A lot has happened since the U.S. bond market bottomed on March 16, 2020, and the Federal Reserve announced that it would start aggressively buying bonds to support the bond market, stock market and the economy. The U.S. stock market bottomed on March 23, 2020, and since then has rebounded to all-time highs.
Let’s look at where the U.S. stock and bond markets stand today, as well as our thoughts on where we think things are headed for the rest of the year.
In this blog, you’ll learn:
- How the technology sector hit an all-time high and then dropped significantly
- The sectors that have rotated in the U.S. stock market recently
- Is the U.S. stock market set to soar, or is it on a sugar high?
- 7 Signs that the U.S. stock market could be getting over-valued
- Are Rising Interest Rates Bad for Bonds?
- Our market outlook for the remainder of 2021
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What a Difference a Year Makes for the Stock Market
In February and March of 2020, the U.S. stock market (S&P 500) dropped about 34% on the fears and uncertainty of a worsening pandemic. With trillions of dollars of support from the Federal Reserve and Congress, money flowed into all markets turning this into the fastest recovery we have ever seen.
While it was a difficult year, the good news is that a lot of progress has been made and we are optimistic about the future. With the three-phase approach against COVID-19 of testing, improved hospital treatments and vaccines, humans are on track to survive and hopefully thrive despite the virus.
Industry Sector Focus
Information Technology is a sector that led the recovery over the past year and reached a high in mid-February 2021 - however, it has fallen about 13% since the peak.
Other sectors that did well until mid-February included companies in the cloud computing, semi-conductor, e-commerce, clean energy, and biotech sectors.
In the past few months, there has been a rotation out of these sectors that have run up during the peak of the pandemic. Sectors that have rotated in are ones that could benefit as the economy reopens and the rollout of the vaccines progresses.
These sectors include banks, oil-based energy, travel and leisure, as well as smaller companies - however, notice even these have pulled down almost 10% in just a few days.
Is Growth Inevitable?
We believe that the rollout of the vaccines throughout the U.S. and massive stimulus from the Federal Reserve could enable the U.S. economy to continue to improve throughout the rest of 2021. (Read more about our Economic Outlook).
The U.S. stock market seems to be pricing in predicted growth in the economy for the rest of this year and into 2022. Yet, when we see stocks for smaller companies, financials, hotels, airlines, and casinos at or above their pre-pandemic levels, we think they may have run too much too fast and could be at risk of a pullback. It will be interesting to see how this all plays out.
U.S. Stock Market – Set to Soar or on a Sugar High?
Consumers in the U.S. have saved more than normal during the lockdowns of the past year. As we talk with clients, they tell us how much they are looking forward to traveling again and going to live sporting events. Pent-up demand could cause a boom in spending on travel, leisure, sporting events and entertainment.
In the past year, the U.S. Federal Government has delivered 3 rounds of stimulus bills, including the most recent $1.9 trillion bill. This massive stimulus should help the economy, however it has sparked the debate that maybe it is too much and that it could cause the market and the economy to overheat.
7 Signs the Stock Market Could be Overheating:
- The valuation of the U.S. stock market, as measured by the Price Earnings Ratio (P/E) of the S&P 500, using the current earnings of the S&P 500, is near the all-time high
- Bitcoin has soared to all-time highs
- Some hotel and travel stocks are well above pre-pandemic levels, yet hotels and airplanes remain half empty
- After the large Federal Stimulus bills were passed last May and December, we saw some highly speculative trading in stocks such as GameStop and AMC
- The value of corporate equities as a percent of GDP, is at an all-time high. This is called the “Buffett Indicator” because Warren Buffet often calls this his favorite valuation metric
Source: Charles Schwab, Bloomberg, as of 9/30/2020
- Special Purpose Acquisition Companies (SPACs) which are also known as blank check companies, saw a huge jump in 2020, and during the first 3 months of 2021. They have raised as much money as they did during all of 2020 and their stock prices have been extremely volatile. In February 2021, for every $1 raised for a company to enter the stock market with an Initial Public Offering (IPO), the SPAC market raised $3.761.
SPAC’s raise money from investors and have no explicit business plan other than to acquire or merge with an unspecified private company at some point in the future. They typically are listed on the New York Stock Exchange and have up to 24 months to acquire a target company. If a deal isn’t made by the two-year mark, they must dissolve and return the gross proceeds to shareholders.
Source: SPAC Research, Reuters, U.S. Global Investors
- Margin Debt, which is the amount of money investors borrow from their brokers so they can invest more in the market, was at an all-time high at the end of February 2021
Source: Advisor Perspectives, March 2021
To summarize, we see many factors that indicate the stock market has increased risks due to the factors mentioned above. Yet, positives for the U.S. stock market include the large amount of stimulus from the Federal Government and Federal Reserve and a U.S. economy that is expected to improve as the year progresses with increasing vaccine distribution.
We expect a tug-of-war between these factors that could lead to market volatility during the year causing us to raise more cash for either investment opportunities or available for our clients that have informed us they will need funds in the near term.
Are Rising Interest Rates Bad for Bonds?
The U.S. Federal Reserve has kept the interest rate near zero for the Fed Funds Rate, which keeps interest rates low for very short-term treasury bonds. However, the interest rates on longer-term treasuries have been rising in the past few months.
When interest rates rise, the value of bonds goes down – which is an inverse relationship. A common measure of the U.S. bond market is the Bloomberg Barclays U.S. Aggregate Bond Index which hit a high in August of 2020 (when interest rates bottomed) and has been declining since.
Source: Hidden Levers
Will Interest Rates Continue to Rise?
It is very difficult to predict the continued trajectory of interest rates.
We have adjusted the bond portion of our client portfolios to reduce the exposure in the bond funds to rising interest rates.
Our Market Outlook for the Remainder of 2021
Overall, we remain optimistic for the U.S. stock market for 2021.
If we continue to see a successful rollout of the vaccines and a reduction of COVID-19 cases, the pent-up demand could have a very strong positive impact on the economy.
Money from the $1.9 trillion American Rescue Plan Act should continue to roll into the economy throughout the year and the Biden Administration is now talking about a new infrastructure bill that would add more money into the economy.
We also see some very strong and positive themes in the economy that can continue to move our country forward. You can read more about our top investment themes for 2021 in our recent article.
While there are risks that we noted above, we think the trend is likely higher. With so much uncertainty in the economy, we will continue to keep a close eye on the stock market.
Financial Journey Partners is Here to Help You
Our Financial Journey Partners office is based in San Jose, California. We have clients that live in many states across the country. If you have questions about your investments or financial situation, call us to schedule time to talk about your specific situation.
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1 Advisor Perspectives – SPACs Power Past 2020 Record, Raising More Than $83 Billion in Three Months