“Gratitude is a currency that we can mint for ourselves and spend without fear of bankruptcy.”
— Fred De Witt Van Amburgh
As many Americans celebrated Thanksgiving with fewer friends and family around the table, we were reminded in November of the power of gratitude to help us see more clearly during difficult times. As the late author and publisher F.D. Van Amburgh once noted, gratitude is one of the few things in life that’s not only free but good for us in abundance.
Amid last month’s scaled-down celebrations, U.S. markets also appeared to find silver linings. The stock market, in particular, broke a months-long losing streak and served up a generous helping of gains — despite concerning news on the state of the global pandemic and a highly divisive presidential election cycle. Why did positive sentiment prevail? We explore this question and others below.
The broad U.S. stock market, as measured by the S&P 500 index, gained nearly 11%, its strongest return since April.
Notable for its breadth, the rally appeared to be driven largely by encouraging vaccine-related news, which has given many investors hope that the pandemic could be under control in the months ahead.
In November, two of the world’s largest pharmaceutical companies announced that their experimental COVID-19 vaccines had proved highly effective in clinical trials. At least one of the vaccines may be available to millions of Americans in high-risk groups before the end of the year.
Last month’s rally also appeared to be fueled by a greater sense of certainty surrounding the outcome of the presidential election. The prospect of a prolonged contested election weighed heavily on the minds of many investors heading into November. Ultimately, President-elect Joe Biden Jr. appeared to emerge as the clear winner, even though votes took longer than normal to count and President Trump mounted legal challenges. As of late November, Trump hadn’t formally conceded, but his administration had agreed to allow the formal transition to the Biden presidency to begin.
It’s also worth noting that Democrats failed to take control of Congress, even though many polls predicted they would. The possibility of a so-called blue wave appeared to buoy stocks as Election Day approached on the theory that it would pave the way for the passage of another large fiscal stimulus package. Ultimately, Democrats lost seats in the House, but held on to that chamber. Following Election Day, Republicans had a slight lead in the Senate, but the balance of power in the upper chamber will be decided by the outcome of Georgia’s double Senate runoffs in early January.
What could a Biden presidency and Republican-led Senate mean for U.S. stocks? Historical patterns may offer some clues: According to an analysis by our colleagues in the Goldman Sachs Investment Strategy Group (ISG), historical data reveals that U.S. equity returns tend to be stronger under divided governments, once we exclude recessions.
The finding — in ISG’s Economic and Financial Market Outlook released Nov. 12 — is based on an analysis of average S&P 500 returns for the one-year periods following elections. According to that analysis, since 1945, average returns during post-election periods have been stronger under divided governments than under single-party controlled governments (13.6% vs. 7.5%) when excluding recessions from the calculations.
According to FactSet, returns for the month of November were positive across S&P 500 sectors. The breadth of last month’s rally marked a departure from what we’ve seen for much of this year, when growth-oriented sectors — Technology in particular — have vastly outperformed value-oriented sectors, such as Financials and Energy.
Generally speaking, growth stocks are shares of companies whose revenues are growing faster than the overall market, as measured by S&P 500 revenues per share. Investors generally expect growth stocks to deliver faster-than-average profit growth in the future.
Such stocks tend to perform well during periods of slow growth and/or heightened uncertainty because many investors are willing to pay a premium (as measured by metrics like price-to-earnings or price-to-book value) for shares of companies that can perform relatively well under such conditions.
Indeed, from Dec. 2016 to Dec. 2019 — a period characterized by escalating trade tensions and so-called late-business-cycle fears — growth stocks outperformed value stocks by 43 percentage points, according to ISG’s Economic and Financial Market Outlook of Nov. 12. During the year-to-date period through Nov. 9th, growth stocks outperformed value stocks by 33 percentage points.
And yet, value stocks staged a comeback last month, as they have tended to do during periods of optimism over the prospects for COVID-19 vaccines. As we get closer to the widespread distribution of one or more vaccines, we may see further rotation out of growth stocks and into value stocks. Value stocks, which generally trade at a discount to price-to-earnings or price-to-book value, tend to be cyclical in nature. In other words, they perform relatively well when economic growth is on the upswing.
Rather than hitching their stars to either growth or value, many investors own both types of stocks in their portfolios — a diversification strategy that, in theory, allows them to benefit from the various stages of each economic cycle.
The broad U.S. bond market posted a modest return last month. Amid a stronger appetite for risk assets, high-yield bonds were the best-performing corner of the market. High-yield bonds, also called junk bonds, pay relatively high interest rates because they’re riskier than U.S. Treasurys and, to a lesser degree, investment-grade corporate bonds.
Interest rate policy has played a big role in the performance of bond markets in recent months. This past spring, the Federal Reserve, which works to promote a strong and stable economy, cut its benchmark federal funds rate to near zero in an effort to mitigate the pandemic’s economic damage. The central bank is widely expected to keep rates anchored near zero until 2023.
The Fed’s recent actions are intended to stimulate economic activity by making it cheaper for businesses and consumers to borrow. But they may also encourage investors to seek higher yields in the equity market by dampening return expectations for bonds. (Keep in mind that when rates decline, the prices of existing bonds usually increase.)
The yield on the 10-year Treasury note — a sign of investor sentiment towards the economic outlook — has inched upward since the summer months. Yet it was just 0.85% at the end of November, or less than half of what it was at the start of 2020.
The Economy and the Fed
While the pandemic continues to create headwinds, the U.S. economy has proved remarkably resilient this year. In the third quarter, it grew at a historic 33.1% annualized rate, according to the Commerce Department, and recent data point to a broad-based recovery:
On the whole, the U.S. economy stood on firmer footing last month than it did during the summer and early fall. Nonetheless, the recent resurgence in COVID-19 cases has left many investors waiting for the other shoe to drop. The third wave of COVID-19 already appears to be having a chilling effect on economic activity — as evidenced by slowing improvement in the labor market and the flattening of some high-frequency indictors (such as credit card and debit card spending) in recent months, according to ISG’s Sunday Night Insight published on Nov. 1.
We don’t discount the possibility that things may get worse before they get better in terms of the spread of the virus. Although vaccine distribution will be ramping up in the second half of December, it will still take months to be broadly distributed in the U.S.
In the meantime, the economy could get another dose of stimulus spending. While lawmakers have clashed in recent months over the scope of another stimulus package, there appears to be bipartisan support for at least some additional stimulus. Either the outgoing or incoming administration will usher a deal across the finish line.
As of Dec. 7, ISG expected U.S. GDP to grow by 3.9% in the fourth quarter and to decline by -3.5% in 2020 on a year-over-year basis. ISG expects GDP to grow by 5.1% in 2021. Its forecast is driven by the likelihood that an effective vaccine will be widely available in the first half of 2021 and the assumption that we won’t see a return of broad shelter-in-place mandates, but rather targeted measures to control the spread of the virus.
As we’ve noted before, the pandemic has lasted much longer many of us anticipated. It will continue to take vigilance to guide our families, businesses and portfolios through this challenging time.
During the holiday season — when we tend to reflect on what really matters — it may be a bit easier to stay focused on our long-term goals and ride out the market’s inevitable ups and downs. Of course, you don’t have to go it alone.
As this tumultuous year winds down, take some time to speak with your advisor about your investment objectives, how close you are to meeting your goals and whether you’re taking the appropriate level of risk. As always, we’ll continue to monitor your portfolios closely.
I and the rest of the Investment Team here at Goldman Sachs Personal Financial Management wish you a healthy, happy and prosperous new year.
Invest well and stay healthy,
Kara Murphy, CFA
Chief Investment Officer
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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.
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