Investors cheered on hopes for additional stimulus out of Washington this week, believing that the new administration and a slim Democratic majority in Congress could unleash trillions of dollars in spending to help support the recovery from the COVID pandemic. Bond investors shared in the outlook, unloading Treasuries and sending yields to the highest levels in nine months, with the 10 year Treasury now firmly above 1%. Meanwhile, the economic picture continues to deteriorate, with unemployment claims jumping the most since March, as almost one million Americans filed for benefits. With rising Treasury yields, mortgage rates also jumped to the highest in two months, providing a potential headwind to the housing market if sustained. Investors will be hyper-focused on earnings reports which begin with the large banks, parsing through their analysis of economic conditions and their outlook for 2021. Expectations are high, but potentially still too conservative, given corporate America’s remarkable resiliency and ability to produce additional earnings despite the challenges seen last year. Looking out globally, the relatively successful completion of Brexit provides a small tailwind to European risk assets, while emerging markets continue to shine. In particular, China and other East Asian economies have largely rebounded back to their pre-COVID levels, while earnings have accelerated higher. The ramifications of a global economy with significant disparities in the speed of the restart are showing up in asset prices, though we believe there are still significant opportunities not currently being appreciated by global investors in select markets.
Many are questioning the stability of the current rally, as several indicators are showing extreme levels of complacency for equity markets. With short interest near record lows, call option buying feverish, extreme penny stock trading volumes, and mom and pop investors fueling remarkable price gains in a handful of popular stocks, there are signs everywhere of froth. Even the Federal Reserve appears to be focusing on financial stability, with concerns over potential bubbles, likely referring to assets like Bitcoin. At the same time, a Fed that looks to remain accommodative and fiscal stimulus out of Washington, coupled with expectations of a powerful earnings rebound provides plenty of reasons for optimism. Add to that consumers with record amounts of cash, and you have a recipe for a powerful rebound. On balance, however, we believe that prices may be ahead of themselves and that markets face the risk of a near-term pullback. For those reasons, we are trimming our equity allocation marginally, to reduce risk exposure and provide liquidity. We remain confident that the overall equity market’s trajectory is higher this year, but that exuberance and risks from COVID and a bumpy economic restart could make for a rocky road ahead. The key, we believe, will be actively selecting the winners in this stage of the recovery, as the reopening will clearly benefit some sectors and companies more than others. This rotational leadership change may well add to volatility ahead, and reward those with a sharper focus and more flexibility in their investment mandate. As always, we continue to remain extremely focused on monitoring unfolding market dynamics and reacting only when appropriate. Please feel free to call our office with any questions you may have.