Investing in 2021: Reason to cheerful - and fearful
The news flow since the start of the year has arguably not given us many reasons to be cheerful. Lockdowns are becoming commonplace again - Germany and the UK are among those under renewed restrictions, while Italy has extended its state of emergency until the end of April. A new outbreak in China has raised fears over another wave of the pandemic while more than 400,000 have died in the US – bringing the worldwide total to a tragic two million plus.i
The pandemic has delivered a significant blow to the global economy and we forecast a 4% contraction for global GDP for 2020. But despite volatile markets, last year delivered above-trend returns - the MSCI World NR Index was 16% higher over the 12 months. And given the unprecedented central bank bond buying, government bonds achieved a total return of 10%.ii
As a result, many investors are asking the question that goes to the heart of the issue – are markets really detached from fundamentals? My response has always been they are not. Markets are forward-looking and despite the plethora of short-term challenges, I do believe there are reasons to be optimistic right now.
There is light at the end of the tunnel, namely the arrival of effective vaccines from Pfizer-BioNTech, Oxford-AstraZeneca and most recently Moderna. Some countries are already making rapid progress in vaccinating their populations – some 40% of Israel’s population have so far received the Pfizer vaccineiii while the UK has been ramping up its efforts, with over 6.3 million having received their first dose.iv The US has also accelerated its programme, but Europe - for now at least - seems to be the laggard.
The global rollout will take time, but an end to the pandemic will not only ease pressure on health services but will also pave the way for better economic conditions in the months and quarters ahead, as we hopefully reach herd immunity. Then we will be able to restart our economies, remove restrictions on social mobility and allow those businesses shuttered on and off over the past 10 months to reopen fully. While this is clearly good news, it won’t be a return to normal as many businesses will have closed permanently, but we will certainly be able to look forward to growth in consumer spending and investment.
The speed of the rollout is also reliant on the social acceptance of getting vaccinated. Despite the anti-vax noise, overall, it seems most people are willing to get a jab. An Ipsos-World Economic Forum survey found that intentions in the US and UK to get vaccinated is up in both countries, although it concluded in several others there was some anxiety.v
The potential 2021 spending boom
There is potential for an economic boom in the second half of 2021 and beyond, once we start to see infection rates fall and economies gear back up. Research from the Organisation for Economic Co-operation and Development estimates that household savings rates soared in 2020 as people weren’t spending, especially on big ticket items such as cars and holidays.vi Obviously many have seen their incomes fall as a result of the pandemic but in aggregate I believe there is the potential for a consumer spending boom, and with it a big economic growth spurt.
In the corporate sector there is a lot of cash waiting to be used. In fact, global investment grade corporate debt raised $4.8trn – a 22% year-on-year increase, and a new record, according to data provider Refinitiv. The US dollar market alone saw a 62% increase in debt issuance, to $1.9trn. vii The early days of this year suggest the trend is continuing – corporates have a lot of liquidity which so far, they have not spent. But once economies are back up and running, some of that money will be spent, adding to the aggregate demand. Some of it could be used for mergers and acquisitions or other corporate activity, so it could potentially boost equity valuations in the months ahead.
When the going got tough, central banks and policymakers didn’t disappoint. Governments have engaged in unprecedent levels of fiscal and monetary stimulus and as a result, we may have record levels of debt, but we also have record low interest rates and I do not see them going up any time soon. I believe the policy environment will remain extremely supportive for economic growth, as central banks have committed to keeping interest rates low for the foreseeable future and will likely continue to engage in asset purchases and quantitative easing.
There has been some talk of the Federal Reserve tapering, but I do not think that is likely until at least the end of this year, if not into 2022. It could cause some repricing in the bond market and we have already seen bond yields rise over the last few weeks – 10-year US Treasury yields are just above 1% but prior to the pandemic they were over 2%.viii But I don’t see them rising quickly enough to disrupt markets too much, or to have any significant impact on economic growth.
The accelerating energy transition
Investors have recognised the vital role they have to play in accelerating the carbon transition. We have witnessed more environmental, social and governance (ESG) criteria being embedded into investment strategies and a rising number of dedicated ESG-specific portfolios being launched. The price of renewable energy has continued to fall, in many cases below the price of coal-fired electricity, which should further hasten the shift to renewables. Politically, Joe Biden’s win in the US Presidential Election certainly marks a break from what we have seen over the past four years. We will hopefully have a US administration which is more balanced and collaborative on the international stage. The US government’s decision to re-join the Paris Agreement is welcome and Biden’s climate tsar John Kerry recently reasserted the need to speed up global decarbonisation, declaring that “failure is simply not an option”.ix
In addition, the delayed United Nations climate change conference COP26 will finally take place in Glasgow this November. This will be a real focus for politicians, businesses and investors in terms of the carbon transition, including progress on reducing carbon emissions, and the potential investment opportunities over the coming years. In the run up to the event, I expect we will see countries restate their carbon reduction targets or maybe accelerate them, and perhaps announce even more ambitious plans. On the policy side there will likely be greater debate on carbon taxation, a subject which is only going to gather steam this year. Either way, the direction of travel is clear.
Reasons to be fearful?
In the short term, there are plenty of obstacles to overcome. There are rising concerns over the new coronavirus strains, especially in the UK and South Africa, and the logistics of ensuring the inoculation of the global population remain deeply challenging, particularly beyond developed economies.
Equally, while we may see an economic boom, the pandemic has left some permanent scars. Many businesses will not return, and this has implications for our urban geography, especially given the number of retailers closing shop. Our high streets are not going to bounce back easily - they need renewed investment and commitment if they are to get back to any sense of normality. In addition, this backdrop of businesses closing permanently means higher unemployment.
For now, government policy remains benign. There’s no appetite for addressing the increase in government debt but if austerity measures became the predominant economic policy, that would be a worry for investors. Tensions between the US and China could remain – and the world’s second largest economy has surged ahead in terms of economic growth over the past year, leaving other nations on the back foot.
But fundamentally, I believe there are lots of reasons to be optimistic. Hopefully, by the second half of 2021, we will have made significant progress in controlling the pandemic and see declining infection and hospitalisation rates. This should go hand in hand with an economic reopening, better rates of GDP growth – and therefore hopefully more cheer from consumers and investors.
[ii] FactSet, data as at 31 December 2020 (US dollar terms)
[iii] Open Access Government 26 January 2021
[iv] BBC News 24 January 2021
[v] Ipsos 29 December2020
[vii] Refinitiv 21 January 2021
[viii] US Treasury – January 2021
[ix] Ft.com 22 January 2021