Stock prices, measured by the S&P 500 jumped a remarkable 10.7% in November, and are now up 14% year to date. November’s returns are the third best for any month over the last 20 years, led by 12.7% in April ’20 and 10.8% in November ’11. To contextualize these remarkable figures, it is worth pointing out the worst monthly returns during the same 240-month span. October ’08 saw stock prices fall 16.9% with the onset of the great financial crisis. In March ’20, COVID 19 hit, driving prices down 12.5%. Finally, in September ’02 prices fell 11% resulting from the dot com bust, 9/11 and a horrific recession (from its peak in March of ’00, the market had fallen 50% by October ’02). The market will move to the extreme, both up and down, and we often don’t know why until after the fact.
November’s jump in stock prices is likely due to multiple factors. The first, and most important, was the election of Joe Biden and Kamala Harris on November 3rd. The market responded favorably with the expectation that we will see 1) sensible, forward-looking policies to stimulate and rebalance the economy; 2) renewed emphasis on alternative energy and environmental sustainability; and 3) definitive steps taken to begin addressing some of the economic and social barriers perpetuating embarrassing levels of inequality. Importantly, the nonsensical trade war will end, and this alone will provide a boost to GDP.
Positive data was released by Pfizer/BioNTech on 11/9, Moderna on 11/16 and Astra Zeneca/Oxford on 11/23, providing a monthlong hope trade premised on economic re-opening. However, the virus is raging with new daily cases in excess of 220,000 and deaths in excess of 2,000 per day. When the vaccines are approved, the difficult task of prioritizing who receives the vaccine first will come into play. The roll out means help is on the way, but it’s not at all clear when enough of the population will be adequately protected. Nonetheless, November saw investors buying stocks with the expectation the virus will be contained.
Another fundamental driver of the recent stock price surge is corporate earnings. Q3 results were better than feared, we are seeing more companies reinstate guidance and forward expectations are high. In 2Q, earnings fell by over 20% due to the implosion of business activity in the travel/leisure sectors on fears of the virus, in the energy sector with oil prices less than $1 per barrel and in the financial sector with banks making huge provisions for the anticipated loan losses. Now, as businesses attempt to emerge from the pandemic-driven recession, stock prices are discounting a substantial recovery in earnings by late ’21.
November market activity generated a dramatic rotation from growth stocks to value stocks, along with the re-emergence of smaller cap stocks. This pro-cyclical trade is premised on a full economic recovery, rising interest rates and inflation. In my opinion, the cyclical trade has largely run its course and the economy is going to take a long time to fully recover. Stimulus aside, interest rates will remain low for a long time and there are structural shifts in effect which make a return to traditional levels of growth and inflation unlikely.
In my opinion, a drawn-out recovery does not mean that stocks cannot continue to perform. First of all, the economy is not the stock market. Second, we own select stocks in which we are confident they can generate above market returns. Growth, free cash flow and dividends remain critical fundamental qualities we screen for in our selection process. We have shifted our focus to accommodate the cyclical trade, and own numerous stocks today we would have never considered owning prior to the pandemic. We will watch and make further adjustments as circumstances dictate.
As we approach year end, we are available to review your accounts with you, with a special view towards capital gains. The good news is that returns have been solid this year and we can reserve funds for future tax payments. Tax planning, or at least tax awareness, is prudent at this time of year. Please feel free to check in with us; we are continuing to primarily work from home with limited work from the office. Take good care and please be safe out there.
Bruce Hotaling, CFA