Market Commentary for the week ending December 18th, 2020
- Everything except bonds moved higher with the tech-heavy NASDAQ regaining momentum.
- Some economic data weakened and was worse than expected as COVID numbers increase.
- The rally in small U.S. stocks reaches an historic level.
The Federal Reserve’s Economic Predictions
Economic forecasting has again proven very difficult for even the most informed economists. This seems especially true during times of uncertainty such in 2020. Our Federal Reserve’s current prediction is that the U.S. economy will contract by -2.4% for all of 2020. Of course 11 months of data is behind us so there is very little left to predict!
What I find interesting is how inaccurate their prediction was less than six months ago. In June the Fed forecast the economy would shrink by -6.5% and as recently as September, after 8-9 months of data was already in the books, the forecast was still for a drop of -3.7%. Again, today, the forecast is now for just a -2.4% decline.
This is good news that the economy is recovering faster than originally expected but I think it serves as a reminder to take forecasts with a grain of salt especially during times uncertainty. Predictions are certainly easier when little is expected to change but anybody can make an accurate prediction when we simply expect the recent past to persist!
Small Stocks Historic Rally
The markets have experienced an historic rally from the spring lows earlier this year. Both large and small stocks have performed extremely well but small stocks started to pull away from large in late September and then surged following reports of the first vaccine in early November as the accompanying graph shows.
From the March lows small stocks have more than doubled up +101.5% as of Thursday’s close before pulling back slightly on Friday. Analysis of data back to the late 1970’s shows that small stocks have experienced a rally of this magnitude only two other times. Once in 1983 at the start of the ‘80’s and ‘90’s great bull market and again in 2010 as markets rallied off the lows following the 2008-2009 Financial Crisis. Further analysis shows that hitting a 52-week low like they did in March, they average a gain of +11.0% during the next 3 months. On the other hand, whenever small stocks are 90% or more above their 52-week low as they are today, the following 3-month average performance has been -3.2%.
There certainly is no way of knowing how small U.S. stocks will perform the next 3 months following this nearly historic rally since March. One argument is that this small stock rally has just begun given they have underperformed for multiple years. On the other hand, maybe the recent rally has moved too far too fast and they may stall for a period. Only time will tell!
This Week’s Performance Highlights
- The Federal Reserve signaled its plans to keep interest rates low for several years. This is expected to help support the economy and, likely, stock markets for some time.
- Equity markets around the world closed higher for the week with U.S. large stocks, as measured by the S&P 500, posting the smallest gain of the 4 major regions up +1.2%. The Dow Industrials lagged more rising just +0.4% for the week while the NASDAQ regained its 2020 strength climbing +3.1%.
- Small U.S. stocks had another strong week extending their rally that started with the announcement of the first vaccine in early November gaining another +3.0% for the week and now up +19.6% year-to-date topping the performance of large stock.
All but one sector, energy stocks, were higher with technology stocks leading the way gaining +3.2% for the week. Although energy stocks fell -4.2% for the week they have been on a spectacular run since the announcement of the first vaccine on November 9th as the accompanying graph illustrates.
- International stocks rallied with developed markets gaining an average of +1.7%. Eurozone markets were the leaders gaining an average of +2.4% helped by a big +5.0% gain in German shares.
- Emerging markets all climbed up +1.6% for the week as China and Hong Kong markets lagged and South Africa and Turkey surged +7.2% and +4.2% respectively. For the year emerging markets are up +15.5% putting them among the better performers worldwide in 2020.
- Commodity prices had a strong week gaining +3.4% but still remain lower for the year by -24.4%. Surprisingly this rally did not translate into energy stocks moving further higher.
- Gold rose with everything else, a bit of an anomaly as it can often move in the opposite direction of stocks, gaining +2.3% for the week and higher by +23.5% year-to-date.
- Real estate stocks and bonds both changed little for the week with real estate stocks up +0.2% and bonds down -0.1%.
The joy of the holiday season shows up in the performance of stocks during the last two weeks of the year in what is referred to as the Santa Claus Rally. Since 1927 the S&P 500 has averaged a gain of +1.13% during the last two week of the year as compared to an average 10-day gain of just +0.30%. Gains are not guaranteed though with stocks declining during 24 of the 93 years.
The mutual fund giant Vanguard Funds released its economic and market forecasts for 2021 including a forecast that the U.S. economy will grow by +5%. They are expecting the same for European economies and a much higher +9% for China. Given the difficulty of forecasting the economy as discussed above, the value of these forecasts is questionable but interesting none-the-less.
November Retail Sales fell by -1.1% compared to economists’ estimate of a decline of just -0.4%. This made for the second consecutive month with October’s previously reported small gain revised to a small loss.Grocers, home centers, and internet sales were the only segments showing gains while everything else was down. Among the biggest losers were bars and restaurants dropping -4% as people avoid going out given the spread of COVID-19 and department stores sinking by -7%.
Compared to a year ago, total retail sales are still up +0.3%. Likely no surprise to many is that internet sales have surged +22.6% over the past 12 months now accounting to 17.7% of the total compared to just 12.9% a year ago.
Growth in Industrial Production, a measure of manufacturing, utilities, and mining, slowed in November up +0.4% compared to +0.9% in the prior month. Manufacturing has improved for 7 consecutive months helped this month by strong auto and auto parts production. Utilities were weak, down -4.3%, impacted by warmer than normal temperatures. Capacity utilization increased to 73.3% but remains well below its long-run average of 79.8%.
Since hitting allow in early November, jobless claims reversed course and continued higher this week coming in at 885,000 which was well ahead of the estimated 818,000 and prior week’s 862,000. Although a recent report by the Government Accountability Office says these numbers are inflated, the direction of the trend is believed to be a correct for the employment market.
The housing sector remains strong, helped by near record-low interest rates, with housing starts inching further higher by +1.2% to 1.547 million annually. The multifamily sector, including apartments and condos, jumped +8% while single-family home starts were up just +0.4%. Numbers varied greatly by region as well with the starts in the Northeast surging +59% while numbers fell in the Midwest and South. Year-over-year total starts are up by +13%.
Upcoming Economic Reports
- Consumer Confidence Index
- Existing Home Sales
- New Home Sales
- Consumer Spending
- Initial Jobless Claims