At the start of a new year I like to write an investment outlook for the year ahead as well as glance back at last year's outlook to see how it fared. Naturally, my musings on trends for 2020, which included the US election and the ongoing US-China trade war were soon thrown into sharp relief by the coronavirus pandemic, a black swan event that literally and figuratively stopped us all in our tracks. It impacted every economy on the planet, not to mention the devastating cost to human life.
2020 - a year like no other
In terms of how markets performed in the face of this catastrophe, some produced surprising results and exceeded expectations from 12 months ago. We reported at the end of 2019 that most investment banks were predicting a modest rise in the S&P 500 index over the course of 2020, with outliers Morgan Stanley and UBS suggesting it could experience a fall to 3000 from its starting point of 3100, while BTIG predicted it would end the year at 3450, although 3950 was a possibility. In fact, the index has outperformed all but BTIG's best-case scenario, standing at 3663 at the time of writing and up 13.61% year to date, having recovered from a 33% sell-off in March. This has been achieved in no small part by the economic stimulus and continued policy support from the US Federal Reserve, as well as other global central banks, which steadied market jitters with the reassurance that interest rates would remain low and quantitative easing plentiful. 2020 also saw a disproportionate boost for the tech giants, which counterbalanced the lion's share of stocks that struggled throughout the year, especially during lockdown.
There have been losers too, of course - the FTSE 100 index among them. It is currently down around 15% this year, but was down over 30% at its worst, suffering due to its heavy tilt to banking, mining and oil and gas sectors. It lacks the tech big guns of the S&P 500 and, despite enjoying a surge since November on the back of positive vaccine news, it's still lagging its global peers. On a positive note if a Brexit agreement is reached and implemented it could see UK equities benefit going into 2021, after all they are cheap on most valuation measures. For income investors there should be some positive news as dividends from FTSE 100 companies are set to rebound in 2021, having fallen by 20 per cent in 2020, with many of the major players already publicly stating they are going to reinstate or increase their payouts.
2021 Outlook
While I pay little attention to investment bank predictions of where the markets will end up at the end of the following year, they are of passing interest to many people. So below I list the end of 2021 S&P 500 predictions from some of the main investment banks. At the time of writing the S&P 500 sits just below the 3700 level.
| JPMorgan | 4400 |
| Goldman Sachs | 4300 |
| BMO Capital Markets | 4200 |
| Jefferies | 4200 |
| Credit Suisse | 4050 |
| Deutsche Bank | 3950 |
| Morgan Stanley | 3900 |
The average prediction is for the S&P 500 to hit 4142 by the end of 2021, which is 11.97% higher than its current level. That is almost twice the return predicted in 2020, which shows just how optimistic investment banks are, despite the fact that the economic fallout from the pandemic is far from over.
Recovery - a return to the "new normal"
In 2021 we will be heading into the second period of recovery of this century. However, while the fallout from the financial crisis in 2007 involved fixing innate systemic failings, the recovery trajectory post-pandemic is expected to be much sharper, particularly if the rollout of the vaccine is swift and efficient. According to BlackRock, the coronavirus has been more akin to a natural disaster than any other type of crisis, with the short, sharp shock likely to give way to a speedy correction. There will, however, be a dichotomy between pent-up demand as people seek to "return to normal" and the fact that some of the fundamental changes to society brought about by coronavirus are likely to remain for some time.
The reality is that the pandemic has had a sudden and profound impact on the way people live their lives. The trend for working from home (WFH), cutting business travel, online shopping and home exercise and entertainment are likely to persist. Indeed, these were all changes that had already been slowly taking hold as individuals and companies sought greater efficiency and ways to cut costs, however the pandemic has acted as a huge catalyst. This has undoubtedly been painful for companies that have been unable to adapt - you only need to witness the demise of Debenhams to see this in action - but also a source of opportunity for other, more nimble players. One of the biggest trends of 2020 was the outperformance of WFH technology stocks. The likes of Google, Amazon and even social media platforms were the top performers. In the bond space government bonds such as gilts and treasuries also outperformed as investors remained cautious about the prospects for the global economy. A combination of both themes enabled my £50k portfolio to perform very well even though I had only a 40% exposure to equities for the majority of 2020. But in November we began to see other areas of the market that are most sensitive to the health of the economy play catch-up following the announcement of a COVID-19 vaccine. Smaller company stocks, banking stocks, energy stocks and high yield bonds started to outperform. A key question as we enter 2021 will be whether the vaccine trade will continue apace?
An interesting side-effect of the various lockdowns and restrictions this year is that household savings rates are at high levels, not just in the UK but in many other global economies. Notwithstanding the threat of rising unemployment, there is the potential for a rapid resurgence in retail and hospitality as society opens up again, with people having money and a desire to spend it. This will be dependent on governments holding their nerve and continuing to prop up these beleaguered sectors until recovery is underway. In terms of a knock-on effect on equity markets, it could be argued that much of the optimism around the recovery has already been priced in so, as ever, it will pay to be selective.
Equities vs Bonds
Our outlook for 2020 ended with the pertinent question: "Will 2020 finally be the year where the bond market crashes?" Certainly, at the beginning of the year we saw fixed income underperforming and the outlook for the asset class looked shaky. However, the seismic shift of a global pandemic confirmed fixed income as a safe haven, with investors swarming to both corporate and government debt even with yields at very low - and, in many cases, negative - levels. The sector's outperformance was subsequently shored up by central banks also buying up bonds at an unprecedented pace.
With a certain sense of circularity, we end the year with bonds looking to lag equities as we move into the early stages of post-pandemic recovery. The likely continuation of low-inflation, low-interest rate monetary policy from central banks will continue to favour equities and squeeze short-dated yield. However, if the recovery story doesn't play out as anticipated and we face greater hardship in 2021, bonds will benefit as investors seek safer options once again.
In the short term at least, pressure on wages and increasing levels of unemployment will keep inflation under control. However, with central banks saddled with unprecedented levels of debt, the risk of deflation as a result of recession and unemployment will be on their radar but we could see a change in policy in the not-too-distant future to stimulate inflation. This will have an impact on the real returns investors gain from their portfolios.
Growth vs Value
At the end of 2020 we finally saw some rotation from growth to value stocks. However, the fact that a growth bias has been dominant since 2007 and is now so ingrained that favouring value stocks has become a contrarian standpoint it means there would need to be a dramatic shift in fundamentals to see value investing dominate. Also the continuation of a low-interest rate environment coupled with the seemingly unstoppable strength of technology stocks, which are the ultimate growth play, could well inhibit a rotation in 2021. For those looking for diversification away from large-cap growth, smaller-cap value stocks are looking the most undervalued at the moment and therefore hold the most potential for the coming year.
US politics
Two macro events that will undoubtedly have an impact on 2021 are the culmination of the US election when President-Elect Joe Biden takes office at the end of January and the end of the Brexit transition period on 31st December and the potential fall out as we enter the new year.
In the US, the "Biden bounce" has already seen stock markets rise on the back of the Democrat's victory. The expectation of a return to a more measured form of politics and greater predictability in policy making provides the certainty markets thrive on. However, it is not going to be smooth sailing as the new President will face getting to grips with the latest surge in coronavirus cases, as well as attempting to spearhead an economic recovery. There is every possibility real change will be difficult to action because Biden is hamstrung by not having control of the Senate. That said, he is known as a dealmaker and looks set to attempt to work collaboratively with Senate Majority Leader Mitch McConnell, with whom he is said to have a productive working relationship.
Biden has already set out his stall with his climate change agenda, stating his plan to rejoin the Paris Agreement, cementing the likelihood of a green rebound (more on this later in the article). He is also likely to usher in a new period of fiscal support to prop up the economy while the vaccine roll-out continues.
Brexit
Closer to home and at the time of writing, Brexit is reaching the point where the bluff and bluster of the negotiating teams must soon give way to a binding decision. The reality is that, by the government's own estimations, a no-deal and moving to World Trade Organisation terms will cost the UK economy 8 per cent GDP. A so-called "bad deal" could cost 5 per cent, depending on the details. However, while the outlook for the economy is bleak in the short term, the markets will undoubtedly prefer a move to a definite answer rather than the painful uncertainty that has dominated for so long. Furthermore, UK investors could actually find themselves more insulated than they thought, with 90 per cent of returns coming from companies in the FTSE 100 and most of those earnings coming from overseas, limiting exposure to the UK market. But as 2020 has come to a close the value of the pound has soared, on the hope of a Brexit deal, which has hampered the returns generated by overseas holdings. It means that for the first time in years that 2021 could be the year where having a sizeable exposure to domestic assets and equities could lead a portfolio to outperform. That is, of course, assuming the economic recovery is sustained and the Brexit transition runs smoothly.
Green rebound
"Sustainability" is set to be the buzzword of 2021, with governments attempting to make good their promises to significantly reduce carbon emissions while also using green infrastructure investments as a way to create jobs and support economic recovery. A prime example is the UK government's £1.3bn infrastructure investment for a green recovery, which aims to create new housing while significantly reducing the carbon footprint. Overall, sustainability is another example of how the pandemic has been a catalyst for change, with governments and companies responding to the swell in public support for initiatives to tackle climate change, set higher standards in corporate governance and ensure diversity and inclusivity.
As we reach the tipping point where it makes greater financial sense to invest in green technology and solutions rather than the antiquated and out-of-date alternatives, investors are finally not having to sacrifice performance for their principles. As such we can expect strong inflows into ethical investments across 2021, as well as some refinement to the way funds are managed as they move firmly to the mainstream. Those of you who have followed my portfolio during 2020 will have noted that a number of the funds were, in fact, ethical but picked due to performance reasons. 2021 should hopefully build upon this positive trend.
China
As the first country to suffer the effects of coronavirus, China managed to limit the number of infections after the initial surge and also avoided having to implement the same level of fiscal support that has encumbered rival nations with such high levels of debt. As such, the OECD predicts China's GDP will grow by 9.7 per cent in 2021 and it certainly looks to offer good growth potential for investors.
Meanwhile, the escalating tension between China and the US was anticipated to dissipate with Biden in the White House. However, the President-Elect has indicated he has no immediate plans to remove the trade war tariffs imposed by his predecessor and has subsequently appointed Katherine Tai, who has a long track record of squaring up to Beijing, to the post of US trade representative. It is a situation investors will continue to monitor closely as 2021 unfolds.
Weak dollar
Some commentators are anticipating the dollar falling by as much as 20% as investors, buoyed by the prospect of a number of vaccines, look to put risk assets back on the table and move away from the security provided by the defensive dollar. Not only that but further fiscal and monetary stimulus in the US would put further downward pressure on the dollar.
Against a backdrop of continued low-interest rates in the US, we could see a move towards emerging market currencies (and other assets), with Morgan Stanley, among others, tipping the Brazilian real, South African rand and Russian rouble. This is, however, predicated on the vaccine roll out being successful with no unexpected nasty surprises which, as we should have learned from this year, is no certainty. Any blips will likely see investors flocking back to the dollar once again.
Commodities
As a collective commodities have disappointed investors for years, in fact for most of the last decade, depending on the commodity you look at. As such they've been shunned by investors, perhaps with the only exception being gold over the last two years. But the performance of commodities since the autumn of 2020 has caused many to sit up and take notice. The S&P GSCI Index Spot, a broad commodities index, is up 15.5% since the start of November, following the increased optimism on the outlook for the global economy in 2021. An expansion in the global economy (but especially China) should drive up demand for commodities, which in turn should drive up their prices. Throw into the mix a potentially explosive mix of a weak dollar, as a result of fiscal and monetary easing in the US, and inflation it wouldn't be surprising to see speculators buy commodities (such as copper, oil and gold) en masse. Goldman Sachs is predicting that the S&P GSCI Index Spot could rally a further 10% before the autumn of 2021. However much depends on the path of the pandemic and global vaccinations. Could 2021 finally be the year where we see the start of a new bull market in commodities?
