The last week’s market highlights:
Each week, we present our featured topics in the context of the major themes listed below from Nuveen’s Fourth-Quarter 2020 Outlook:
- U.S. economy: After the third-quarter bounce, a wobblier and flatter trajectory for U.S. growth.
- Global economy: Considerable fiscal stimulus should keep economies afloat.
- Policy watch: No Federal Reserve interest-rate hikes until at least 2023.
- Fixed income: Lean into higher-risk assets to generate income.
- Equities: Focus on quality across the board (and dividend payers, too).
- Asset allocation: Consider benefits of active management amid idiosyncratic opportunities.
Quote of the week:
“Someone struggled for your right to vote. Use it.” – Susan B. Anthony
COVID-19 cases surge while political campaigns wind down
Don’t look now, but not much has changed over the past few weeks in the race for the White House. Both President Trump and former Vice President Joe Biden continue to crisscross the country, seeking to shore up support and drive their voting bases to the polls.
Meanwhile, polls continued to show Biden as the probable victor. As of October 30, FiveThirtyEight, a website that focuses on opinion poll analysis, gave him an 89% likelihood of winning, while the model used by the Economist put the odds at a near-certain 96%. Of course, the polls that inform these models may be wrong, and Trump could still prevail. But for that to happen, they’d have to be far more inaccurate than they were just prior to the 2016 election, when Hillary Clinton seemed to be sitting in the catbird seat.
In terms of the Senate, FiveThirtyEight puts the probability of the Republicans losing control at 77%—in line with prior forecasts—with Democrats picking up five seats to assume a 52-48 margin. That’s probably not enough of a cushion to pass the most progressive parts of the Biden agenda. Whether that nuance is reflected in the market’s reaction on November 4 (or whenever the outcome is known) is something to watch for.
While little’s different on the campaign front or in the polls, news regarding COVID-19 has worsened markedly. There have been spikes in new cases, hospitalizations and deaths in much of the world, including the U.S. This surge is tragic in human terms, of course. And it might be potentially more damaging to the U.S. economy and stock market than this past summer’s outbreak. Indeed, the coronavirus did little to disrupt the economic recovery in the third quarter, when U.S. GDP grew at a rapid 7.4% clip and the S&P 500 jumped 8.9%.4
What’s different this time? The U.S. economy is now riding without “training wheels,” the result of failed efforts by Congress and the White House to agree to another fiscal relief bill. Absent further financial assistance from Washington, we see a number of discouraging economic developments in the near term:
- Workers who lose their jobs—especially those with low savings—may struggle more to remain afloat
- Businesses heavily affected by COVID-19 could find it more difficult to keep their doors open and sustain payments to employees, vendors and landlords
- Consumer and business confidence will likely fall
Across the Atlantic, many countries in Europe have implemented fresh lockdown measures, which we believe will drag down growth at a time when business activity in the region was already slowing, based on Purchasing Managers’ Indexes (PMIs) for October. One hopeful note: Europe’s generous safety net should help limit bankruptcies and job losses.
Against that rather gloomy global backdrop, markets now seem to be less focused on whether growth or value stocks are in favor. Instead, they’re weighing the “risk-on” versus “risk-off” trade—and the latter has been prevailing. Among S&P 500 Index sectors, for example, utilities, a defensive sector, performed the best last week, while more economically sensitive areas like industrials lagged.5 Risk aversion has also benefited currencies of Asian countries that, comparatively speaking, have the virus under control. Over the past two weeks, the Korean won, Taiwanese dollar, Indonesian rupiah and Japanese yen all have strengthened relative to the U.S. dollar.6
In fixed-income markets, investors believe a bigger fiscal stimulus package under a Biden administration would lead to stronger growth and increased inflation — factors that tend to push up yields on longer-dated debt. For example, the yield on the bellwether 10-year note, which began October at 0.69%, closed the month at 0.88%. Yields on 30-year Treasuries (1.65% as of Friday’s close) have experienced a similar climb.7
A booming third quarter puts the “Gee!” in GDP (with a giant asterisk)
One takeaway from the government’s advance estimate of third-quarter GDP growth is that it’s tough to keep a good economy down. The U.S. economy grew a record 7.4% in the third quarter (or +33.1% annualized). This is a sharp reversal from the second quarter, when GDP recorded its worst performance ever (-9%, or -31.4% annualized).8 Such a snapback had been widely expected as the U.S. began to dig itself out of the coronavirus-driven recession.
Here are some factors that contributed to the rebound in GDP from worst to first:
- Consumers, who normally account for 70% of overall growth, punched above their weight class last quarter and contributed 76% of the headline total.9 Consumer spending on goods is now 6.9% higher than it was a year ago. In contrast, consumer spending on services has declined 7.2%, reflecting pandemic-mandated shutdowns and layoffs that have disproportionately hit travel, leisure and other service sectors of the economy.10
- Residential investment, which enjoyed a very strong third quarter, added to the overall growth rate, but by a small amount (2.1%).11 That’s because home construction makes up just 3%-5% of the overall economy.
- Most of the 11.6% contribution from private investment came from inventory restocking—not surprising after five consecutive quarters of shrinking inventories.12
And among the detractors from GDP:
- Government spending fell in the third quarter, trimming 0.7% from overall growth, mainly because of lower state and local spending amid budget crunches and the expiration of loans related to the Paycheck Protection Program.12
- Trade deducted 3.1% from growth, as imports — a negative input in the GDP calculation — grew faster than exports. U.S. consumers continued to purchase foreign-made goods despite the presence of higher tariffs.13
All in all, this GDP report paints a picture of an economy that has made significant progress toward a full recovery from the deepest recession since the Great Depression. This good news comes with some caveats, however. Even with such strong performance, the U.S. economy remains 2.9% smaller than it was one year ago.14 Moreover, we don’t think it will reach its fourth-quarter 2019 peak until the second half of 2021. A large fiscal relief bill, which markets anticipate should Biden win, could accelerate that timetable to the second quarter of next year.
In addition to GDP growth, other notable third-quarter data was released last week. The average personal savings rate stayed elevated (15.8%) but declined from the second quarter’s stratospheric level (25.7%).15 This drop in savings reflected increased consumer spending combined with the end of various government assistance programs, which weighed on personal income. Looking ahead, still-solid household balance sheets and cash flows should provide some protection if the economy decelerates significantly in the fourth quarter — a likely outcome unless we see aggressive government intervention to support personal income and small-business solvency.