Equity markets moved lower this week, as investors parsed through economic and COVID data and took cues from the Fed on the direction of rates from here. On a positive note, a new pandemic low for unemployment claims was reached, with 684,000 initial jobless claims filed, representing the first time that initial claims were below 700K in more than a year. Meanwhile, COVID cases in the US moved higher, despite record amounts of vaccinations, though the rate of deaths continues to decline. Most alarming, several European locations have gone back into lockdown, as the vaccine rollout there has been mired in controversy and little progress is being made, hampering the recovery. The Federal Reserve made additional announcements this week, with Chairman Powell continuing to reiterate the strength of the recovery yet a reluctance to begin reducing accommodation nor make changes in their support to offset rising longer-term yields. Importantly, while the recent move in rates has been dramatic, a slower rise is expected from here, which should be more tolerable for markets.
We believe that the current environment represents a shift from years of anemic growth and fears of deflation to one where growth could be meaningfully higher, at least in the near term. Companies may seize on this opportunity to invest in growth ahead, creating a virtuous cycle, unlike in the previous expansion where much of their excess cash flow went to purchasing their own stock. Expectations are that corporations will be able to benefit from the marginally higher inflation anticipated, passing on costs to consumers and potentially expanding profit margins. This sweet spot of strong growth and reasonable inflation looks to be further supported by a Federal Reserve that appears to be on hold, with no indications of constraining the expansion, as they emphasize bringing employment back and allowing inflation to run higher than in past cycles. This recipe calls for a goldilocks scenario, though we expect heightened volatility as this transition takes hold. The forces at work belying current market conditions are tremendous, with small shifts able to rattle the entire ecosystem. Crucially, the biggest question now appears to be how much control the Fed has in keeping bond markets anchored, which remains to be seen. Now is a time to be tactical and not rely on the more beta-driven moves of the past decade, in our opinion.
We are not making any changes to portfolios as this time, as we feel well-positioned for the current environment. We remain slightly overweight on risk exposure, looking to take advantage of a strong economic rebound. Despite valuations remaining seemingly high, earnings should grow rapidly this year off of strong consumer demand and investment, boosting the bottom line for corporations and justifying current prices in our view. While the bond market continues to suffer from rising yields, we believe this indicates that economic growth should accelerate rapidly this year and provide further support to risk assets. Higher yields will ultimately provide opportunity for fixed income investors to lock in better returns in the years to come. 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.