As plentiful as face masks
As perception catches up with reality, add another catalyst to the fire.
Covid vaccine sentiment remains very low, which seems peachy in Washington. The White House continues to talk about a “dark winter” and to suggest new strains could evade the body’s immune response. To listen to Democratic policymakers (talking their “additional big stimulus book”?) and the media, one would think the U.S. economy is in freefall. The reality is the deceleration after summer’s growth spurt and reopening has been milder than expected and relatively resilient to several surges in Covid. Indeed, daily vaccinations already are far outstripping new daily cases—in less than two months, the U.S. has vaccinated 30% more people than have tested positive for Covid in a year. More than 37 million doses in the U.S. and 119 million worldwide have been administered, daily inoculations in the U.S. have climbed above 1.3 million and daily cases have fallen three straight weeks at a pace of 25,000 a day. At this rate, new cases could drop below 50,000/day by Valentine’s Day. Notably, there were no hospitalizations in the latest vaccine trial results that included the highly transmissible U.K. and South African variants. In fact, daily cases in South Africa are collapsing. Indeed, none of the people in the trials of the five main vaccines to report results so far were admitted to hospitals and no one died. Once all this news starts settling in and supplies continue to grow (Johnson & Johnson just filed for emergency approval), the gap between reality versus perception is certain to narrow. On top of an already highly supportive environment (read on), the least-expected consensus outcome—no 10% correction—may well become the most likely outcome. Who’s not tired of this crisis? I know I am. I have a new beach house (!), to the severe detriment to the children’s inheritance (sorry). There’s A LOT of pent-up demand out there.
The new bull market appears to be transitioning from “Hope” to the “Growth” phase. Profits are strengthening—for the third straight quarter, more than 4 of every 5 companies are beating estimates, the highest percentage since at least 1994, and earnings-per-share that was expected to contract 8% at the start of the reporting season is now on track to grow 2%. The global economy is accelerating (more below). And a potential $2.8 trillion in new fiscal stimulus is on the way. This includes December’s $900 billion Covid relief bill and potentially up to $1.9 trillion if all of President Biden’s plan passes. Combined, this would amount to more than 13% of GDP. This doesn’t include $2.9 trillion of savings leftover from last year’s earlier Covid relief packages, Bank of America estimates, or a second, larger “Build Back Better” economic stimulus plan Biden is expected to unveil at his State of the Union later this month. All this liquidity is feeding a reflation trade and renewal in the rotation in leadership from growth to cyclical value stocks that stalled with the new year. In the past, when transfer payments rose significantly (they accounted for a fifth of personal income in 2020 and could reach 25% under Biden’s plan), consumer discretionary stocks outperformed the market 60% of the time, with excess annual returns of +5 points. Energy, financial and industrial stocks benefitted, as well. Indeed, some on Wall Street believe that, after a decade of stagnation, oil and commodities may be on the verge of a new super cycle. Inflation? Perhaps. But that’s a worry for another day (more below).
It’s popular to equate today’s euphoria with late 1990s’ dot-com or even late Roaring Twenties’ radio bubbles. But there are significant differences. Today, it seems interest rates are likely to stay near zero through 2022, and the global recovery has only begun. In the two prior bubbles, recessions were just around the corner and monetary tightening was underway. The market last week certainly experienced an acute episode of volatility that the madness of crowds can facilitate. While there’s little doubt Washington will seek to clamp down (more below), Strategas Research suspects Wall Street hasn’t seen the last of the Reddit Renegades. Free time, free money (on top of record savings), leverage, and unfettered access to both social media and the capital markets would seem the perfect cocktail for digital populism. A new “barbarian” is at the gate. Still, TrendMacro views the GameStop affair as a tempest in a teapot—not classic evidence of a market top. Retail blow-offs tend to be in over-loved momentum stocks, which wasn’t at all the case here. If anything, all the activity may helped alleviate some market pressures. The real market driver still seems to be Covid sentiment, which has been wallowing in distribution and mutation concerns. But in a few months, the world’s likely to be awash in vaccine supply … as plentiful as face masks.
- A ‘V’ all over ISM services hit a 2-year high, Markit’s manufacturing PMI hit a record high and a shortage of housing spurred a 3.1% jump in residential construction in December, a fifth consecutive month of brisk growth. Evercore ISI says these improvements, as well as more stimulus, have reduced economic policy uncertainty below the levels of last February, when the pandemic was just starting. Overseas, eight of 18 manufacturing PMIs topped 55, indicating robust growth and expansion.
- Capex has strong multiplier effects December factory orders rose an eighth straight month and above expectations, led by manufacturing orders ex-transportation, a sign of increasing capital expenditures. Cornerstone Macro sees stronger capex lifting potential GDP toward 3% versus the consensus 2%. Two industries with histories of producing strong operating leverage in up-cycles are semiconductors and industrial capital goods.
- A reason to think “international” While valuations are historically expensive for U.S. equities, especially growth stocks seen as invulnerable to economic or public health conditions, this is not generally true of equities outside the U.S. Gavekal Research shares that a Shiller-type cyclically adjusted price-earnings ratio for non-U.S. markets is lower today than at almost any time since the early 1980s.
- This helps the “Go big” case At +49K, January nonfarm payrolls rose much less than expected, and December’s losses were revised sharply up. Notably, manufacturing payrolls slipped for the first time in nine months, possibly on chip shortages that are disrupting auto supply chains. Other reports on the week, including ADP payrolls and jobless claims, reflected improvement, but not at a pace that would discourage Congress from acting big on more Covid relief.
- This may be the biggest worry This week saw the highest eurozone core inflation print in five years and U.S. prices paid in the manufacturing ISM hit 10-year highs. There has been a massive surge in shipping rates, oil and commodity prices are rising sharply and in coming months, consumer prices are sure to jump off beaten-down year-ago levels when demand collapsed due to the pandemic. The Fed acknowledges these factors but still views the price pressures as temporary and continues to hew to its “not thinking about even thinking” about raising rates mantra.
- Productivity not as bad as the headline Annualized nonfarm business productivity was far worse than expected in the fourth quarter, plunging 4.8%. Yet UBS saw some positives. The drop-off suggests hard-hit restaurant, leisure and other service industries, where productivity is dramatically lower than the overall economy, are starting to reopen, another step toward a normalizing economy.
Where’s my refund? Since unemployment benefits are taxable and most recipients don’t withhold taxes from them, the upcoming tax refund season could prove disappointing. Fattened by federal stimulus, roughly $550 billion of unemployment benefits were doled out in 2020. Using a blended federal/state tax rate, that suggests a potential tax liability as high of $65 billion, about a fifth of annual tax refunds.
GameStop fallout—less volatility? It’s unlikely there will be a Dodd-Frank response to the frenzied trading in “meme stocks,’’ but Gavekal believes this week’s meeting of financial regulators over the issue will result in some sort of decisive action. At the very least, it believes all long-short equity funds will review risk-management policies with a goal of making shorters less vulnerable to being squeezed—an outcome that results in a less, not more, volatile market.
GameStop fallout—more active strategies? The Institutional Strategist says the surge in new retail day traders—Cardify says the majority are 18 to 35, with 44% having less than a year of self-directed trading history—may just be getting started. As more and more warm up to taking greater control of their own finances at the expense of more traditional options, it could result in mammoth buying power and hard-to-quantify risks, making for a market more suited to active management.