With millions of lives upended and many households dealing with ongoing disruptions to normal daily life, investors are curious as to how the economic recovery will take shape – especially now that many financial markets have rallied back to pre-virus or even record levels. After the initial surge from pent-up demand and government transfer payments that elevated household savings, the private sector has begun a lengthy process of backfilling the gigantic employment crater from the pandemic’s aftermath.
However, we are now living in a world where people are less likely to consume, travel, or work in the same manner as they previously did, and the rate of economic growth is beginning to show signs of slowing down. Even well-insulated businesses must figure out how to connect with consumers who have modified their interests and entertainment habits (e.g., streaming video), as well as their daily behaviors (e.g., working from home). A vaccine would likely speed up the recovery process, but widespread availability is not expected until well into 2021 when long-lasting damage could already be done to consumer confidence and corporate balance sheets as bankruptcies mount.
Fortunately, as we peer into the second half of 2020, we do not envision another nationwide economic shutdown absent a mutation of the virus to a more lethal state, combined with rapidly rising case growth. We see further economic growth but expect additional improvement to come in fits and starts. After all, the virus is still with us, and there will likely continue to be emerging hotspots, followed by a rise in more cautious behavior. Recently, we have seen several universities begin classes, only to quickly retreat to a 100% virtual learning environment given a spike in COVID-19 cases. For the moment, job growth depends on a return of consumer confidence, which may not fully recover until a vaccine has been developed, tested, approved, produced, and distributed across the globe. Until then, government stimulus will be critical to replacing lost income and Congress is currently negotiating a fifth round of relief. Not to be outdone, the European Union experienced a watershed moment last month when it announced plans to issue commonly funded debt to provide fiscal stimulus to the hardest hit EU countries.
Government to the Rescue
All this stimulus, while necessary to halt a full-blown market panic which could have led to corporate solvency issues, has sparked a sharp rebound in performance. Markets have looked past weak economic data, and central bank liquidity may now be artificially puffing up valuations beyond what is reasonable for many stocks based on their underlying fundamentals (e.g., earnings, growth prospects, financial strength). With any further rally in financial markets, it may be viewed as increasingly disconnected from economic reality on Main Street. Therefore, we strongly believe active rebalancing makes sense for most investors as it has for the last decade. We anticipate stocks could be stuck in a range as the pace of market increase slows and expect volatility to remain above average in the year ahead as uncertainty reigns: When will there be a vaccine? Will we continue to pull back on our trade relationship with China? Will a new U.S. administration come to power, and what does that mean for taxes?
In addition to assets being priced close to perfection for an ongoing V-shaped economic recovery that appears to be losing some momentum, we are increasingly worried over rising nationalism in the U.S. and China and what it means for one of the world’s largest trading partnerships. In our view, any economic grievances will not be easily resolved as in the past, as they center around the use of intellectual property. As such, we would expect additional frictions in this relationship as the election draws near, with the prospect for geopolitical tensions creating additional market turbulence that may create the opportunity to redeploy low-yielding fixed income into stocks with their prospects for higher long-term returns. We are currently finding meaningful opportunities in international and value-oriented stocks, as well as inflation-hedges.
What’s Your Time Horizon?
While the bond market is not currently confirming optimism about the prospects for an economic recovery, for investors with longer time horizons, history shows that stocks typically beat bonds as one lengthens their time horizon. In fact, over a decade, stocks have beaten bonds most of the time (see chart). However, we counsel investors to avoid rushing headstrong into equities after such a powerful rally, in case they experience a potential bout of volatility ahead of the election and COVID-19 uncertainty this fall. When combined with an asset allocation that is appropriately tailored for your risk tolerance, time horizon, and investment needs, the JNBA Investment Committee continues to believe a globally diversified, tax-efficient, and low-cost portfolio will continue to prove its mettle over the test of time. In addition, our discipline in reviewing portfolios every 10 business days and rebalancing when opportunities present themselves should continue to serve clients well.
In summary, we know this environment has been challenging for most investors, which is why it is critical to have a strategy to implement when uncertainty reigns. After all, stocks have re-rated to higher valuations so the path from here is now likely to follow the economic recovery, and that in turn depends on how policymakers and consumers respond to its health impact.
Thank you for your continued trust in JNBA as your financial advocate. Please reach out to your Advisory Team if you have any questions.
Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from JNBA Financial Advisors, Inc.
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