Weekly Investment Commentary: Stocks jump on election and vaccine news
Highlights
- Stocks rallied on prospects for divided government, which should produce less policy changes than many anticipated.
- We think economic growth will remain choppy until a medical breakthrough can tame the coronavirus pandemic. And we saw some positive news on this front over the weekend.
- Stock prices are likely to enjoy modest tailwinds in the year ahead, but we think markets remain vulnerable to near-term setbacks.
Equities enjoyed a strong election week rally, with the S&P 500 Index jumping more than 7%. Stocks subsequently soared Monday morning on positive news on a potential coronavirus vaccine. With Joe Biden winning the presidency and Republicans likely retaining control of the Senate, prospects for significant policy changes appear limited. And signs of a possible vaccine could allow more economic reopening in 2020. Markets also rose on better-than-expected corporate earnings news and indications that monetary policy will remain ultra-loose for the foreseeable future.
Weekly top themes
- A divided government provides a tailwind for stocks. This scenario will likely mean no major changes to health care policy, limits on tax increases, curbs on future federal borrowing and spending and less changes to the regulatory environment. In other words, markets are eagerly anticipating gridlock.
- We may see some legislative progress on issues such as infrastructure spending. Joe Biden and Mitch McConnell have decades of experience working together, and could find ways to bring their parties closer to the center.
- The jobs market continues to demonstrate strong momentum. Payrolls rose by 638,000 last month, while unemployment fell to 6.9%.
- Manufacturing data also showed signs of improvement. The ISM Manufacturing Index in the U.S. reached its highest level in two years in October, with every subcomponent of the index improving.
- Monetary policy should remain extremely accommodative. The Federal Reserve was clear that policy will remain unchanged at last week’s meeting. With prospects of significant fiscal spending reduced, the Fed may actually come under some pressure to expand its asset purchase programs next year.
- Corporate earnings continue to be better than expected. With 80% of companies reporting third quarter results, average earnings are up 20% more than expected. Fourth quarter estimates have climbed only 2% since the start of the current reporting season.
- China’s economy continues to improve and evolve. Policymakers met last week to chart out the country’s next five-year plan for economic and social goals. China is continuing to look for ways to transition away from a manufacturing- and foreign-investor-based economy to a more innovative structure based on domestic consumption.
The choppy economic recovery should continue
With the election results coming into focus, a divided government could likely produce a smaller fiscal stimulus package than many were expecting. We anticipate a plan of perhaps up to $1 trillion passing over the next couple of months. In any case, we think the combination of continued easy monetary policy, modestly more fiscal stimulus and hopefully progress on a vaccine should be enough to keep global growth on a decent path next year. It remains an open question, however, whether a synchronized economic expansion can take hold. China’s economy is on a solid growth trajectory, but Europe appears to be slipping back into recession as economic lockdowns are reimposed. And U.S. growth momentum has also waned.
This question lies at the heart of the longer-term market outlook: To what extent will the ongoing coronavirus pandemic limit economic activity? With virus cases rising in many areas of the world, economic activity is slowing. It seems clear to us that economic activity will be limited until a reliable and widely available vaccine or other medical breakthrough becomes available. We saw some positive news on this front over the weekend, but we are still likely months away from a vaccine being widely available.
“The economy should continue to expand, but probably not at a pace that would justify a full-on pro-growth investment stance.”
At this point, equity and credit markets appear to be pricing in a return to pre-pandemic levels of economic activity by the end of 2021. This may be overly optimistic. We think the economy will continue to expand, but probably not at a pace that would justify a full-on pro-growth investment stance. We think stock prices should be able to grind higher over the coming year, but they remain vulnerable to near-term setbacks, especially after the strong bounce we saw last week.
Sources
All market data from Bloomberg, Morningstar and FactSet
Labor market data from the Bureau of Labor Statistics
Manufacturing data from the Institute of Supply Management
Earnings data from Credit Suisse Research
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