Written by Luke Patterson | Friday, January 22nd, 2021
INSIDE THIS EDITION: Bullish but Watching the Risk Coronavirus / COVID-19 Resource Center
As the STA investment committee surveys the equity market, we are seeing numerous signs of froth. In most normal environments, without massive central bank liquidity, easy financial conditions, and the prospect of additional stimulus, we might be concerned.
However, that is not the case at present. Instead, we remain constructive on risk assets, as we outlined in our 2021 Outlook presentation a couple of weeks ago.
We are extremely encouraged by rapidly improving COVID-19 data, especially the increasing availability of COVID-19 vaccines, signs of vaccine effectiveness, and declining hospitalizations.
We believe a continuation of these trends related to COVID-19 would be highly supportive of improving economic activity and sentiment that could lead to more equity upside in 2021. Stimulus packages during 2020 helped offset some of the impact of COVID-19 but could pale in comparison to stimulus measures for 2021, especially as we find ourselves with a democrat majority in the house and senate. Under this government composition, we see rising odds that we get a new stimulus package topping $1 trillion.
We think this would be highly bullish for risk assets, regardless of how Americans decide to use the influx of cash from upcoming stimulus.
Of course, we strive to be balanced in our view because risks always lurk in the shadows, especially when markets show signs of froth or when consensus is narrow like it is today. What we mean is that most investors seem to believe that massive stimulus is coming, that vaccines will slow the spread of COVID, and that the economy is on a fast track to recovery, just like we outlined above. And we agree. However, we must also acknowledge potential trouble spots – whether it is excessive risk-taking or weak spots in the economy that could ultimately derail the rally, though it still seems unlikely in the short-term.
Technology and Healthcare shares have taken on a large percentage of global fund flows over the last year. Technology makes up a large percentage of major market indices like the S&P 500 and Nasdaq. Consensus over the last year has been overwhelmingly positive for the sector due to things like work from home and COVID-19 restrictions. However, we think investors should be watching for signs of weakness in technology and healthcare that could give rise to an eventual market pull back. If 2020 showed us anything, it was that technology can drive the direction of broad equity markets.
We are also witnessing a concerning rise in the number of day-traders that are enjoying making “easy money”. Nothing in markets is easy, and when it appears that it is, it should serve as a warning sign that excesses could be driving returns and investor behavior especially in certain securities and sectors that appear detached from economic reality. Of course, excesses can last for a long time, but it is our concern that speculative activity like what we are seeing in some corners of the market will end in tears, just as it did during the dotcom bust in 2001. Eventually.
While we do not know when the day of reckoning for these speculators might be, the truth is that in the end the big winners might only be the banks who make their money from increased trading activity.
On the topic of rising speculation, is what we are seeing in the higher risk areas of the market. More specifically in the trading of penny stocks. Since November of 2020, the price of stocks has been inversely correlated to their performance. In other words, the lower a stocks share price, the better the performance. This tells us that many traders are making speculative bets in corners of the market that hold much higher risk than is found in larger capitalized stocks.
Lastly, we have seen a rising appetite for the shares of firms that make no money. When we see profitless companies exhibit parabolic rises in their share prices, we think investors should be aware that it could signal some heightened levels of speculation, which again could ultimately usher in heightened volatility at some point in the future.
Weekly Global Asset Class Performance
The team at STA Wealth has attempted to keep our clients apprised of updates related to the markets, economy, government, tax, retirement, and other changes impacting us during this difficult time. As the Coronavirus (COVID-19) pandemic continues to spread, its impact on businesses and individuals has been significant. Stay up-to-date on the latest news with this Coronavirus Resource Center as your go-to resource for commentary, news, and other resources. Bookmark this article to check back regularly for updates.
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