Year in Review – Twelve Months ended March 31st, 2021
The pandemic had momentous impacts on every aspect of our lives. In addition to the tragic human toll taken by the virus, the economic and financial effects were felt throughout the year, and will be for many years to come.
The virus and the lockdowns produced a stunning economic collapse in spring 2020. The nosedive led to numerous governmental responses. The Federal Reserve cut interest rates and flooded the economy with liquidity. Additionally, the fiscal response was breathtaking in its magnitude and scope. Although most of the measures were ostensibly taken to support the economy, in the end the greater effect was on the financial markets. Government support and Fed policy probably had more influence on asset prices than factors such as economic health, corporate developments, or the elections.
Major Economic Events
No nation was able to escape the impact of the COVID-19 disease. Hardest hit have been the US, Western Europe, Brazil, and India. Commodity producers suffered terribly from the initial economic shock although were able to stage a partial recovery as demand stabilized and began to creep upwards. Asia demonstrated the strongest response to the virus and that region generally had the best economic performance. China was the only large economy to post growth over the year.
The Federal Reserve, the US government, and governments worldwide have scrambled to deploy every tool at their disposal to keep economies afloat until the disease becomes better understood, better treated, and perhaps preventable – or less lethal - via development of vaccines. Levels of borrowing have already reached levels not seen since World War II and seem likely to rise from here.
We can assess that the governmental actions placed a floor under the economy and provided much needed stability, even though the cost has been monumental. By early 2021, the US economy was growing fairly rapidly, as long-suppressed demand began to be unleashed and the labor market responded. Vaccinations began to accelerate and confidence took off.
The economy showed tremendous resilience once the initial shock was absorbed. Technology was able to allow many to isolate while still remaining economically engaged. It’s unclear as to what extent these changes will be permanent or if individuals will return to their pre-pandemic lifestyles when COVID-19 recedes.
The Equity Markets
It was a phenomenal year for equity markets around the world. Equity investors were flush with cash, financing was readily available, and once the economy stabilized, confidence grew and built upon itself. The year ended with many markets at all-time highs.
The American stock market performed a bit better than its international counterparts. The US economy fared relatively well compared to other nations, particularly Europe. The US outperformance is also due to the dominant market position of the US technology sector. Despite their economic travails, international markets rose by an astonishing 51.9%, a gain that pales in comparison to the US, where stocks rose by over 62%.
Long-term investors in small and mid-cap stocks historically have been rewarded for the elevated risk and economic sensitivity of these firms, and that came to pass again this year. Small cap stocks underperformed badly until news of vaccine breakthroughs restored faith that economic recovery would happen in 2021. The fourth quarter of 2020 and the early months of 2021 saw small and mid-cap stocks record breathtaking gains.
REITs were very hard hit in 2020 as the future value of much commercial real estate has come into question. The REIT asset class has broadened over the years and now includes sectors such as data centers and cell phone towers and this has helped that asset class become more resilient and less volatile.
Natural resource stocks tracked the price of oil and collapsed in 2020 when demand vanished, and suppliers flooded the market. However, when energy prices stabilized and began to rise in response to the brightening economic outlook, these equities soared.
Overall, the effects of diversification from the traditional S&P 500 index were neutral. Small and mid-cap stocks ended with gains well above the S&P 500, while international stocks lagged.
The Fixed Income Markets
The bond market rally ended in early 2021 and erased much of the gains from 2020. Prices rallied as the Fed slashed rates to zero percent in response to the crisis, then fell when signs of a strengthening economy resulted in bond investors demanding higher interest rates. The year ended with bond prices up just +0.7%. Municipal bonds fell during the worst of the COVID-19 crisis but managed to recover and ended with modest gains. The economic impact from COVID-19 on state and local budgets is proving to be less than feared. International bonds rose, as interest rates continued to descend worldwide. The dollar tumbled late in 2020 and this also boosted the value of non-dollar bonds, although some of these gains were lost in early 2021. Cash and similar investments remained at rock-bottom levels, in alignment with Federal Reserve policy.