Rising unemployment, a public health crisis, a slowdown in economic activity, mayhem amid widespread civil protest (Black Life Matters & US Capitol Attack), and a stock market that marched higher in 2020.
The stock market is not the economy and this divergence makes sense for several reasons. The stock market is not the economy and this divergence makes sense for several reasons. Stock market investors are futuristic or have a long vision and they invested with - the anticipation of better days ahead. With central banks coming into action, unleashing a colossal amount of monetary stimulus and a series of interest rate cut along with the Congress providing huge fiscal stimulus in the form of trillions of dollars in stimulus checks and relief on business loans have propelled markets to all-time highs.
At the current juncture, there are several factors that are at play in the background of the administration such as the ongoing pandemic, as well as the frenzy of retail investors. The direction of the market shall be influenced by one or more of the below-mentioned factors coming into the picture.
Positives for the market Accommodative Fed
This factor is probably the most important considering the Fed indicated that it sees enough danger in the economy that will force them to keep the fed funds rate near zero for the foreseeable future, perhaps till 2024. They have indicated that even if inflation rates rise above their stated targets modestly (which is 2 percent), they will continue with their interest rate and monetary stimulus policies. This liquidity is a very big factor that could drive markets.
The new administration (under President Biden) has specified that they will put their best foot forward to help revive the US economy. Currently, the new administration is pushing hard to pass that $1.9 trillion stimulus to tackle the economic fallout from the pandemic.
Other policies championed by the administration, such as a big infrastructure spending plan and legalizing 15 million illegal aliens, if enacted, would be a boon for the economy and should be considered fiscally stimulatory.
The world is innovating faster and the US continues to lead the pack. This is indicated by the rush of innovative companies across the world, including those from China, looking to list in the US markets.
Professional investors are underweight
Professional money managers have been skeptical ever since the relentless rally started in March 2020 and have been underweight in the market. According to a recent note from JP Morgan, institutional equity positioning is still at 30 percent of 15-year average. This is a bullish contrary indicator that says that FOMO (fear of missing out) can drive markets higher.
Negatives for the market Higher Taxes/Newer Taxes and more regulations
Expect higher individual and corporate taxes to be enacted and a lot of pushback against big tech paying hardly any taxes by using loopholes. There has also been a buzz of newer ways of raising capital such as a wealth tax/transaction tax on trading/inheritance tax/carbon tax and a slew of new regulations, etc. The success of these measures depends on how well the liberal wing of the Democratic party is able to assert itself.
Risk of normalcy being delayed
The current consensus is that the economy will be back to near normal by late spring and would be humming briskly by summer. Delays in vaccine distribution and the emergency of vaccine resistant mutations of the virus may delay normalcy by many months.
The world continues to be a dangerous place considering the conflicts around the world particularly relating to US/China rivalry or nuclear developments in other hot spots can shock the market at any time. However, the Biden administration is re-engaging with the world leaders to cool down the situation.
The markets are highly valued by many historical yardsticks though much of it is explained by low-interest rates as well as a fiscal and monetary stimulus in play. Any Fed policy moves to tighten or failure to enact projected fiscal stimulus measures will have a deleterious effect on the market.
“Tomorrow Ready” Thematic ideas
By many measures, the US market is overheated, so we do expect a correction sometime this year, perhaps in the first quarter. However, we do expect the markets to close out the year decently higher than where we are at the time of this writing (Mid-February).
For sustainable long-term performance, we need to identify the themes of tomorrow, not the winners of yesterday. Identifying the right theme and avoiding the wrong ones, are the keys to getting an Alpha over the markets. Some of these themes are quite inevitable and unique, which are available in the US markets. The global investing route allows for domestic investors to explore these ideas and benefit from their long-term growth story.
The second step is to identify the stocks that are most aligned to these themes. With over 7000 listed shares and over 1500 ETFs to choose from, this task is extremely important to filter our winners further.
The authors, Rajan Pathak and Soumyo Sarkar, are MD at Fintsoand CEO at Sumit Capital LLC respectively. The views expressed are personal.