Commentary

It goes without saying that 2020 was a historic year. The COVID-19 crisis which increasingly swept the world, had a dramatic impact across all aspects of society and life including economic life; resulting in the most bewildering and astonishing year reflected in the most amazing and extraordinary chart I’ve seen in my 30 odd years of following economies and markets. How about that for hyperbole?!?

It ‘tis the season to be jolly goes the old holiday carol and that has certainly been the case for small cap investors of late. After plunging deeper and then lagging their large cap brethren from the onset of Covid-19, small caps have coming roaring back. Relative outperformance has been especially strong since early November and YTD small cap returns of 18% now eclipse the S&P 500 return of 15%.  Those are very solid returns for any year, and outstanding returns for a pandemic year! At Timber Point we had highlighted the rotation we saw occurring in the market in our quarterly update in early October suggesting a stronger weighting to small caps and we have been rewarded. The question now becomes, do we believe that small caps will continue to outperform as we move through 2021?

Although the presidential election results are not entirely conclusive, the American people have spoken and more so than anything else the election has proven that United States remains a centrist nation and investment markets have cheered that outcome. As of this writing, Joe Biden appears as if he will become the 46th US President of the United States and the Republicans will retain control of the Senate and will have picked up seats in the House of Representatives.

A very successful competitor asset manager in Boston famously produces a periodic report where they forecast expected real returns of various asset classes for the subsequent seven years. This report is often cited in the financial press and is held by many to be the standard of prudent long term thinking about opportunities across various investments and where wise, forward looking investors should allocate their monies. Unique asset classes are very often favored while run of the mill asset classes, such as US large cap stocks and bonds, are typically viewed as unattractive.

Okay, we all need to take a very deep breath. No doubt you have heard the news that Covid-19 cases have increased over the past week, both domestically and internationally. Given what we have been through over the past 6 months this instinctively brings unpleasant memories of economic “lockdowns” and stay at home orders. Let’s look beneath the surface of these numbers to help you understand why we do not think that will be the case this time around.

We reiterate our belief from our last blog that the Covid-19 pandemic is on the wane in the U.S. based on the decline in national and state Covid-19 hospitalization figures that we continue to monitor. As a reminder, we focus on hospitalizations as a leading indicator of future deaths associated with Covid-19. Hospitalization rates across the U.S. continue to decline and totals in the three “hot” states of California, Florida and Texas are no exception. Given that these three states account for ~ 50% of the daily U.S. deaths over the past few weeks this is important. With fewer deaths at the state and national level, we believe that elected officials will gain more latitude to further open local and state economies. In turn, this could lead to a rotation in the U.S. equity market to “reopening” stocks from the “work from home” stocks.

We all may be tired of hearing about Covid-19 but it remains important to monitor as we believe it continues to drive the direction of incremental dollars in the marketplace, specifically the ongoing appetite for “work from home” stocks in lieu of the more cyclically oriented “reopening” stocks. We decided to take a deeper dive into the Covid-19 situation and how the “second wave” in several states (TX, CA, FL) is now playing out. Our conclusion is encouraging given that the three states appear to be experiencing drastically lower hospitalization rates in their respective “hot spots” which should eventually result in lower mortality numbers for the U.S. overall. In turn, this could provide the opportunity for beleaguered sectors to return to more normal levels of economic activity.

Since March, the US stock market has enjoyed a 20% bounce from its bottom seemingly on the vague promise that the US economy was going to re-open and life would resume somewhat normally.  To a subset of investors, the notion of recovery has seemed preposterous as the economic damage inflicted by COVID-19 has been so large, so unprecedented and to a great extent not fully digested by the overall economy today.   A second COVID wave, unemployment, commercial real estate, municipal finances, consumer spending, et al, are at the top of their very long worry list.

This Too Shall Pass….But When? It is very hard to believe that 60 short days ago, the US economy was humming; we were at full employment, consumer confidence was high, interest rates were low, and the stock market had hit all time highs.  The sky was the limit.  Investors were bidding up new economy stocks and all looked good.  And then along came the coronavirus and we all know what happened and we won’t bore you recounting the details of what has been recounted a million times in the media and financial press.

  No sooner than we had published our optimistic outlook for economies and markets did investors experience a somewhat existential event with Friday’s US missile strike, killing Iranian’s military leader Qasen Soleimani. In as much as this event could catalyze into a greater near-term conflict between the US and Iran and more general Middle Eastern strife, we do not believe this will ultimately have a meaningful impact on the global economy...