The Biden Bounce: Can It Last?
Legendary economist John Maynard Keynes expressed it well: “The markets are moved by animal spirits, and not by reason.”
The election of Joe Biden as the 46th president of the United States already has wrought major changes in America. One of them is the release of animal spirits in the financial markets. Enjoy the bull market, while you can. There’s reason for optimism, but we’re not out of the pandemic woods.
As stocks hover at record highs, corrective dips probably lie ahead. Below, I provide “defensive growth” measures that are currently appropriate, in case animal spirits in the coming weeks supplant all reason.
On Wednesday, the Dow Jones Industrial Average rose 257.86 points (+0.83%), the S&P 500 increased 52.94 points (+1.39%), and the tech-heavy NASDAQ jumped 260.07 points (+1.97%). U.S. stock futures edged higher in early morning trading Thursday. Since Joe Biden’s victory on November 3, the S&P 500 has gained nearly 15%, as of market close on inauguration day Wednesday.
We’re witnessing a rotation among asset classes, with small-cap and international stocks outpacing U.S. large-caps. The surge in small caps is a sign that investors are optimistic about economic growth in 2021.
But overall, stocks have gotten pricey. The forward 12-month price-to-earnings (P/E) ratio for the S&P 500 is 25.3, which is above the five-year average (17.5) and above the 10-year average (15.7). Valuations aren’t seriously out of whack, though, and the market’s momentum has at least near-term legs.
As the new Biden administration gets underway, tailwinds include loose monetary policy, likely fiscal stimulus, the cessation of trade war, the winding down of political chaos, the resumption of robust corporate earnings growth, and COVID-19 vaccine distribution.
In Federal Reserve Chair Jerome Powell, investors have a steadfast friend. Powell has vowed to do whatever it takes to nurture the economy and shore up the markets. Powell’s predecessor as Fed Chair, Janet Yellen, is President Biden’s nominee to head the Treasury Department and she shares Powell’s mindset.
At her confirmation hearings in the Senate this week, Yellen forcefully argued for aggressive fiscal and monetary stimulus. The Senate Finance Committee is scheduled to consider her nomination this Friday. Yellen is a proven member of the Old Guard and her confirmation is a shoo-in.
As long as interest rates remain at rock bottom levels and the bias among federal policymakers is toward stimulus, the bull run will have fuel in 2021.
Fourth quarter 2020 earnings season is underway and so far, results are generally beating expectations. As the chart shows, industrials have been surprising the most on the upside:
A shrewd strategic move now would be to increase your exposure to cyclical growth stocks (e.g., industrials), with the following portfolio allocations as a rule of thumb: 45% cash, 30% stocks, 15% hedges, and 10% bonds. About 5% to 10% of your hedges sleeve should include commodities and precious metals, such as gold.
For calendar year (CY) 2020, the consensus of analysts is for an earnings decline of -12.9%, according to research firm FactSet. But for this year, the earnings picture gets rosier. For Q1 2021, analysts are projecting earnings growth of 16.8%. For CY 2021, analysts are projecting earnings growth of 22.5%.
I’ve just outlined the good news, but you should stay vigilant. Don’t succumb to “panic buying,” otherwise known as Fear Of Missing Out. Vaccine roll-outs indicate that the pandemic will one day be conquered, but the virus still rages throughout the country. A spike in cases could send inflated asset prices tumbling.
The economy is improving and stocks are rallying, but a new president doesn’t mean all of our problems are solved, not by a long shot. Risks still lurk around the corner.
One salient threat to the rally is slowing jobs growth. An increasing number of “temporary” layoffs have become permanent. For many people lucky enough to still have a job, their paychecks are getting reduced. Hence the urgency with which the new Biden White House is pursuing fiscal stimulus.
More than ever, you need to be selective with your investments. That’s why our investment team has put together a special report: “5 Red Hot Stocks to Own in 2021.” In this report, we provide the names and ticker symbols of the highest-quality stocks to own for the new year. Click here for your copy.