2020: A matter of perspective

Summary: In this month’s video and blog Investment Specialist, Kirsty Clark reflects on a year in which fortunes defied expectations. Will 2021 hold more of the same?

Despite an acute rise in COVID-19 infections in December, the initial roll out of approved vaccines, and more encouraging economic and earnings data, fuelled hope of a return to some sense of ‘normality’ in 2021.

All major equity markets posted positive returns in December. Small caps outperformed their large cap counterparts to finish the year in line, and both value and growth stocks continued to rally, but the growth style outperformed, securing strong relative gains over the year as a whole.

During the month, the MSCI AC World Index finished up 4.7% in US dollar terms.

Rising risk appetite boosted the FTSE Small Cap Index, while the mid-cap FTSE 250, the large-cap FTSE 100 and the German DAX also outperformed as an (albeit slim) UK/EU trade deal was struck at the nth hour. Emerging markets and Asia ex Japan were the strongest regional performers overall. US and Japanese equities, and Chinese A shares also gained ground but were among the weakest relative performers.

Elsewhere, government bonds underperformed as investor risk appetite grew. German 10Y bunds remained in positive territory but US 10Y treasuries lost ground over the month, and the US dollar continued to weaken against a basket of currencies.

In commodities, Brent crude staged a strong recovery – finishing the month above $50 per barrel. It has rallied over 165% since its March lows, but finished the year down more than 20%. Gold also rallied into year end and finished the year up some 25%.

At a sector level, cyclical sectors were among the strongest performers in December. Materials led the gains, tracking the CRB Commodities Index higher. Financials and consumer discretionary also performed well, and energy stocks rallied with the oil-price rise. Emerging markets and Asian countries with higher exposure to energy and mining names were the key beneficiaries.

Technology stocks continued to outperform into year end, particularly tech hardware and semiconductor names in the US, Japan, Taiwan, Korea and China – boosting full-year returns for the NASDAQ, Nikkei, and MSCI Asia ex Japan indices in particular.

If simply looking at equity market performance over the course of 2020, we’d be forgiven for thinking it’s been a pretty good year, with most regions and sectors delivering positive returns for investors…but the picture looks a little different when reflecting on the broader economic and healthcare toll the pandemic has inflicted.

In October 2019, global GDP in 2020 was forecasted to grow by around 3.4%. More than one year on, global GDP in aggregate is now expected to contract by 4.4% in 2020.

The GDP growth predictions in 2019 (illustrated on this slide by the orange bars in the top chart) subsequently reversed (denoted by the dark blue bars) as the magnitude and impact of the crisis became increasingly apparent.

In the bottom chart, it’s interesting to observe, on the right hand side, that some of the countries with the greatest number of registered infections on a standardised basis have experienced larger relative GDP growth revisions – as necessary measures taken to curb cases has reduced demand and brought much economic activity to a standstill. At the opposite end, countries able to rapidly quell the spread of the virus have been able to limit the relative economic fallout to date.

In a globalised world, countries rarely operate in isolation, so these are very loose correlations at best, given the number of variables influencing both data sets –  such as the nature and speed of the response to outbreaks, country-level economic drivers and COVID-testing regimes. However, some broad comparisons could potentially offer useful insights in dealing with future outbreaks.

As authorities have tried to balance the social and economic wellbeing of their countries, strategies to address the outbreak and economic fallout have differed. The cluster of countries in the middle of both charts bucks the observable trend outlined above. The ‘lighter-touch’ restrictions adopted by Sweden and Switzerland, for example, have led to greater relative infection rates in each country, but less severe near-term economic impact.

In the US, swift action taken to support the economy in the early part of the outbreak, helped to limit the economic fallout there but slower action, and more disparate efforts across states to contain infection rates, has left the country with the highest number of registered COVID-19 cases globally, and per capita.

COVID-19 vaccine penetration globally is still in its infancy, and logistical and distribution challenges remain. What’s more, there are remaining questions around the ability of vaccines to prevent asymptomatic transmissions, the longevity of protection afforded after vaccination, and the impact of new variants.

So, for now, authorities will still strive to balance societal healthcare needs with economic concerns.

If the anticipated recovery remains on track, and vaccine uptake and efficacy proves successful in unlocking deferred demand, boosting earnings and reigniting job creation, we should expect to see the market rally broaden in 2021. Certainly, those unloved value stocks and cyclical laggards of 2020 are well-positioned to participate.

There will also be attractive opportunities among beneficiaries of increasing infrastructure spend and green recovery packages, as governments ramp up fiscal spending, along with companies exposed to longer-term structural growth trends including digital technologies, climate solutions, healthcare innovation and social wellbeing.

However, risks remain and investor optimism in December means that much good news has already been priced in. Equity valuations in aggregate are at elevated levels versus long-term averages – leaving some areas of the market vulnerable to correction. As the events of last year have shown, markets can be incredibly unpredictable, so selectivity remains key in 2021.