Market Strategy 5/26/2020

Key Takeaways

• With earnings season winding down, COVID-19 news and economic data will likely capture center stage in the week ahead.
• Economic data this week will include housing, a revision to Q1 GDP, and consumer confidence.
• We are updating our ratings and suggested allocations to the S&P 500 sectors. We have changed our rating for the real estate sector from Perform to Underperform.
• We offer strategic musings on thematic investment ideas.
• Last week’s economic data included the Leading Economic Index, which showed a small decline in April than in March. 

Around two and a half months into the shutdown and living close to the epicenter of the stateside COVID-19 emanation, we’re seeing a return of automobile traffic on First Avenue in midtown Manhattan that’s reminiscent of if not quite equal to late-summer activity and busy enough to keep a pedestrian on his toes. The sidewalk traffic has increased with folks headed to the market or the park or just out for a stroll, keeping hardcore denizens of “Coronaville” (those who didn’t find or seek exile outside the city limits for the darkest period of the crisis) cognizant of just how narrow side street and avenue sidewalks are. Face masks remain prominent with some of us looking like pals of Spiderman, if not quite like hoodlums plotting a stick-up or a jewel heist.

Our friends outside of the epicenter and the areas closest to it complain that things aren’t opening up fast enough for them. Even in our proud city humbled by the pandemic, there are those who rebel, don’t wear masks, and don’t keep their distance. Dirty looks surface quickly when the non-compliant (mask-less, non– social distanced types) appear on the horizon.

Time will tell whether the current gradual reopening of the economy stateside and in other parts of world is well timed or too early. For now, whether it’s the “flattening of the curve” or the warmer weather and several days of glorious sunshine, there’s a good vibe rising. We’ll leave the party hats in the box for now and stay masked, social distanced, and sheltered in place for the most part until our governor gives us the okay.

Stock market activity has suggested for some time now— in defiance of bears’ growling, skeptics’ disbelief, and even bulls’ wariness—that indeed we’re headed out of the woods, notwithstanding all the uncertainties that come with a global pandemic, the negative impact to the economy and business from a health emergency-induced shutdown, and political jousting on the domestic and geopolitical fronts

With 478 of the S&P 500’s companies having reported results as of last Friday, Q1 earnings season is winding down. This week will include a number of widely followed names belonging to technology, financials, and retail.

So far this earnings season, revenues have grown 1.03% while earnings have fallen 7.68% from the same period a year ago. The first-quarter earnings season has clearly identified winners versus losers in an unprecedented period of market history. 

This abridged post-holiday week will see economic data on housing, consumer confidence, regional Federal Reserve Bank gauges of manufacturing and nonmanufacturing activity, and the Fed’s Beige Book, along with durable goods, GDP, and consumer confidence crossing the transom.

The economy and the markets remain to a large extent hostage to the progress made or not made in stemming the spread of COVID-19 on a day-to-day basis.

News flow on the pandemic front has grown more positive. There are stories of prospects for vaccines, drugs of greater efficacy to treat those afflicted, and prospects for more accurate testing and tracking crossing the tape near every day.

Conversations with clients have moved from being centered on the virus itself and the damage it had done to the price of stocks to how long will it take to get the economy reopened; whether there might be a second spike in infections in the fall; the valuation of the markets; second-quarter earnings season risk; and how the cost of the shutdown, the rescue programs created by Congress and the administration as well as the Fed’s magnanimous accommodation will be addressed in the years ahead. Some also express concern about whether current policy will generate inflation or deflation in the years ahead.

Though the particulars of this crisis are very different from the Great Financial Crisis a dozen years ago, there are similarities with regard to investors’ concerns and questions.

At the depths of the GFC, there was no shortage of opinions that said the Fed would fail to revive the US economy and the markets. Some believed that the liquidity the central bank pumped into the system would not only fail to revive the economy but would also unleash untoward levels of inflation—even hyperinflation.

That didn’t happen. Instead, an economic recovery which grew into a sustainable domestic expansion resulted in large part from the Fed’s efforts. Inflation was kept in check by the bank’s vigilance, aided by secular trends in technology and globalization, which are counterinflationary. We believe these trends remain in place and reduce the risk of high inflation from the current crisis’ rescue spending.

The multi-trillion-dollar cost of the Fed’s policy and the rescue packages implemented by Congress and the administration in the current crisis are likely in hindsight to have been essential responses in avoiding a longlasting recession or even a depression. Time will tell how those costs are dealt with post-crisis.

Economic data and corporate earnings are likely to remain challenged in large part until COVID-19 risk is further stemmed and the economy can find space and time to gain traction.

We view patience, fortitude, and conviction to be key virtues for investors to practice at all times but particularly in periods of crisis like this one. Know what you own, why you own it, and have right sized expectations as to how the components you hold in a diversified portfolio will perform in a transitional environment from crisis to recovery and beyond.

Thematic investment ideas or actionable investment themes can help professional and private investors to navigate through periods like these.

We believe we are fortunate to be at a juncture in history in which technology is driving dramatic but practical changes in business, private lives, education and government.

The ubiquitous nature of technology today influences all 11 sectors of the S&P 500 including information technology, consumer discretionary, industrials, health care, financials, materials, consumer staples, communication services, real estate, energy and utilities.

A short list of thematic ideas could include: leisure (videogames, sports, entertainment), defense (military equipment), cyber security, alternative energy, ESG companies, environmental solutions, electric automobiles, artificial intelligence (AI), solutions for manufacturing and services, E-commerce, IoT (internet of things), big data, autonomous vehicles, and many more.