Aug 18, 2020

Cautious Optimism: Stocks Buoyed by Better Economic Data and Other Hopeful Developments

By Kara Murphy, CFA® Chief Investment Officer

In my house, the homestretch of summer usually brings a mix of excitement and melancholy as our kids prepare to trade in their shorts and flip flops for new backpacks and squeaky clean sneakers. This year, however, the countdown to a new school year is decidedly different.

As the pandemic stretches into its fifth month, my kids are among the millions of American schoolchildren preparing to start the academic year online. The resumption of distance learning in many parts of the country is another reminder of how much longer this crisis has lasted than many of us first anticipated.

For many of us, the road to recovery is starting to feel like a marathon, rather than a sprint. And yet, it’s important not to overlook signs of progress. Some of those strides — from improvements in the job market to advances in the race to develop a coronavirus vaccine — helped lift stocks higher in July.

Key Takeaways

  • Stocks rallied for a fourth straight month and the bond market saw modestly positive returns.
  • Following the significant rebound in May and June, additional data emerged to confirm that the U.S. economy had turned a corner.
  • Outbreaks in certain parts of the country raised new concerns about the path of the novel coronavirus.

Equity Markets

The broad U.S. stock market, as measured by the S&P 500 index, rallied for a fourth straight month. By the end of July, the S&P 500 had erased the steep losses it suffered earlier in the year and was roughly flat for 2020. On a trailing, 12-month basis, the index stood firmly in positive territory.

Underpinning last month’s rally was a clearer picture of the trajectory of the U.S. economy. In May and June, we began to see Americans moving around more freely and spending more — reflected in such metrics as Apple mobility data and Open Table reservations. In July, signs of improvement also began to show up in unemployment data and other closely watched economic indicators.

A few more factors that buoyed stocks:

  • Some of the most-advanced experimental coronavirus vaccines either entered their final stages of testing or were poised to do so. Pharmaceutical companies have moved at unprecedented speed to develop vaccines, although, as always, there’s no guarantee that experimental drugs that make it to late-stage trials will prove effective.
  • With a number of fiscal deadlines looming, hopes remain high that Congress will pass a stimulus package likely in excess of $1 trillion before the August recess. It would be the fourth massive stimulus package since the pandemic first hit the U.S.
  • Amid a sharp decline in economic activity, most S&P 500 companies still managed to beat analysts’ expectations for the second quarter. As of Aug. 7, nearly 90% of S&P 500 companies had reported results, and 83% of them posted a positive earnings surprise, according to FactSet.

U.S. Sectors


With the exception of Energy, returns for S&P 500 sectors were positive across the board in July.

Consumer Discretionary — whose largest constituents include home-improvement chains, off-price retailers and e-commerce — was the best-performing sector for the month, returning 9%.

The sector gradually improved as discretionary spending began to bounce back. In May, retail and food service sales climbed by nearly 18%, a dramatic improvement over the nearly 15% decline the prior month, according to an ISG report released in early July.

That said, the pandemic has created a world of haves and have-nots among retailers. At the onset of the pandemic, many non-essential retailers either closed voluntarily or were ordered to do so. At the same time, a surge in online shopping has largely benefitted retailers who either sell exclusively online or had robust e-commerce platforms before the pandemic hit. In recent months, we’ve seen a wave of bankruptcies among retailers with large fleets of brick-and-mortar stores.

The pandemic has not been kind to the Energy sector either. Energy has been the worst-performing S&P 500 sector this year. Last month alone, the sector declined by about 5%.

Even though oil prices have stabilized lately, many investors worry about the demand outlook as well as leverage in the sector. Still, others see opportunity in some of the hardest-hit corners of the sector, such as oil services, where cost reductions could help to improve results, according to a report released in late July by Goldman Sachs Equity Research.

Fixed Income

The broad U.S. bond market, as measured by the Bloomberg Barclays U.S. Aggregate Bond Index, saw relatively robust returns in July, with the broad fixed-income market gaining 1.5%.

Low interest rates may have dampened return expectations for bonds. They’ve led many investors to search for yield in corners of the bond market that carry higher risk. In July, for instance, high-yield bonds, which tend to be more correlated with equities, were the best-performing segment of the bond market, returning nearly 5%.

In light of today’s low rates, one of the biggest questions on the minds of many investors is whether bonds still make sense. In my view, they continue to play an important role in a diversified portfolio, both in terms of dampening volatility and generating income. For more insight on the role of bonds, watch this short video.

Within the fixed income sector, investors have paid particular attention to municipal bonds, as many cities and states have faced enormous financial challenges during the last few months. We took a deeper dive into this area of the market last month during our first PFM Private Roundtable. During the event, we noted that there’s strong evidence, spanning decades of returns, that municipal bonds are less likely than investment-grade, global corporate bonds to default on their obligations. What’s more, the CARES Act, signed into law in March, provided at least $750 billion to municipal entities, and we expect future relief bills to offer additional aid.

The Economy and the Fed

In late July, the Bureau of Economic Analysis reported that the U.S. economy contracted at a nearly 33% annual rate from April through June, a sharp drop by any measure but not unexpected given that large portions of the country were under lockdown at the start of the second quarter.

Indications of a recovery in economic activity surfaced in May and June as authorities lifted containment measures and Americans ventured out or figured out how to get more done from home. Last month, we saw continued signs of improvement on the economic front, signaling that the recovery had gained momentum. A few highlights:

  • The seven-day moving average for credit and debit card spending was down by 6.4% (year-over-year) as of July 19, but that represented a significant improvement over the levels seen in April and May, according to Affinity Solutions.
  • For the week ended Aug. 1, new claims for unemployment benefits fell to 1.2 million, modestly better than some analysts had expected and the lowest level since the pandemic hit the U.S. in mid-March.
  • Small business activity (as measured by revenue and the number of businesses open) rose sharply in early July, before trailing off later in the month, according to the Opportunity Insights Economic Tracker.

To be sure, the economic outlook remains highly uncertain and will depend in large part on the path of the novel coronavirus. As of early July, swaths of the country had fully reopened or were reopening in stages, but others had paused reopening plans or reversed course because of outbreaks.

In light of the worsening virus situation, our colleagues in Goldman Sachs Investment Research (GIR) recently revised their growth forecast for the third quarter downward, but raised their forecast for next year based on the outlook for a potential vaccine. As of mid-August, GIR expected the U.S. economy to shrink at an annual rate of -5.0% in 2020 and to grow by 6.2% rate in 2021.

During a press conference in late July, Federal Reserve Chairman Jerome Powell said that the acceleration in Covid-19 infections since mid-June and renewed efforts to control the spread of the novel coronavirus are beginning to weigh on economic activity.

“As we have emphasized throughout the pandemic, the path forward for the economy is extraordinarily uncertain and will depend in large part on our success in keeping the virus in check,” he said.

Conclusion

As Chairman Powell notes, it will take vigilance to put this difficult chapter behind us. That applies not just to efforts to control the spread of the novel coronavirus but to shepherd our families, businesses and even our portfolios through this crisis.

As always, we’re keeping a watchful eye on developments to assess how the pandemic and related issues might further impact markets. Some of the developments that have fueled stock gains lately also have the potential to create market volatility if they don’t pan out as expected.

If that’s the case, it may take some vigilance to stay the course and remain focused on your long-term financial goals. A discussion with your financial advisor can help. If you have concerns about your portfolio, the markets or your financial plan, don’t hesitate to reach out to your advisor. That’s what they’re there for.

Invest well and stay healthy,

Kara Murphy, CFA

Chief Investment Officer

Important Disclosure

United Capital Financial Advisers, LLC d/b/a Goldman Sachs Personal Financial Management (“GS PFM”) is a registered investment adviser and an affiliate of Goldman Sachs & Co. LLC and subsidiary of The Goldman Sachs Group, Inc., a worldwide, full-service investment banking, broker-dealer, asset management, and financial services organization.

The information contained herein is intended for informational purposes only, is not a recommendation to buy or sell any securities, and should not be considered investment advice. The material is based upon information which we consider reliable, but we do not represent that such information is accurate or complete, and it should not be relied upon as such.

For clients with managed accounts, GS PFM has discretionary authority over investment decisions. GS PFM makes recommendations based on the specific needs and circumstances of each client. Clients should carefully consider their own investment objectives and never rely on any single chart, graph, or marketing piece to make decisions. Investing involves risk, and investments may lose value. There are no investment strategies that guarantee a profit or protect against loss.

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Economic and market forecasts presented reflect the judgment of Goldman Sachs Private Wealth Management Investment Strategy Group as of the date of this material and are subject to change without notice. Return expectations are based upon ISG’s capital market assumptions. They should not be taken as an indication or projection of returns of any given investment or strategy. Forecasts are estimated, based upon assumptions, and are subject to significant revision and may change materially as economic and market conditions change. We have not obligation to provide updates or changes to these forecasts.

Except as otherwise required by law, United Capital shall not be responsible for any trading decisions, damages, or other losses resulting from, or related to, this information, data, analyses, or opinions or their use. Please contact your financial advisor with questions about your specific needs and circumstances. Equity investing involves market risk including possible loss of principal. All indices are unmanaged and an individual cannot invest directly in an index. Index returns do not include fees or expenses and are calculated on a total return basis with dividends reinvested. Past performance doesn’t guarantee future results.

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Index Definitions

S&P 500 Index: A broad-based measurement of changes in stock market conditions based on the average performance of 500 widely held common stocks. It is a capitalization-weighted, unmanaged index that is calculated on a total return basis with dividends reinvested. The S&P 500 represents about 75% of the NYSE market capitalization.

Russell 2000 Index: This index measures the performance of approximately 2,000 small-cap companies in the Russell 3000 Index, which is made up of 3,000 of the biggest U.S. stocks; the index serves as a benchmark for small-cap U.S. stocks.

MSCI Europe, Australasia, and Far East (EAFE) Index: This index is a free float-adjusted market capitalization index that is designed to measure the equity market performance of developed markets, excluding the U.S. and Canada.

MSCI Emerging Markets Index: This index is a free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets. As of June 2009, the MSCI Emerging Markets Index consisted of the following 22 emerging market country indices: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Israel, Korea, Malaysia, Mexico, Morocco, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, and Turkey.

Bloomberg Barclays U.S. Aggregate Bond Index: This is a market capitalization weighted bond index of investment-grade, USD-denominated fixed-income securities.

U.S. High Yield Corporate: The Bloomberg Barclays U.S. Corporate High Yield Bond Index measures the USD-denominated, high-yield, fixed-rate corporate bond market. Securities are classified as high yield if the middle rating of Moody's, Fitch, and S&P is Ba1/BB+/BB+ or below. Bonds from issuers with an emerging markets country of risk, based on Barclays EM country definition, are excluded.

U.S. Investment Grade Corporate: The Bloomberg Barclays U.S. Corporate Bond Index measures the investment-grade, fixed-rate, taxable corporate bond market. It includes USD-denominated securities publicly issued by U.S. and non-U.S. industrial, utility, and financial issuers.

Bloomberg Barclays Municipal Bond Index: The Bloomberg Barclays U.S. Municipal Index covers the USD-denominated, long-term, tax-exempt bond market. The index has four main sectors: state and local general obligation bonds, revenue bonds, insured bonds, and pre-refunded bonds.

S&P 500 GICS Sectors Level-1: In 1999, MSCI and S&P Global developed the Global Industry Classification Standard (GICS) to offer an efficient investment tool to capture the breadth, depth, and evolution of industry sectors. GICS is a four-tiered, hierarchical industry classification system. It consists of 11 sectors, 24 industry groups, 68 industries, and 157 sub-industries. Companies are classified quantitatively and qualitatively. Each company is assigned a single GICS classification at the sub-industry level according to its principal business activity. MSCI and S&P Global use revenues as a key factor in determining a firm’s principal business activity. Earnings and market perception, however, are also recognized as important and relevant information for classification purposes and are considered during the annual review process.


Kara Murphy
ABOUT THE AUTHOR

Kara Murphy, CFA® Chief Investment Officer

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United Capital Financial Advisers, LLC (“United Capital”), is an affiliate of Goldman Sachs & Co. LLC and subsidiaries of the Goldman Sachs Group, Inc., a worldwide, full-service investment banking, broker-dealer, asset management and financial services organization. Investing involves risk and clients should carefully consider their own investment objectives and never rely on any single chart, graph or marketing piece to make decisions.

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