1/3/21
S&P 500: 3756
Nasdaq: 1288
10 Year Treasury: 0.9%
David R. Snyder, CFA
2021 will be a reversal of 2020. With few exceptions every investment strategy that performed well in 2020 will not do well in 2021, and vice versa. Just turn 2020 investment returns by strategy, sector, and style upside down and you will have an accurate forecast for 2021 investment returns. Everything investors hated in 2020 will turn in to a lovefest in 2021. Value, small cap, cyclical, international and equal weighted equity strategies will outperform while long term US Treasury bonds will have negative returns. Services will ouperform goods.
Technology and internet stocks will underperform while financials especially banks will outperform. Despite the Democrats winning the Presidency alternative energy stocks will underperform while oil and gas stocks will outperform. The US economy will exceed the highest estimates for economic growth in 2021, spurred by the unleashing of enormous pent-up demand after Covid is brought under control. World GDP will also exceed consensus forecasts but by a lesser degree than the US.
Growth stocks that benefit form a Covid recovery have the best chance to outperform this year. Most internet stocks will underperform as their stock valuations overly discounted the benefits from Covid. The bull case for online stocks to continue to outperform is that business is not going back to where it was pre–Covid when Covid is defeated. Also they will now have recurring revenue even if they don’t open as many new accounts. But these Covid beneficiaries have essentially pulled forward their terminal values by a couple of years and the recurring revenue is included in reaching their terminal values. Many of these stocks trade at higher valuations now than pre-Covid using metrics such as price/sales and price/earnings in the out years even though their growth rates will slow going forward.
A good example is online shopping. This holiday season online shopping was 46% of sales, up from 28% five years ago. It is likely not going to ever exceed 70% and the last projected 24% of market share gains will likely take longer than five years to achieve, lowering their growth rate going forward. The closer a company’s timeline is to their terminal value the slower the growth rate of the last few years leading up to their terminal value.
Many pundits believe that the work from home Covid phenomenon is here to stay even after we are all vaccinated. I disagree. While there will be some permanent changes, investors will be surprised how quickly people return to their pre-Covid routines. The first time a company using Zoom to close deals loses a sale to a competitor who flies to the clients location and wines and dines them, they are going to reverse their Zoom policy. Mark my words. Also when an employee who works full time from the office is promoted over another employee who is working from home, it will cause employees to second guess their stay at home choice.
There have been many well documented studies showing the psychological benefits of in person social interaction and the detrimental effects of just interacting by phone or video. Zoom and/or phone calls are not a substitute for in person contact. Depression levels and mental illness overall are significantly higher for people with little in person social interaction. Only in family social interaction is not enough.
We also have the “cooped up” effect being unleashed as Covid fades. This is already verified by observing significantly higher vacation reservations for this summer, even in decimated sectors such as cruise lines. This will also translate to more employees wanting to go back to the office to be “part of the world”.
As for the timeline for recovery from Covid, I am forecasting a peak in Covid cases by the second week of January and then decelerating numbers with a significant drop by late February, especially in deaths. There are now 21 million confirmed Covid cases in the US. But antibody tests reveal that the number of people actually infected is five times the number of confirmed cases. Even Dr. Fauci and Dr. Gottlieb (former FDA commissioner) and most epidemiologists agree with this view. That means conservatively at least 105 million Americans have already been infected and that number could be much larger. Even if we continued at the current rate of 200,000 confirmed daily new cases until the end of March, that would be another 90 million infected, bringing the total to at least 200 million American Covid cases by the end of March. At a minimum that is about 61% of the US population with Covid antibodies by the end of first quarter WITHOUT vaccinations.
My point is that it is not going to take over 50% of the US population to be vaccinated in order to reach herd immunity. There will be some overlap with vaccines as about one in three people vaccinated will likely already have Covid antibodies. But the numbers show 100 million Americans vaccinated would add about 67 million new people immune to the Covid virus on top of the 150 to 200 million people already immune by the end of the first quarter. Thus herd immunity would happen much faster than most observers expect.
There is no magic number for herd immunity. Also the way it is portrayed in the media is that the Covid reproduction rate won’t begin to decline until herd immunity is reached. But it is not an all or nothing number. The spread of coronavirus will likely be less at 50% exposure then it was at 40%. So progress will be made before we reach whatever the magic umber is for herd immunity.
There has been some very strong recent studies showing that the antibodies provided by either contracting Covid or by vaccination are likely to provide immunity for much longer than a year. Thus the vaccination process should not have to be repeated as often as expected.
Although the logistics for the vaccine has been disappointing, it should improve considerably over the coming weeks. Johnson & Johnson’s (JNJ 154) Covid vaccine clinical results should be released in the next week or two, and then be approved in February. It will hasten the vaccination process significantly as it only requires one dose, doesn’t have as strict temperature requirements, and JNJ can provide 100 million doses immediately. Along with AstraZenica’s (AZN 51) 100 million doses we will likely have a vaccine surplus by April.
Now with the context of the above analysis, the game plan for 2021 is as follows. A quick nasty 10% correction sometime in January followed by a surge to new highs through the March to April period. Then an extended 10 to 15% correction in to the July-October period, followed by a strong year end rally. Overall the S&P 500 should gain about 10% for the year with the smaller cap and more value oriented sectors doing better. The US dollar will continue to slide lower. The 10 year Treasury will likely reach at least a 1.5% yield. Bitcoin will trade lower after peaking sometime between January and March.
The stock market’s correction beginning in the April to May period will be simultaneous with a strengthening economy and higher interest rates. All of the naïve investors who couldn’t understand why the stock market was going up in 2020 while the economy wasn’t fully recovered will question why the stock market turns down in the Spring and Summer of 2021 as the economy roars back to pre-Covid levels.
Some of my favorite sectors for 2021 are financials, energy, industrials, commodities, and selected consumer cyclicals (Covid recovery stocks). Utilites will do better than expected as they are undervalued Covid recovery plays. Within technology the more cyclical hardware names will continue their outperformance since the late summer. Semiconductors will continue to outperform through the March to April period.
Some of my favorite names are Wells Fargo (WFC 30) in financials, General Electric (GE 10.7) in industrials, Broadcom (AVGO 437) in semiconductors/hardware, Johnson and Johnson (JNJ 154) in pharmaceuticals and McKesson (MCK 170) in healthcare services.
A name like Fedex (FDX 260) is the type of stock to avoid. FDX earnings estimates and stock price had declined over 40% since 2018 until Covid came in March of 2020. Then suddenly FDX sales and earnings exploded for the next couple of quarters as they were a Covid beneficiary. Higher volume of shipment of goods from online sales and limited industry air freight capacity caused their sales, margins and earnings to significantly exceed analyst estimates pre-Covid. Their stock price gained over 70% for the year. Despite Wall Street’s high praise for FDX turnaround, it was more than coincidental that the recovery occurred at the same time as Covid spread across the globe. As we recover from Covid in 2020 these trends will likely reverse.
Full Disclosure: I own several of the securities mentioned positively. None have been purchased within the last month. The opinions merely represent the opinion of the author as CIO of Journey 1 Advisors, LLC and intended to inform the readers about our investment philosophy and strategy. The contents of this report are based on sources believed to be reliable. It is not intended for circulation. It is not intended to offer investment advice, or to recommend the purchase or sale of any securities or investment product. Investment advice is only given after a client has signed an investment advisory agreement with Journey 1 Advisors, LLC and will be subject to the terms and conditions therein. Your decision to buy or sell a security should be based upon your personal investment objectives and should be made only after evaluating the stock’s expected performance and risk.