Client Letter 2020 Q4

Q4 2020 Market Results

The fourth quarter of 2020 proved a good one for both U.S. and global markets.  The S&P 500 was up an impressive 12.15% for the quarter, hitting new all-time highs in December.  International was up an even more impressive 16.02% and Emerging markets up an even better 19.70%.  Bonds were up a less impressive +0.67% and short-term treasuries were up less at +0.05%.  It’s hard for bonds to perform well when the buying pressure is clearly biased toward riskier equity assets.

Portfolio Thoughts

Portfolios did very well in the fourth quarter.  Tactical portfolios benefitted from the international and emerging market exposures and the strength they exhibited.  Adjustments we made to value and emerging market investments, along with a rebalancing, helped as well.  Strategic portfolios also saw gains from their International and Emerging market exposures and an added rebalancing.  Momentum portfolios did well, but lagged Tactical and Strategic due to the lack of International and Emerging market exposure.  This is the first time in a long time this has happened.  The momentum model continues to suggest we remain in full U.S. exposure.  We’ll monitor global exposure and see if the model changes.  Our Capital Preservation strategy also had a good quarter, though some bond performance held it back to a degree.

Overall, the markets responded to a very strong Gross Domestic Product (GDP) reading from the third quarter (announced in the fourth quarter) of +33.4%.  Yes, this is an incredibly strong rebound, but it doesn’t fully make up for the second quarter GDP drop of -31.4% (the way the math works, the Q3 gain gets the economy back to about 91% of what it was in Q1, before the Q2 drop.)  Thus, the economy remains smaller than it was in Q1, just before the onset of the pandemic.  This worries me because we are setting new all-time market highs, as our overall economy is weaker than it was pre-pandemic.  Granted, the market is a forward-looking vehicle, and our underlying economy is strong enough to get back to, or beyond, where we were.  But, we’re not there yet, and we have some way to go before we get through this pandemic mess.  We are currently struggling with what many refer to as our third wave of virus infections.  Yes, we have two vaccines with a third hopefully not far off in the future, and that is positive, but the vaccines need to be distributed, injected and (importantly) prove they offer long-lasting protection.  There is no firm evidence yet of how long the vaccines will protect from COVID after inoculation.  In the meantime, at 3,700+ we are well-ahead of our projection for the S&P 500 ending the year at 3,500.

Q4 2020 Notes

I’ll start with my thoughts on the November election.  Politics is an emotional topic and I’ve spoken to plenty of people, clients included, who have strong political views.  I try hard to stay neutral and open-minded.  After a contentious campaign, the country has spoken and we have a new President coming.  In 2016 the country took an unexpected turn toward a non-politician.  Four years later it has decided a lifelong politician is preferred, at least for now.  Nothing remarkable here, other than the fact that we have these elections and can fully expect a non-eventful power transition.  A testament to our Republic.

The fourth quarter continued to hit depressing COVID-19 milestones.  In the U.S. COVID cases now exceed 20 million and deaths exceed 350,000.  Remarkable numbers.  2020 also breaks the record for the total number of U.S. deaths in a single year at over 3 million (obviously, not all COVID related).  The unemployment rate currently stands at 6.7%, far better than the 14.7% from April 2020, but far worse than the 3.5% seen in February 2020.  And we don’t fully understand how quickly, or if, those jobs will come back.  We have limited records of this kind of rapid economic deterioration and what the long-term consequences are.  Here again, part of the reason I have concerns about market resilience.  For all we know, it could take another two years before this economy fully recovers…suggesting the markets are way ahead of themselves if that proves true.  On a better note, these two new vaccines, and hopefully a third soon, should begin having an impact and we may start to see our world getting more like normal in the June-July timeframe.  I certainly hope that’s the case.  I will admit it is difficult to remain patient waiting for a return to normal.

Our government came together in anything but a bi-partisan way to pass the second major economic stimulus plan in late December.  At $900 billion it is smaller than the CARES Act approved in March.  But, nonetheless, it is critical for helping individuals and small businesses that have been devastated by the pandemic.  Recent studies show over 300,000 small businesses have closed since March, and this stimulus package won’t help them, but may help those lost employees.  In addition, there is funding to help non-profit organizations, such as the local Warner Theatre (of which I am a Board member) that struggles to make ends meet because they have no programming or income.  All of this is important to help keep these organizations alive and keep our social fabric in place.  The new stimulus plan has one last Congressional battle open, having to do with payments to U.S. citizens.  The bill has an approved amount of $600 per person, rapidly rejected by President Trump who has demanded $2,000 per person.  While giving more money to individuals may seem like a no-brainer, the issue comes down to the current U.S. debt level.  We are currently at $27 trillion (yes, with a “T”) debt and just added $900 billion more with the new stimulus.  The $2,000 payment would increase that amount by another $500 billion.  And, importantly, this money is not coming in as tax revenue.  It is entirely debt as issued via U.S. Treasuries.  It will have to be paid back in the future, which is a burden on the coming generations.  It’s a complicated choice.  I’m not suggesting one view or argument is better than the other, just trying to understand and report the whole story.

I spoke last quarter about how these stimulus funds are nearly direct-injected into our economy, unlike the quantitative easing seen during the Global Financial Crisis (GFC).  Now, the government will be injecting another $900 billion (possibly $1.4 trillion?) into the economy.  Milton Friedman famously said that inflation is “always and everywhere a monetary phenomenon…”  For those who believe that sentiment, then the concern of coming inflation is significant.  And the market is recognizing that with inflation-protected bonds showing the strongest relative strength of any of our normally researched investment asset classes at quarter-end.  I don’t know if inflation is coming, but it needs to be closely watched.

As always, we will watch and research the global economy and make investment choices to the best of our ability for each and every client portfolio.  If you have questions about your portfolio, our views expressed in this letter, or anything else financial, please do not hesitate to call.

Best Regards,

Jim

Barron Financial Group, LLP is a fee-only Registered Investment Advisor regulated by the Connecticut Department of Banking.

This newsletter is for general information only and should not be considered investment advice.  Investors should consult with a trained investment professional to discuss their particular situation.