Westlake PWM Insights

Quarterly Missive

Here we are already in December.  For some 2020 has been a normal year, with business as usual and one month quickly dissolving into the next.  For many others however, the year has moved agonizingly slow – a most unusual, most unforgettable year in countless ways. Many of us have been no more than a degree or two of separation from a family that has experienced great loss and hardship, and nearly all of us have been compelled to alter our way of life in sometimes epic fashion. But If there is a silver lining here, the year is nearly over – the calendar will turn and 2020 will fade. Before we know it spring will return again, and with the recent spate of vaccine announcements, life at that point may begin its return to normal…prayers up and fingers crossed.  

What strikes many as most peculiar is how the financial markets have seemingly shrugged off the events of this year. A global pandemic that resulted in more than 62 million infections and 1.5 million worldwide deaths1, a permanent change to the way of life for many, the slashing of jobs and economic growth – and yet as of this writing (12/3/2020), the S&P 500 has returned nearly 14% year-to-date.  Anyone hibernating these last eleven months might awaken to the reality of a solid year then ask what the fuss was all about. 

So in light of this year’s events, why are the markets positive?  Simply put, the markets are a discounting mechanism that care less about what is happening today and more about the expectation for what may be happening six months from now.  COVID-19 was an unpredictable black swan event, yet within a month or so of its onset investors began looking across the valley to the hills on the other side and better days ahead.  Those who did so with trust, patience, and the long-term perspective we espouse have likely been rewarded.   

And still today, that investor optimism and the market’s positive trajectory remains.  We believe two drivers have been pushing stocks to all-time highs: positive developments on the COVID vaccine front and positive results from the November elections.

As of this writing the United Kingdom has already approved a COVID-19 vaccine that may pave the way for the first doses to be administered within a week and “many millions” more before the end of the year2.  BioNTech CEO Ugar Sahin has called it “the beginning of the end of the pandemic2.  In the United States, two potential vaccines are currently seeking emergency regulatory approval and the FDA is scheduled to meet on December 10th and 17th to review the requests.  Vice President Mike Pence recently told US governors that rollout could begin “as soon as the week of December 14th”3.  All this good vaccine news has significantly lifted investor sentiment and equity market performance, and it’s no surprise why.

Regarding the November elections - as we postured on November 4th - we believe a Biden presidency will return a long-overdue sense of calm and predictability to the nation’s governance, while opposing political parties in the White House and Congress will virtually assure gridlock and little risk of the President-elect’s weighty tax reform proposals making their way into law.  Beyond that, we also view Mr. Biden’s nomination of Janet Yellen as Treasury Secretary as a huge positive.  Ed Yardeni, president of Yardeni Research described Ms Yellen as “the fairy godmother of the bull market” because as former Fed Chair, she was “among the most dovish members of the FOMC”4.  Going forward we expect her fiscally conservative approach to remain a positive for the markets. 

So yes, there are abundant reasons to be enthusiastic about the economy and the financial markets.  Yet as much as these positives appear to be the light at the end of the tunnel, we remind our clients that plenty of tunnel, and plenty of concern, remains ahead. 

For one, we remain concerned about COVID itself. Although the promise of a vaccine encourages us, the reality of distributing 100 million or so doses suggests that it may be several months before we get the all-clear. In the meantime, we’ll struggle with a surge of new cases, we’ll monitor increasing hospitalizations, and we’ll worry about the economic damage from the return of government-imposed lockdowns.  We’re not about to marginalize the virus itself, but it’s the lockdowns that concern us.  With an economy that has been losing momentum since August and the federal government’s CARES Act programs largely expiring after July, we’re wary of the impact from restrictions to contain the virus’ spread.  To be clear, measures to protect the elderly or those with underlying conditions absolutely must be undertaken, yet at the same time we need to acknowledge the harm - everything from mental health issues to unemployment and rising poverty levels to economic malaise - that blanket lockdowns cause over the long-term.  As an example, 5.8 million adults say they are likely to face eviction or foreclosure in the next two months, accounting for nearly one-third of the 17.8 million households that are behind in their payments5.  This is not a result of the virus; it’s a result of government-mandated lockdowns in an attempt to contain it. Yes, we are aware of bipartisan Congressional support for a new $900 billion stimulus package which, if enacted, would relieve a great deal of pressure, but we’ve been down this road before with this Congress. The threat of additional shutdowns in the current environment is one that concerns us and is something we’ll be monitoring closely in the coming weeks. 

We are also reminded that November’s election outcome is far from decided.  We’re referring to the makeup of the Senate here, not the presidency.  Remember, our view that the political environment will support a strong economy assumes the GOP retains control of the Senate, which means at least one GOP candidate must win the Georgia run-off elections slated for January 5th.  If both GOP candidates lose, Republicans and Democrats would each hold 50 Senate seats and Vice President-elect Kamala Harris would hold the tiebreaking vote. This scenario would virtually eliminate the gridlock we favor (gridlock is bullish in our view) and would open the door for more of President-elect Biden’s tax platform to make its way into law, potentially throwing a wet blanket on economic growth.  How likely is this to happen?  Not very, according to RealClearPolitics - Republicans are currently favored to win both seats, but the races are tightening6, so stay tuned.  

It also bears mentioning that frothy investor sentiment and stretched equity market valuations potentially magnify things somewhat. One of our favorite sentiment indicators, the CNN Fear & Greed Index, currently sits at 86 on a scale of 1-1007, the highest reading since January and suggestive of extreme bullishness, a contrarian indicator.  We also look at the Ned Davis Crowd Sentiment Poll, a blend of many different sentiment measures, now at the highest level of optimism since before the bear market began in February 20208.  To be fair, there is nothing particularly wrong with excessive optimism; in and of itself it is not a negative for stocks.  But when it becomes extreme, it suggests the market is increasingly vulnerable to shocks and bad news, whether in the form of rising COVID cases, a surprise in the makeup of government, or otherwise. 

So the long and short of it – with a COVID-19 vaccine on the horizon, we see a light at the end of the tunnel and we believe 2021 will be a year of calm and continued economic recovery.  However, we need to get there first, and in the short run there are several uncertainties that warrant our full attention.  We believe the weeks ahead may be bumpy, yet as investors and never speculators, we look across the valley to better days ahead and view the glass as half-full.

As always, we invite our clients to reach out to us with questions and comments, and we remind them that we are here for them always. We remain most grateful for the trust and confidence that is placed in us every day, and we wish everyone good health and the best of everything the Holidays ahead have to offer.

1Wells Fargo Investment Institute – 12/2/2020
2CNN – 12/2/2020
3BBC.com – 12/2/2020
4Yardeni Research – 11/24/2020
5Bloomberg – 11/24/2020
6RealClearPolitics – 12/3/2020
7CNN Fear & Greed Index – 12/3/2020
8Ned Davis Research – 11/30/2020

The opinions expressed in this e-mail are those of the author(s) and are not necessarily those of Wells Fargo Advisors Financial Network or its affiliates. This piece has been prepared for informational purposes only and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Investing involves risk including the possible loss of principal. Any index referenced is presented to provide you with an understanding of its historic long-term performance and is not presented to illustrate the performance of any security. Investors cannot directly purchase any index. Past performance is not a guarantee of future results and there is no guarantee that any forward looking statements made in this communication will be attained.

Wells Fargo Investment Institute, Inc. is a registered investment adviser and wholly-owned subsidiary of Wells Fargo Bank, N.A., a bank affiliate of Wells Fargo & Company.

CAR PND-1220-00636