Financial markets really reflected what a crazy year 2020 was. As we enter the new year, thoughts are increasingly turning to the potential economic recovery, but there remain plenty of challenges to overcome before that. The consequences of a return to economic growth are not straightforward
The investment landscape in 2020 has been dominated by the Covid-19 virus, lockdowns and unprecedented policy easing by Central Banks and governments around the globe. The US election and UK-EU negotiations provided further risks to markets. The pandemic led to a global economic shock that established new multi-generational records. For instance, UK GDP fell by over 11% in 2020, the biggest decline since the Great Frost of 1709 (UK Government, Spending review 2020, 15/12/20).
In financial markets, the MSCI All Country World equity index fell 32% in total return terms (including dividends) once Covid-19 new cases spread outside China, while government bonds outperformed as investors became more risk averse (Market data sources Refinitiv to 30/12/20, unless otherwise stated). The low point came on the 23 March, prompting the Fed to say that it was prepared to buy US corporate bonds as part of a new round of quantitative easing (e.g. asset purchases). Global equities then went on to rally 63% from the trough, supported by – at various points – fiscal and monetary stimulus, economic recovery and hopes of a successful vaccine rollout, to close out the year up 15%.
The main winners of 2020 were ‘growth’ equities and direct Covid-19 beneficiaries such as Big Tech, following widespread adoption of e-commerce and working from home practices. Long-term government bonds benefited from central bank asset purchases. In turn, gold gained from concerns about the debasement of the fiat currency system from money printing: the US created 21% more dollars in 2020 than existed previously. Despite the virus originating in Wuhan, China was one of the quickest economies to re-open and MSCI China equities rose 28%. China’s economy benefitted from lockdowns in the West, since services were restricted, but buying goods was not. China even managed to boost its share of global merchandise exports, driven by stimulus in the West creating demand. The biggest losing sectors were energy (-32%), real estate (-9%) and banks (-11%), with the Covid-exposed UK and Eurozone the laggards in geographical terms.
We maintain an optimistic outlook for equities for several reasons. First, the rollout of vaccines and a gradual opening up of economies from lockdowns should encourage households to run down savings rates to sustain consumption.
Second, we expect a synchronised broad-based global economic recovery that supports company earnings. The IMF forecasts that a record 79% of nearly 200 economies will experience growth higher than 3% (World Economic Outlook, IMF, October 2020) this year. Not only would this recover much of the lost output from last year, but it adds support to consensus global Earnings per Share growth of 28% expected in 2021.
Third, central bank liquidity is still projected to remain highly accommodative. The ECB topped up its pandemic emergency purchase programme by €500 billion in December to €1,850 billion and extended the horizon of net bond purchases to the end of March 2022 (European Central Bank, Monetary Policy Decisions, 10/12/20). In a major policy change in September, the Fed made clear that it intended to “run hot” with regards to maintaining easy monetary policy in order to achieve above 2% inflation (Federal Reserve, FOMC Statement, 16 September 2020). Morgan Stanley forecasts that the combined balance sheet of G4 central bank assets will rise by $3.4 trillion by the end of 2021 (Morgan Stanley, 2021 Global Macro Strategy Outlook, Back to Life, Back to Liquidity, 21/11/20).
Despite the widespread recovery in global risk assets, all UK equity indices were laggards, handicapped by the ongoing Brexit uncertainties and a compositional skew towards value-orientated economically sensitive businesses. Should current assumptions over a vaccine-inspired economic rebound prove correct, it seems probable that this skew, allied to the removal of Brexit trade uncertainties, could give rise to some relative recovery in UK equity valuations. However, with the longer-term balance sheet impact of the Covid lockdowns still to be fully understood, remaining focused on the fundamental quality of the businesses selected, even in an ostensibly cheap market, remains paramount.
In terms of the risks, we continue to monitor: i) a sudden removal of accommodative policy, perhaps if inflation returns at a pace that exceeds central bankers’ expectations; ii) fears of a another Covid-19 surge, or a disappointment in the effectiveness in vaccines/a mutation to a more virulent virus; iii) social unrest in the politically-polarised United States; and iv) extended valuations in some sectors triggering a broader market rout.
We hope you have found this update helpful. Please do get in touch on 020 7189 2400 if you have any queries or would like more information.
This document is solely for information purposes and is not intended to be, and should not be construed as investment advice. Whilst considerable care has been taken to ensure the information contained within this commentary is accurate and up-to-date, no warranty is given as to the accuracy or completeness of any information and no liability is accepted for any errors or omissions in such information or any action taken on the basis of this information. The opinions expressed are made in good faith, but are subject to change without notice.
You should always remember that the value of investments can go down as well as up and you can get back less than you originally invested. Past performance is not an indication of future performance.