Quarterly Newsletter for the 2nd Quarter 2021
The equity markets have had another positive quarter, while the fixed income markets continue to furnish insignificant performances. On a price return basis, the Dow Jones Industrial Average (DJIA) was up 4.61% for the quarter and 12.73% year to date. The Standard and Poor 500 (S&P 500) was up 8.17% for the past quarter and 7.83% year to date, while the NASDAQ finished up 9.49% for the quarter and 12.54% for the first six months. Overseas, the MSCI all Country World ex-US Index has gained 7.83% year to date, with 4.75% coming in the second quarter. In the fixed income environment, however, the Barclays Merrill Lynch 3-month Treasury Bill Index actually yielded 0.00% for the past quarter and only 0.02% for the year through June 30th.
Fixed Income Market (Bonds): The Fed is holding onto its accommodative policies by retaining a low interest rate stance and continuing their quantitative easing. Inflation seems to be the big concern- is it transitory (temporary) or will it be more permanent? The Fed has continued to assert that the rise in inflation, as the pandemic winds down, is transitory and, therefore, should not prompt any change to interest rates. While transient inflation and the weak labor market would support the Fed’s near zero interest rate policy through 2022, there are several factors that may alter that stance. First, the rapidly improving economy may cause changes regarding the Fed quantitative easing policies in the later part of this year. Second, the government’s supplemental unemployment benefits will end for everyone on September 6 (note that 25 states have already ended them). As a function of this, unemployment numbers should drop substantially and could fall below 5% in the fourth quarter. Finally, as the government passes additional fiscal stimulus packages, there will be a need for increased borrowing. This borrowing coupled with the Fed easing up on its purchases of Treasuries should act as a headwind for bond prices.
US Equity Market (Stocks): The post-pandemic recovery is underway. The US economic expansion accelerated in the second quarter and should continue at a strong pace for the rest of the year. Consumer sentiment has surged back to pre-pandemic levels and the consumer has a tremendous amount of cash to invest. GDP (Gross Domestic Product- calculated as the value of all goods sold) is strong and predicted to remain healthy throughout the year. The labor market has shown slight improvement lately as the unemployment rate has dropped from 6.1% to 5.8%. This should drop significantly by year end as the forementioned government supplemental benefits expire. Of interest is the fact that we are now in an evolving economic expansion. Spending for dentist, air flights, taxis, hotels, hairdressers, and movie theaters have suffered. Spending for food consumed at home, lottery tickets, alcohol consumed at home, computers and toys/games has increased. Presumably, most of this spending will level out by the end of the summer and we will witness a broad market recovery. Inventories are growing, corporate profit margins are strong, and the forward outlook is positive. Of concern is the Covid Delta variant and the faint possibility that inflation is not transitory.
Overseas Equity Market (Stocks): The Coronavirus continues to affect foreign countries more than the US at this point. International growth was uneven earlier in the year but should broadly accelerate as vaccines are distributed. The cycle ahead, with stronger international growth, should push the dollar to lower levels. This in turn, will aid in the overseas recovery. The strongest international earnings growth within the developed markets has occurred in sectors like energy, financials, industrials, and materials. As a result, earnings are expected to come from the regions that have the most exposure to these sectors- Europe and Japan. The emerging market regions, by contrast, should realize most of their recovery through structural growth and technological innovation. As a means of comparison, the overseas markets are priced lower than the US market.
Conclusion: As stated in our last newsletter, there is still an enormous amount of cash sitting on the sidelines- waiting to be invested. With interest rates as low as they are, equities appear to be the investment of choice. The broad markets have gone nearly eight months without a pull back of more than 5%, so we would not be surprised to see a mild correction. We are, however, still positive about US stock market. We are also positive about the overseas market and feel that we could see significant gains as they continue their recovery from the pandemic. Navigating fixed income markets will be challenging over the next 12-18 months as nominal yields grind higher and robust economic activity keep credit spreads tight. We are neutral/cautious on this market.