook
April 1, 2021
The start of 2021 has seen markets caught between several opposing forces: optimism over a strong economic recovery, fear that inflation is picking up in a sustainable way and concern that many pandemic risks remain. 2021 is clearly going to be a much stronger economic year than 2020 in all ways and it is likely to be the first year of a new economic cycle for the United States. The future is not fully clear, but it looks quite bright for a few years to come.
Covid-19 crashed the stock market a year ago and completely stalled our economy, immediately launching a recession. All economic activity since then has only been an improvement from our absolute shut-down. Economic indicators have shown a strong bounce back, but we are still below activity levels seen a year ago, offering plenty of upside to the recovery this year. In fact, the Federal Reserve last week just raised its growth outlook for 2021 to 6% GDP growth! We won’t see this kind of strength in the upcoming quarterly reports for March, but by this summer, companies will be reporting much improved activity compared to dismal results in 2020. These reports are likely to continue to support the optimism investors have already shown in the stock market so far this year.
Meanwhile, as Washington approved another stimulus bill including direct payments to Americans, the bond market started to take notice. Federal Reserve Chairman Powell has repeatedly confirmed the central bank’s intention to keep interest rates low for an extended time, but the Fed only controls the shortest interest rates in the market. Bond investors and traders determine the rates for longer maturity securities and the past quarter saw a significant move upward in longer term rates that reflected either optimism for an improving economy, increasing inflation expectations or both. Chairman Powell has responded that the strength of the rebounding economy this year is, indeed, likely to fuel higher than trend inflation, but the Federal Reserve believes these forces will be temporary and inflation will later subside. This is an important distinction for those that fear inflation. Once the U.S. economy is past the early stages of this recovery, global pricing pressures are likely to emerge again keeping prices in our economy in check. It is important to keep in mind that both our monetary leaders today, Jerome Powell and Janet Yellen, worry much more about disinflation and deflation than inflation; they believe moderate inflation is easily managed by a central bank. We agree and we see any temporary moves up in interest rates as opportunities to build out attractive bond portfolios.
Finally, the markets, and all our daily lives, continue to be influenced by the pace of COVID-19 infections. Most areas of the country have begun to master the logistics of vaccine delivery and the number of people getting vaccinated is growing at an increasing pace. By summer, a good part of our population may be vaccinated. Yet, we continue to hear of virulent variants and daily deaths in the U.S. and around the world. Even as we expect the economy to fully open up, we are cautious in our outlook as the world continues to battle a virus it doesn’t fully understand. The pandemic will continue to cast a shadow for months to come, tempering the market’s optimism.
These three forces have played out in the stock market throughout the quarter with continual rotation among growth stocks and value stocks. The year started with broad market strength on optimism that the economy has a bright future and 2021 is likely to be a good year for corporate earnings. The markets consolidated and pulled back as interest rates started moving higher, particularly hurting high growth stock valuations. Into the end of the quarter, we are hitting the anniversary of the market crash last March. Many investors, like ourselves, used the significant decline last year to book tax losses for clients and to buy other securities at greatly reduced prices. Most of those purchases have large gains and investors have started taking profits the last couple weeks as the positions now qualify as long-term gains. This trading may keep pressure on the markets for the next couple weeks. We do not see the need to take profits into this environment, though we will be trimming significantly oversized positions. Our contrarian purchases last fall continued to support portfolios this quarter as many growth positions traded sideways after their large 2020 gains. We continue to believe portfolios are well positioned for the recovery we expect this year and we see attractive opportunity ahead.
We hope that our next investment update sees us on the verge of a healthier time for all.