Navigating markets in this year of vulnerable resilience and defensive exuberance has required some humility.

When I wrote the first CIO Weekly Perspective of 2020, the question was, “Do Middle East Geopolitics Matter?” 

That feels like another lifetime. A U.S. airstrike had killed an Iranian general, and we were asking when the buoyant market would start to exhibit late-cycle jitters ahead of the next downturn. A short while later, the world’s developed economies shrank by 10% in a single quarter and oil futures traded at minus $38 per barrel

There were countless extremes during 2020. But more than simple extremes, this has been a year of extreme contrasts and contradictions.

Vulnerability and Resilience

The coronavirus causes mild symptoms in most of the young and healthy, but is contagious and deadly enough to have killed 1.7 million people around the world and triggered the worst global recession in 75 years. The pandemic has revealed painful inequalities between haves and have-nots, insiders and outsiders, essential workers and remote workers. It has shown us to be frighteningly vulnerable, but also, particularly in communications technology and medical science, amazingly creative and resilient.

At a time when global cooperation was breaking down and politics was consumed by rancor, the resilience of our institutions deserves admiration, too.

The U.S. elections showed democracy surviving and even thriving as millions of Americans expressed their vote despite the pandemic. In doing so, they chose to contrast a new, Democratic president with a Senate still likely to stay in Republican hands and even additional Republican seats in the House of Representatives.

Coordination was reasserted among nations and between fiscal and monetary policy. The Federal Reserve started with extraordinary interventions to maintain liquidity in credit markets and to support the economy, and ended up fundamentally revising its entire policy framework. The European Union, in the midst of Brexit negotiations and ongoing budget tussles with Italy, arguably took its first significant steps toward a common fiscal capability. 

Shock and Awe

From our first commentaries on the crisis, when Erik Knutzen warned it could last for months rather than weeks, through our second-quarter Asset Allocation Committee views and the “Playbook” developed from them, one could argue that our approach underestimated the “shock and awe” liquidity impact of the policy response. One of the other great contrasts of 2020 was, after all, between deep recession in the real economy and new highs in the stock market.

But those new highs hid another great contrast, between a few big winners and many losers. Index returns were driven by an essentially defensive rush into a handful of secular growth mega-caps and the booming technology theme, which played into our views in numerous ways—from core asset allocation that favored U.S. large caps to real estate and 5G connectivity.

We were also bullish on credit for a world in which everything was threatening to fall apart, but the Fed kept holding it together. Here was yet another of the year’s extreme contrasts: credit spreads exploding while new issuance hit record levels, the dream scenario for courageous fixed income investors.

As default estimates were revised down, our team identified the summer sweet spot in “fallen angels” and the much-maligned BBBs. We also urged investors not to forget the huge onshore bond markets of China. It may have been the epicenter of coronavirus, but its markets were uncommonly resilient through the worst of the crisis and it will end 2020 as the only major economy with positive growth. Just one more notable contrast to add to the list.

‘What You Know for Sure That Just Ain’t So’

Where are we now?

Still in a world of contrasts. Between the euphoria of the vaccine successes and the dread of surging viral infections. Between the extreme outperformance of growth stocks and the extreme underperformance of value stocks (with occasional huge rotations sparking talk of a reversal). Between a supportive environment for credit and the almost inevitable uptick in defaults and distress. And ultimately, between the prospect of outsized economic growth in 2021 and the potential return of secular stagnation thereafter.

“It ain’t what you don’t know that gets you into trouble,” as Mark Twain supposedly said, “It’s what you know for sure that just ain’t so.”

We are frighteningly vulnerable. We are inspiringly resilient. BBB credit is a ticking timebomb, or not. So is China’s debt mountain. Recessions come after bubbles, not before—and certainly not at the same time, or so it is said. Coronavirus has changed everything. Coronavirus has changed nothing.

If this year of stark contrasts has taught us anything, it’s that even if what you’re sure you know is so, the opposite might be so. That’s why, in our view, navigating the stark contrasts of this year’s markets has required one vital thing: humility.

It is in that spirit that we wish Happy Holidays and a Happy, Healthy and Prosperous New Year to all.

In Case You Missed It

  • Japan Purchasing Managers’ Index: -0.1 to 48.0 in December
  • Eurozone Purchasing Managers’ Index: +4.5 to 49.8 in December
  • U.S. Retail Sales: -1.1% in November
  • NAHB Housing Market Index: -4 to 86 in December
  • Federal Open Market Committee Meeting: The FOMC made no changes to its policy stance
  • U.S. Housing Starts: +1.2% to SAAR of 1.55 million units in November
  • U.S. Building Permits: +6.2% to SAAR of 1.64 million units in November
  • U.S. Initial Jobless Claims: +885,000 for the week ending December 12
  • Japan Consumer Price Index: -0.9% in November year-over-year
  • Bank of Japan Policy Rate Decision: The BoJ made no changes to its policy stance

What to Watch For

  • Tuesday, December 22:
    • U.S. 3Q 2020 GDP (Final Estimate)
    • U.S. Consumer Confidence
    • U.S. Existing Home Sales
  • Wednesday, December 23:
    • U.S. Personal Income and Outlays
    • U.S. New Home Sales
  • Thursday, December 24:
    • U.S. Initial Jobless Claims
    • U.S. Durable Goods Orders

– Andrew White, Investment Strategy Group

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