Superlatives abound when describing the events of 2020. Here are a few of the highlights:
From the perspective of risk assets, 2020 provided us with both the heights of exuberance and the depths of despair.
Fixed income - hunt the yield
After the initial COVID-19 shock early in the year, global bond yields resumed their long-running march lower, with the result that an even greater volume of sovereign debt now offers negative real yields. Additional bond purchasing by central banks merely added fuel to the yield compression fire. Credit spreads were influenced by the same financial largesse and equally, they have narrowed to the point where a growing number of corporate bonds also now sport negative real yields.
Understanding that central banks have effectively put a floor under credit markets, most fund managers are content to stay invested despite the paltry yields on offer. However, as we enter 2021, they are equally aware that a great deal of optimism about the post-COVID recovery has been priced into credit markets. Furthermore, managers are also weighing the prospects for higher inflation in the coming year. The base effects from 2020 alone will register higher inflation rates, which in turn will inspire a keener focus upon duration positioning.
Equities - a year of extremes
At the beginning of 2020, our outlook for equities struck a cautious tone. We were nervous about stretched valuation multiples in some sectors, given a near absence of earnings growth in 2019. We also noted that the economic cycle – muted as it was - was long in the tooth, approaching its 11th year.
Never in our wildest dreams would we have imagined that a pandemic would be the trigger for a pullback… and what a correction it was! The scale and speed of the collapse was unprecedented, and, in the teeth of the panic in March, many equity markets (excluding the US) looked attractive again when viewed on a long-term basis. However, the rebound was equally ferocious. The practical reality was that investors had a very limited window to get involved and by May, a significant part of the rally was already behind us.
The second leg of the market recovery was inspired by the success of the vaccine trials and the focus shifted away from the “stay at home” stocks, typified by the “FAANGs”, in favour of the virus-hit sectors such as travel and leisure, industrials and financials.
The rebound in risk assets was given huge impetus by overwhelming monetary and fiscal support. Central banks offered liquidity support far in excess of that given during the global financial crisis, amounting to north of US$15 trillion globally.
With interest rates near zero in most developed markets and bond yields sub-1% (in the below 10-year maturity band), investors happily chased equities higher and the fourth quarter saw some genuinely silly IPO valuations in the US market, echoing past bubbles.
Given the scale of the decline in nominal bond yields and the compression of corporate spreads, the opportunities for a capital return from large parts of the fixed income spectrum is limited. This suggests that 2021 will be tough going for bond investors, which is likely to favour those managers with more flexible mandates and approaches. Alternatively, investors might look to hold a blend of different fund types to help navigate the choppy waters ahead.
In equities, we are presented with some of the same challenges as year ago, together with some new ones. Broadly:
Finally, we have been positively disposed to gold and, increasingly, other commodities as 2020 progressed. We are maintaining our constructive views given the scale of fiscal and monetary largesse around the world and the prospect of better economic times as the year progresses.
All in all, we expect further volatility this year and we would be well-advised to brace ourselves for market rotations and air pockets in asset prices as the world adjusts to a different phase.
We wish you the very best of luck in 2021 and hope for better times ahead for all.
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About the author
Peter Toogood, CIO, Embark Platform
Peter launched The Adviser Centre in May 2014, whilst employed by City Financial He was co-founder of the original Forsyth-OBSR Ratings Service in 2002. He joined OBSR in 2008 and was responsible for establishing the firm’s fund advisory business as well as continuing to conduct manager research.
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