Top Predictions for 2021
With a fairly ‘crazy’ 2020, and certainly a year that was unprecedented on a host of counts, now firmly behind us, we switch our attention to the key factors that, we believe, will steer equity markets over the next 12 months. We are once again making predictions on the Top themes which are set to influence market moves.
- 1. US markets go 10% higher in 2021, with 4000-4100 seen on the S&P500. This will be driven by a ‘V’ shaped recovery, and synchronized global growth, and ongoing central bank and government commitment to stimulus. Nearer term a correction remains possible given stock markets have priced in a lot of good news, and a rebounding US dollar could weigh near term.
- 2. The long end of the US yield curve rise significantly as stimulus continues to be pumped in, and as the world factors in higher inflation.
- 3. Gold and precious metals surge, taking out the record levels as the US$ continues to weaken. Platinum group metals could even outperform gold.
- 4. Raw materials and base metals overshoot on the topside to record levels, as stimulus is rolled out, and as global infrastructure investment initiatives kick in.
- 5. Oil likely to see a V shape recovery with crude trading up to US$50-US$60 a barrel as demand recovers and OPEC+ remains cautious on expanding supply.
- 6. Commodity based markets are likely to do very well in 2021, and particularly those in Canada and Australia.
- 7. China dials back its rhetoric and fight with Australia, appreciating how much it really needs the country’s iron ore.
- 8. The UK and Europe agree a deal, and the ‘divorce’ is relatively amicable, and not the war of the roses some were expecting. The FTSE goes back to 7500, buoyed by commodity price strength as well.
- 9. Other stock markets could do better next year, and as the US dollar declines. Japan is likely to outperform, given it is one of the cheapest markets around.
- 10. With the inflationary backdrop it could well be the year of ‘collectibles’ art, motor cars, stamps, antiques; rise in value.
- 11. Donald Trump finally moves on from the White House, but remains active on Twitter, and uses the platform to push a new reality TV deal.
- US markets go 10% higher in 2021, with 4000-4100 seen on the S&P500. This will be driven by a ‘V’ shaped recovery, and synchronized global growth, and ongoing central bank and government commitment to stimulus. Nearer term a correction remains possible given stock markets have priced in a lot of good news, and a rebounding US dollar could weigh near term.
As 2021 unfolds we expect investors to increasingly focus on a real reopening of the US economy and other major economies globally as vaccines are rolled out and economic activity rebounds in a more synchronized manner. The strong performance of China’s economy in the second half of 2020 provides reason for optimism, as it effectively contained the pandemic within its borders, leading to a sustained rebound in economic activity. Indeed, the OECD Economic Outlook published in December has only China among major economies globally as set for a year of slight (by China’s historical standards) GDP expansion, at 1.8%.
The US economy is anticipated to fare better than earlier feared, but is still forecast to contract by 3.7% in 2020 before returning to an expansion of 3.2% in 2021 and 3.5% in 2022. Other forecasts by major organizations vary modestly when it comes to the pace of a recovery for the US and other major economies, but a coordinated recovery around the world is anticipated in 2021. Below is a table from the OECD Economic Outlook, with forecasts for a raft of major economies, the G20, the Euro Area and the world. The global economy is anticipated to shrink by a sharp 3.8% this year, before growing 4.7% in 2021 and 3.7% in 2022.
There will be much pent-up demand for facets of life that people have missed, due to the restrictions imposed by authorities in efforts to curb the spread of the coronavirus. That will include dining out and socializing in bars/clubs, working out at public venues like gyms, attending sporting events/concerts, travelling and many others.
Vaccine rollouts will take time to be effective as they need to inoculate enough of the population to slow the risk of community transmission and for some of these activities to resume in a major way, it could be quite some way off yet. Nonetheless, markets tend to look well ahead of actual events, so as long as vaccine rollouts continue without major problems or delays, we expect equity valuations to be supported by the prospects of more normal times on the horizon.
The first vaccine to be deployed in the US is the Pfizer/BioNTech vaccine and the Moderna vaccine received emergency approval from the FDA on 18 December 2020. More vaccines will likely be approved and that will certainly help a broad-based rollout, as between the two discussed above it will be likely well into the second half of 2021 for a substantial proportion of the US population to receive their inoculation, simply because of the huge number of doses required to be manufactured and logistical issues. There will also be many who opt not to take the vaccine.
Supportive monetary and fiscal stimulus from central banks and governments did much of the heavy lifting in 2020, resulting in the S&P500 (and many other indices) quickly rebounding from the plunges in February and March to recover those losses and continue higher. This stimulus was necessary to buffer the jobs market from huge numbers of permanent job losses and support broad swathes of the economy so it could quickly reboot after the ‘deep freeze’ created by lockdown restrictions. This was largely effective as shown by the New York Fed’s Weekly Economic Index, comprised of 10 high-frequency indicators of economic activity, encompassing the likes of production, the jobs market and consumer behaviour.
Source: Federal Reserve Bank of New York
As can be seen above, a V-shaped recovery has largely played out. After contracting 5% (annualized) in the first quarter of 2020, the economy tanked 31.4% in the second quarter and then roared back with a 33.1% expansion in 3Q20. Because of the way the math works, this only means the economic recovery has recouped roughly two-thirds of the contraction created by the pandemic, but it would have been much worse otherwise.
The recent resurgence of the spread of the coronavirus and new restrictions is providing another setback and that will show up in fourth quarter numbers and perhaps linger on into the first quarter of 2021. However, importantly for risk assets like equities, the pandemic has forced the Fed into a U-turn on interest rate policy. Normalization is no longer on the cards and instead interest rates are going to be in the current ultra-low (the benchmark is in a range of 0-0.25%) range for years to come. The Fed has effectively already said it will accept a more inflationary environment going forward until the central bank’s monetary committee sees “substantial further progress” on its mandate covering employment and inflation.
US lawmakers agreed on another approximate $900 billion stimulus package in December and we expect further support on the fiscal side in 2021. Corporate earnings in many sectors are set for strong growth in 2021 after taking a big hit in 2020 and this momentum will be supportive for investor sentiment, as will the analyst upgrade to earnings assumptions we have recently been seeing.
There is also a significant amount of cash sitting on the sidelines from a historical perspective from both consumers and corporates (which can be deployed for share buybacks etc., for the latter.) Equities continue to have attractive prospects for returns versus bonds given the ‘helicopter’ money dropped and massive stimulus. The likelihood of a divided Congress implies no major changes to tax policy, providing further support for our bullish case. A Biden administration should mean less trade friction.
Near term we are cautious about the prospects for a correction as recent positive vaccine news and progress saw the US markets extend their recovery prompted by massive stimulus and price in a near perfect outcome. Delays, or problems with vaccine rollouts are a key risk, along with further waves of Covid-19 before a wide rollout can be achieved. We are cognizant of the prospect for a correction due to the gap between hopes and the economic reality of the current situation over the short term and a rebound in the dollar on any hiccups to the global economy (leading to a ‘rush’ back into the greenback) could be what sees that scenario unfold.
- The long end of the US yield curve rise significantly as stimulus continues to be pumped in, and as the world factors in higher inflation.
The Fed meeting in December held no surprises and importantly for our thesis that the long end of the US yield curve will steepen in 2021, made no moves to cap any rises in yields by shifting its bond buying activity to the long end of the curve, commonly referred to as Operation Twist.
The Federal Reserve’s Federal Open Market Committee (FOMC) voted unanimously to keep the federal funds target rate in the range of zero to 0.25%; the range where it has been since March. A majority of the FOMC maintained their forecast that the rate would be kept effectively near zero to until at least 2023. The Fed noted it “will continue to increase its holdings of Treasury securities by at least $80 billion per month and of agency mortgage-backed securities by at least $40 billion per month until substantial further progress has been made toward the Committee’s maximum employment and price stability goals.”
Regarding the goals for this dual mandate, the FOMC noted it would be appropriate to maintain the near zero rates “until labor market conditions have reached levels consistent with the committee’s assessments of maximum employment and inflation has risen to 2% and is on track to moderately exceed 2% for some time.”
Placing upward pressure on the long end of the curve is rising inflationary expectations, due to the record amount of stimulus that has been pumped into the US economy and Global economy, along with expectations that vaccines will lead to a broad-based recovery in 2021, with investors departing safe-haven Treasuries for the likes of stocks. Effectively, both conditions for a steepening yield curve are at play, on expectations of higher inflation and an improvement in economic activity.
A strong performance from commodities, precious metals, cryptocurrencies and Treasury Inflation-Protected Securities (TIPS) all highlight how inflationary expectations have risen amid the record amount of stimulus unleashed.
After crashing lower in March and August, the 10-year Treasury bond yield has risen materially since August and for the longer-dated 30-year Treasury bond the appreciation has been more marked.
Source: Trading Economics
The US has already deployed record amounts of stimulus for the economy, across monetary and fiscal, and we expect more to flow in 2021 after Biden’s inauguration, while the economy is awaiting a broader rollout of vaccines. Short term interest rates are set to remain pinned near zero, providing an easy path for the curve to steepen at the long end.
- Gold and precious metals surge, taking out the record levels as the US$ continues to weaken. Platinum group metals could even outperform gold.
2021; a hangover year, not likely
COVID-19 turned 2020 into a year like no other for equity markets, precious metals, global economies and the worlds’ population. Economies crashed and key equity markets hit new records. In the turmoil and highs for 2020 gold flourished surging to new record highs. The following chart shows the US Dollar year-to-date gold price in ounces:
The worlds’ population faced lock downs and restrictions while in numerous countries around the world, lives were and still are being lost. A flurry of vaccines at the end of 2020 opened a path to the other side of the pandemic for 2021. The events of 2020 have laid the metrics in the US economy that will, we believe, drive the gold price to new record highs in 2021.
COVID-19 brought with it a surge in US unemployment, as the pandemic dealt a harsh blow to the US economy and especially the heavily employed services sector. The following chart show the US unemployment rate over 2020:
Source: Trading Economics
The rate of unemployment hit a record 14.7% or some 15.9 million Americans, as hospitality and tourism shutdown. Over the course of 2020, the US economy partially opened and as Member can see, unemployment has fallen but remains stubbornly high going into 2021. It is this metric, we believe, that has laid the seeds for a higher gold price in 2021.
The US government response to this record unemployment read was predicable with stimulatory programmes amounting to US$10 trillion and counting, rolled out. The introduction of these programmes was aimed directly at the unemployed as wage supplements, and as such caused a surge in US money supply. Fiat currencies devalue as governments pump more dollars into their economies, with the US Dollar not immune. A weak US Dollar, as more physical notes hit the economy will be a boon for the gold price in 2021.
Stimulatory packages will remain part of the economic landscape throughout 2021, and potentially more so with Joe Biden taking up residency in the White House for the next four years. Democratic presidents in the past have been viewed as big spenders.
This ongoing stimulatory action by the US government, as it continues to counter the lingering effects of COVID-19 will provide additional stiff headwinds for the US Dollar. Already, a further US$900 million of stimulatory initiatives has been signed off and will hit the US economy in early 2021. We do expect such programmes will diminish over 2021, on the rollout of a successful vaccine, but their effects will linger. We expect ongoing stimulatory programmes of some description will roll into 2021.
A second headwind for the US Dollar in 2021 and goes hand-in-hand with the stimulatory programmes, is the burgeoning US debt pool. The following chart shows US debt growth over 2020 (in US Dollars and millions):
Source: Trading Economics
As Members can see from the above chart, US debt is now at record levels having been bumped up by stimulatory spending, as the US government continues to “Splash the cash.” Estimates for US debt in 2021 is for it to grow well beyond the US$30 trillion.
This swelling debt pool that now stands at some 107% of US Gross Domestic Product (GDP), will over the next few years prove to be an obstacle for a firmer US Dollar. As this ratio grows, pressure on the US Dollar will increase. The following chart shows US debt relative to US GDP:
Source: Trading Economics
Forecasts have the ratio of debt to GDP hitting as high as 125% in 2021, which we believe could be on the conservative side. Some long term forecasts have this ratio hitting 200% over the next 20 years. Certainly, we believe, as US indebtedness grows relative to the size of its economy, this should weigh on the US Dollar.
Over 2021, the Federal Reserve (Fed) will remain on the back foot and maintain an easy monetary stance, keeping US interest rates at historic low levels to support the US economy. Historically low interest rates will slow the attraction of investors to the US dollar due to its low yield interest rate environment. Such a policy will only facilitate further pressure on the US Dollar. Couple this stance with the Fed’s policy to primarily focus on managing unemployment and away from inflation and a mismatch of proprieties could allow inflation to escape.
It is this mismatch in priorities that will be a major tailwind for the gold price over 2021 and beyond, although inflation has been most elusive since the Global Financial Crisis (GFC). The significant difference between the GFC stimulations and the COVID-19 stimulations is the receivers. GCF stimulatory action went first to prop up the financial system and then to infrastructure, while COVID-19 action when direct to the people. The following chart shows US M2 money growth and inflation (M2 growth – black line, inflation rate – red line the arrow highlights the GFC period:
As Members can see from the above chart, there have been prior periods when US M2 has spiked and has been followed by a rise in inflation, as highlighted by the green ecliptics in the above chart. Certainly, the most recent surge in M2 growth to a record 23.3% will, we believe, bring inflation down the track, if history can be relied on. A quote from a famous economist Milton Keynes said, “everywhere inflation is a monetary phenomenon,” and he is part of history. Members may have noted from this chart that the inflationary peak is relative to the surge in M2 growth.
We are not suggesting that inflation may hit 23.3% in the US, but any higher levels above the consistent lows of the 21st century, will be harmful, and once out of the bottle, it may be difficult to get it back in.
Overall, the first wave of stimulatory spending was a real tailwind for the gold price, pushing it to record highs in 2020. The announcement of a COVID-19 vaccine has caused a correction in the gold price. We believe the metrics that will generate tailwinds for the gold price in 2021 remain well embedded in the US economy.
Looking at platinum for 2021, it has pushed back up to one-year highs and should likely advance much further to the topside, driven by the same metrics as gold and the added demand from the auto industry. The following chart shows the long term platinum price (in US Dollars per ounce):
As Members can see from the above chart, platinum has reached a nadir in 2020, as its demand outlook started to improve. Platinum is critical to the traditional car industry and hybrid electric vehicles, where it is used in catalytic converters to reduce exhaust emissions. Although the market share of electric passenger vehicles is set to rise over the next decade, conventional vehicles will still account for most of the new car market share over the next few years. An expanding overall demand for new vehicles will therefore drive demand for platinum higher. This additional pressure on demand has the potential for platinum, in our view, to outperform gold in 2021.
With the gold price now trading around US$1,880 an ounce, as 2020 draws to a close, and given our view of the tailwinds we see for gold in 2021, will bring with it, new records.
- Raw materials and base metals overshoot on the topside to record levels, as stimulus is rolled out, and as global infrastructure investment initiatives kick in.
Base and bulk metals history lesson 101 for 2021
Exposure to base metals and bulk metals was not the ideal place to invest since mid-2019, as prices faced stiff headwinds from a China/United States (US) trade war which was followed immediately by an even more devastating global pandemic. The common thread in the two events was the disruption of global economic activity, both actual and forecast. The following chart shows the long term FRED (Federal Reserve Bank of St Louis) Global Price Index of All Commodities:
China as a significant consumer of commodities was at the fore in both events and the uncertainties this engendered around its economy was damaging to commodity prices. The US experienced greater economic hardship because of the pandemic, while China was impacted its economic recovery came far more quickly.
As Members can see from the above chart, from mid-June 2018 prices of all commodities have been in a persistent downtrend first because of a trade war and then the pandemic. Ultimately, it was the pandemic that has brought about the economic conditions that engendered, globally, the current government and central bank actions that we have experienced before, including the impact on commodity prices of these actions.
“Base metals history lesson 101” for 2021 has its thesis a little further back in the Global Financial Crisis (GFC), and as Members can see from the above chart, at its onset in 2008, commodity prices collapsed. The recovery mechanism for commodity prices at the time was, central banks undertaking quantitative easing initiatives and governments acting to stimulate their economies. Déjà vu to what is happening as we move into 2021. We expect the current actions by central banks and governments will broadly lift the welfare of all commodities in 2021.
Governments around the world have initiated stimulatory programmes, to keep struggling economies afloat. The following chart shows the forecast impact of COVID-19 on global Gross Domestic Product (GDP) and its forecast recovery in 2021, because of stimulatory action (EMDEs – emerging markets and developed economies):
Source: World Bank
It has been estimated that the total stimulatory spend in 2020 has breached US$10 trillion, with the aim of this spending to stimulate GDP into a classic ‘V’ shaped recovery, as clearly forecast in the above chart. We certainly concur with this scenario playing in 2021 and will act as a major tailwind for commodity prices. As a major consumer of commodities, China’s GDP has recovered in the classic ‘V’ shape and its annual quarterly GPD growth data reads are shown in the following chart:
Source: Trading Economics
Although China’s rate of growth has slowed, its continued expansion, given its economy in US Dollar terms currently stands at US$13.6 trillion, any expansion is significant in growing its demand for all commodities, but especially base metals and bulk commodities such as iron ore.
A weak US Dollar will have a major part to play in the surge in base and bulk metal prices for 2021 (refer to Prediction 3 above). Already, we believe, these metrics that will bring this weakness about are already bedded in the US economy.
This ongoing stimulatory action by the US government, as it continues to counter the lingering effects of COVID-19 will provide additional stiff headwinds for the US Dollar. Further stimulatory programmes over 2021 will, we believe, have an infrastructure slant to sustain economic growth. Such programmes are major consumers of base and bulk metals. We do expect such programmes will diminish over 2021, on the rollout of a successful vaccine, but their effects will linger for some years.
Overall, the first wave of stimulatory spending was a real tailwind for base and bulk metal prices, with the earlier FRED Global Price Index of All Commodities chart showing that commodities have pull off their lows in 2020. We expect 2021 will offer more of the same, as experienced in the latter part of 2020, although its quantum will diminish, but the effects will linger.
Countering the effects of the GFC pushed commodity prices, including base and bulk metals to record highs. We see little difference now to back then, with one exception, the US M2 inflation “time bomb.” This time bomb could add a major additional tailwind boost to 2021 commodity prices (and other physical assets) that was not experienced in the post GFC economy.
We expect the metrics playing out in 2021 will lift the welfare of all commodities and see many breach record price highs. In such a pricing environment, we would especially highlight iron ore, nickel and copper as strong performers, for additional reasons other than those addressed above, that no doubt we will cover off as 2021 rolls out.
- Oil likely to see a V shape recovery with crude trading up to US$50-US$60 a barrel as demand recovers and OPEC+ remains cautious on expanding supply.
2021; adequate supply
COVID-19 turned 2020 into a year like no other for equity markets, oil, precious metals, global economies and the worlds’ population. Economies crashed and key equity markets hit new records as did gold. In the turmoil and highs for 2020, crude oil floundered but did partially recover going into the end of 2020.
In a year like no other, 2020 brought with it a first for crude when in February 2020 the futures price for the May 2020 delivery of a barrel of West Texas Intermediate (WTI) turned negative. The move in the May 2020 futures came in conjunction with an equally savage fall in the WTI price at the time. The price plunge had its basis in the COVID-19 pandemic and a market that got caught long, as demand collapsed. The following chart shows the WTI price (in US Dollars per barrel):
The COVID-19 pandemic has caused, in the early part of 2020, a maelstrom in the global economy, with the oil market not exempt from the virus. In this turmoil and as Members can see from the above chart, WTI fell to lows of circa US$17 a barrel in April 2020.
The globally economy went into a sharp free fall, with many of individual economies reporting deteriorating Gross Domestic Product (GDP) for 2020, deteriorating trends. The following chart shows the forecast impact of COVID-19 on global GDP and its recovery in 2021, because of concerted government stimulatory initiatives (EMDEs – emerging markets and developed economies):
Source: World Bank
The forecast deterioration in GDP put a focus on demand, with the COVID-19 induce global shutdown destroying an estimated 25 million to 30 million barrels of oil demand in the early part of 2020, with demand now running in the range of 86 million to 91 million barrels. It is this ‘V’ shaped forecast recovery in global GDP that has rallied the crude price off its April 2020 lows.
Expectations for 2021 is for oil demand to run in the range of 93 million to 96 million barrels per day, we concur with these expectations. We do expect in a post COVID-19 environment, possibly toward the mid to latter part of 2021, for demand to recover modestly. Our demand forecast is dependent on the successful global roll out of COVID-19 vaccines and their effectiveness in containing the virus. Certainly in 2021 however, we expect a more normalised global economic environment.
What of supply, and here the 2021 story rests on the actions of The Organization of Petroleum Exporting Countries (OPEC) and Russia (OPEC+), and on this front the news is not good. OPEC+ will increase production from the end of January 2021 by 500,000 barrels a day. OPEC+ will then meet monthly to assess appropriate production levels. OPEC produced circa 24 million barrels for the September quarter 2020 and Russia circa 10 million barrels per day. The increased oil production from January 2021, will place pressure on the oil price.
We expect further adjustments will be made by OPEC+ over 2021, with an expectation of increases being announced as per the January 2021 outcome. These expectations will place pressure on any oil price rally.
Oil traders have in the past been sceptical of the many moving parts involved in OPEC complying with production decisions – ‘old habits die hard.’ OPEC+ has however been somewhat able to control all its moving parts and has in recent times complied relatively well with its own decisions. We expect this metric will continue, but the 2020 prices war between Saudi Arabia and Russia does shake the faith. A key player outside of the OPEC+ cartel has been the United States (US). The following chart shows US crude production:
Source: US Energy Information Administration
As Members can see from the above chart, US crude production collapsed in 2020 under the pressure of low oil prices. The recovery in production over the latter part of 2020 has followed the rise in oil prices, as marginal production turns profitable. We expect 2021 to display a similar rise in domestic US oil production on the expectation of higher oil prices. The US is currently producing around 14.2 million barrels of crude per day, and we expect an increase in the range 500,000 barrels to 1.0 million barrels per day, and with inventories running at 441 million barrels, pricing pressure will be to the downside.
Volatility has been the trademark for oil prices in 2020 and more so with the world in the grip of the COVID-19 pandemic. We expect some volatility will come out of the oil price as it trends higher in 2021. However, in a region where geopolitical events can manifest themselves quickly, the impact of such events cannot be ruled out.
With crude supply in 2021 forecast to adequately cover demand, we expect any rally in the crude price will be modest. This is especially so, and despite the COVID-19 vaccines being rolled out, as the virus is still placing question marks over oil demand for 2021. We expect in this trading environment for the crude price to trade by years’ end in the range US$50 to US$60 per barrel.
- Commodity based markets are likely to do very well in 2021, and particularly those in Canada and Australia.
As we covered, last week, in the first half of our 2021 outlook, we have a positive outlook for commodities this year, including base metals, energy and gold. We see a synchronized global ‘V’ shaped economic recovery as driving demand, while supply in many instances remains somewhat constrained or ‘controlled.’
A further tie that binds commodities across the spectrum is the US dollar. We see much further weakness in the currency, as debt levels blow out in the wake of COVID and as money continues to be printed. This printing further undermines the fundamentals of what was an already ‘creaky’ greenback.
Ultimately, the extent to which money has been thrown out of helicopters during the pandemic will see inflationary pressures continue to build, which will provide a significant tailwind to commodity pricing. This in our view bodes well for commodity driven markets, which includes Australia and the likes of Canada.
Both these markets are plentiful in high quality gold producers as well. As we recounted last week, we have seen the precious metal taking out the previous record highs during the course of last year and we expect these highs to be challenged during the year.
Gold – 2018 to 2020
As far as Australia goes, clearly another big driver of the market’s fortunes from a commodity perspective will be iron ore. The price of the steel-making ingredient neared US$180 a tonne towards the end of last year, before softening somewhat of late. Demand has accelerated as countries (led by China, Australia’s largest customer) are literally trying to build their ways out of the COVID-inspired downturn. This is also while key producing rival Brazil has had supply interruptions of its own.
Source: Market Index
We believe there are more economic tailwinds to come, and there are plenty of upside risks in the Treasury’s (and others) forecasts. The government is forecasting that prices for iron ore will fall by two-thirds to US$55 a tonne by September. It is hard to see this happening, with the global infrastructure investment rollout only getting started and inflation coming onto the horizon.
And we start a new year, Australia generally, is in relatively great shape economically. Unemployment has fallen back below 7% and jobs have been created. This is reflected in our currency which has rallied from a low of 57 US cents in March last year to around 78 cents recently. This strength is something we predicted last year.
The health outcome and response to COVID has been integral to the economic rebound as well. Businesses are operating and consumers are out spending, whereas in many parts of the world lockdowns continue to weigh on activity and freedom of movement. We need to remember how ‘lucky’ we are and remain vigilant – and the ‘clusters’ which have emerged in Sydney and other parts of the country remain a reminder here. A vaccine is on the horizon, but it could take well into next year before it works its way through the total population, and it is not certain how quickly herd immunity will be achieved.
Australian retail sales – up 7% in November
This financial medicine administered during the pandemic has not been without cost, which is to be expected. Australia’s gross debt is set to reach 42.5% of GDP by June this year, and some $1.8 trillion or 53% of GDP later this decade. But that is not bad all things considered – for the US, by comparison, is expected to easily top 100% this year and be the highest read in US history.
In any event a buoyant commodity sector should bode well for the Australian stock market this year. Furthermore, the ‘trickle down’ effect should resonate with other parts of the economy, which could be a key positive for the financial sector as well, including the banks.
With this in mind, we see the ASX200 taking out the record highs this year.
- China dials back its rhetoric and fight with Australia, appreciating how much it really needs the country’s iron ore.
Further helping the case for outperformance in the ASX200 could be a cooling of tensions with China, the country’s largest customer. These increased during 2020, in part due to the fact that Australia was amongst those ‘looking for answers’ in terms of how COVID originated, while also questioning China’s behaviour with respect to Hong Kong.
China effectively responded with a ‘big stick’ in the form of trade, targeting Australia’s agricultural sector with tariffs, and later in the year imposing a ban on Australian coal. Needless to say, China’s relative silence with respect to iron pre spoke volumes.
The push by countries to establish a ‘coronavirus’ enquiry has created geopolitical tensions. The epicentre of the current COVID-19 pandemic, widely held to be Wuhan in China, has placed that country at the centre of this call for an enquiry. Australia added its voice to the call for an enquiry and the tensions with China stepped up several notches as a result.
There is no doubt Australian barley, beef and coal export industries have been adversely impacted by action taken by China. From a Chinese perspective, these products can readily be sourced from other countries. Australian wine has been in the firing line as well, with 200% tariffs imposed.
While not an ‘all-out-war’ at this point, trade frictions have clearly escalated in recent months and are having an impact. The ABS recently reported that exports to China dropped 11% in November, with a 11% drop in ore tonnage and falls for coal and wine exports.
While China is starting to question, ‘high’ iron ore prices, the reality is that the country has little other places it can turn to, at least in the near-term. There is Brazil, which is further away geographically and would effectively come at a higher cost, and arguably a lower quality. Brazil has had its own supply issues, and it’s hard to see them making up for Australia’s 85% of exports any time soon.
China could get supplies of lesser quality iron ore from its own sources, however not all this ore suits’ the operating tolerances of its super steel mills, as it impacts operations in term of output and creates greater pollution.
We believe some pragmatism will therefore emerge from China and given the situation of the nation’s steel industry. The Chinese government is looking to stimulate its COVID-19 impacted economy, with the roll out of new infrastructure construction programmes.
It is possible that a ‘unilateral’ cooling of global tensions will be positive for the relationship between China and Australia. While calls for a “COVID inquiry’ will probably not go away, the sting may be taken away to some extent as the world focusses on rolling out a vaccine.
With Joe Biden as US President we expect the relationship between the US and China to be much more conciliatory, at least on the surface. Mr Biden is unlikely to ‘roll over’ with respect to China, but he is in our view likely to be much less Protectionist and arguably more of a ‘deal-maker’ than Trump ever was.
- The UK and Europe agree a deal, and the ‘divorce’ is relatively amicable, and not the war of the roses some were expecting. The FTSE goes back to 7500, buoyed by commodity price strength as well.
Brexit was going down to the wire heading up to Christmas, with deadlines continually extended as the two sides have inched closer to a deal. In the end, a Brexit deal was brokered at the 11th hour. This provides some cause for optimism, as the page turns onto a new year, and despite the fact that the pandemic has continued to ravage the UK. This is placing a strain on the health service and forcing the UK into a Level 5 national lockdown.
COVID-19 and the associated lockdown restrictions have hit the UK economy hard and even huge amounts of stimulus from the Bank of England and government were not able to prevent the FTSE100 taking a tumble during 2020, and with Brexit constantly in the background as an additional source of uncertainty. The FTSE100 ended down 15% over the course of 2020.
The UK economy is on track to face a contraction of 11.2% in 2020, according to the OECD Economic Outlook published in December. Indeed, this represents a bigger fall than the Euro Area and any other nation, apart from Argentina.
News of a new, supposedly more contagious, strain of COVID-19, leading to tougher restrictions in the UK, a fresh UK travel ban in the week before Christmas and ongoing Brexit negotiations, would have weighed on economic activity heavily in the normally festive and free-spending period around Christmas and New Year.
This deep economic hole in 2020 though, sets the stage for a strong economic recovery in 2021 and one that is likely to extend through to 2022, before pre-pandemic levels are reached and economic growth moderates. This sets the stage for a strong 2021 for UK equities in our view, especially as the market valuation is cheap relative to other markets and value is often a strong driver during periods of economic recovery.
UK equities lagged many other markets materially in 2020 and there was a significant amount of pessimism priced in, despite some recovery in the latter part of the year on vaccine hopes. The pendulum of Brexit talks was a tension for much of the fourth quarter. A notable element though was continued interest in quality UK companies from inward-bound M&A activity.
Deals announced towards the end of the year included a £7.2 billion takeover deal for RSA Insurance from Canadian insurer Intact Financial and Danish insurer Tryg A/S, along with £2.9 billion takeover of bookie William Hill by US casino giant Caesars Entertainment. Security firm G4S eventually agreed to a takeover by US-based Allied Universal Security Services, valuing the British-based firm at £3.8 billion. Canadian suitor GardaWorld had also been seeking to acquire G4S.
UK companies raised a lot of funding in the early stages of the pandemic, worried about what the future would bring. Many have begun to resume or indicated plans to resume dividends that were previously deferred, and some have paid back government relief.
The UK housing market has been a bright spot amid the pandemic, providing confidence in the underlying strength of the economy. Extended furlough schemes protected the jobs market from a worse outcome, although naturally unemployment has increased.
UK unemployment rate
The wider distribution of vaccines in 2021 and a Brexit deal pave the way for one of the stronger rebounds in economic growth among major economies in our view, as the UK economy will have a lower bar to outperform (i.e., due to the depth of the fall in 2020.)
Cyclical forces should propel, strongly, the UK economy in the early stages of the recovery, leading to robust growth in corporate earnings. Combine this with low valuations and the FTSE100 should be well placed for a strong rebound. The FTSE100 is overweight ‘value’ sectors like the financials, commodities and cyclicals that typically stand to benefit the most from the early stages of an economic recovery. Strong commodity prices on inflationary spirits will benefit those companies that comprise a significant portion of the index.
- Other stock markets could do better next year, and as the US dollar declines. Japan is likely to outperform, given it is one of the cheapest markets around.
The onset of the COVID-19 pandemic has resulted in weak economic conditions for most of the globe and mixed equity market performances. For this year, however, we expect economic activity and financial markets to rebound strongly. The arrival of multiple COVID vaccines could well drive ‘risk on’ behaviour, and also an increasing flight from the US Dollar, which is still regarded very much as a “safe-haven” currency. Consider further that the US Federal Reserve will continue its unprecedented monetary policy to support the US economy.
Japan’s stock market was a strong performer in 2020, rising around 15% over the 12 months, and we expect the Nikkei to perform again in the year ahead. The country has the right mix of factors to do so in our view, starting with (i) COVID-19 being well-handled, (ii) low valuations, (iii) compelling dividend yields and (iv) an avenue of growth linked to manufacturing production. Political stability is another feather in Japan’s cap.
From a health perspective, Japan is well placed. The country boasts one of the lowest COVID-19 infection rates among major economies, Australia and New Zealand aside. The vaccination programme will be rolled out this month and will continue during the first half of this year.
The vaccination should, in turn, result to a revival of the manufacturing sector which has been in idle mode. An export powerhouse, Japan’s factories are well placed to cater to the resurging demand worldwide (along with the Central Banks’ reflationary measures). It is also worth noting that unlike many developed nations, Japan’s unemployment rate did not spike when infections peaked, as workers were not laid off, and are set to resume work in a fairly straightforward fashion – allowing manufacturing capacity to scale back up fairly quickly. This should see a ‘domino effect,’ as a revival in the manufacturing and export side would improve business and investor confidence.
With business performance improving, along with improving sentiment (and the aforementioned underlying conditions), Japanese stocks won’t stay extraordinarily cheap for long. The fact that Japan should be seeing improving conditions while being very cheap across many investment metrics such as earnings, dividend yield and price-to-book, would attract investors worldwide to jump in – it also helps that famed value investor, Warren Buffett, recently invested US$6 billion in a few Japanese value stocks which is a clear imprimatur.
Finally, the last factor to further push on growth is that Japan’s Cabinet, at the end of 2020, approved its largest budget on record. Under the leadership of Prime Minister Yoshihide Suga, the Cabinet have budgeted a whopping ¥106.61 trillion of government spending to support the recovery of the economy, as well as health measures.
- With the inflationary backdrop it could well be the year of ‘collectibles’ art, motor cars, stamps, antiques; rise in value.
The idea of diversification is a tale as old as time and is often explained in the adage “don’t put all your eggs into one basket.” A very wise concept that has ensured the stability of many portfolios over the generations. Many financial planners would count this as a ‘best’ (if not standard) practice to implement in their client accounts as a means to protect portfolios in anticipation of downturns. Mainstream finance theory also suggests a variety in asset class securities, not just individual, to further strengthen the base.
This all-unravelled last year when the COVID-19 ‘black swan-like’ event resulted in almost all kinds of asset classes collapsing. In fact, the chart below further drives the point with a sample of asset classes ranging from equities (MSCI World Index) to safe-haven assets like gold and even real estate all crashing as the world braced for the outbreak. Just for measure, we also added Bitcoin to the mix to show that this asset class was not insulated at all (and despite since surging to new record highs):
The multiple cross-correlations in all asset classes has prompted many investors to look outside the norm for exposure. One of the exceptions to the COVID-19 crash were collectibles spanning fine art, pop culture, stamps, antique cars and furniture. The case for such is compelling, as these assets tend to hold their value while supplies are limited – not to mention dwindling due to destruction or degradation. To paraphrase Mark Twain, “they’re not making it anymore.”
The outlook for these collectibles also remains highly positive, with inflationary forces along with a global investor desire to seek further diversification, set to push prices higher. A case in point is fine art, as illustrated below, shows a notable outperformance with a correlation of -0.01, notable as a near zero correlation shows that their prices practically don’t move in concert at all.
It is also worthy to note that the internet has made these asset classes well within reach, as there is more detailed information online to ascertain the condition of the asset, quantity in circulation as well as where to purchase. This means collectables are no longer just in the domain of the rich, as new platforms such as Masterworks.io or Mythic Markets (for pop culture collectibles) allow the average Joe to buy ‘bite-sized’ pieces of an asset.
All in all, these true ‘alternative’ asset classes are well placed to ride the recovery this year.
And as for our ‘bonus’ outlier prediction…
- Donald Trump finally moves on from the White House, but remains active on Twitter, and uses the platform to push a new reality TV deal.
To say Donald Trump is not going quietly from the White House would clearly be an understatement. The President ‘Un-elect’ has tried every trick in the book to stay in power, from over a hundred failed lawsuits, leaning on the electoral college, coercing Secretaries of State, putting the hard word on Republican senators and even asking VP Mike Pence to go against the US constitution in the certification process. While not going as far as to declare martial law, he has also done his best to incite Trump loyalists. A point in case, his recent incitement of followers that caused an invasion of the US Capital buildings.
In any event the reality is that on 20th January 2021, democracy will prevail, and Joe Biden will be inaugurated as the 46th President – Donald Trump will be ‘fired’ for once and for all.
Trump has declared he will never ‘concede’ and we expect he will spend much of 2021 reminding his followers of the narrative that the election was ‘stolen.’ He will no doubt spend much time criticizing the incoming administration, although he may increasingly have other distractions with a ‘target’ on his back in respect of impeachment and non-federal (and possibly even federal) criminal proceedings.
‘Teflon Don’ will however live up to his name, and we doubt that he will ever see the inside of a prison cell. We expect Donald Trump to be however intent on remaining in the spotlight by whatever means, and he will look to start his own TV network, and at the very least launch a new reality TV series. Such a series will of course have him at the epi-centre. The Kardashians have moved on, so don’t rule out ‘Tangling with the Trumps’ coming to our TV screens before the year is out.