We’re Off to an Interesting Start in the New Year…We Still See Positive Equity Returns in 2021.

February 8, 2021
We’re Off to an Interesting Start in the New Year…We Still See Positive Equity Returns in 2021.

“Owners of Sound Securities Should Never Panic”

–  J. Paul Getty

As you know, we introduced our 2021 Crystal Ball Market Outlook in mid-January. In it, we outlined a constructive view for U.S. stocks. We stated we expected solid, but not dazzling, results for the S&P 500 with an anticipated 6% targeted return this year. We added that we see upside to a 13% or better return as an optimistic scenario if the vaccine distribution goes swimmingly well, which remains to be seen. We placed a 75% probability on positive returns and assigned only a 25% chance of a mediocre to negative outcome.

This is a fairly positive outlook. It is driven by the data …the economy is expected to grow over 4% this year1 and earnings to rise by more than 20%.2 So far, this earnings reporting season is robust and encouraging as over 80% of S&P 500 companies reporting so far are beating expectations. More importantly management guidance for future quarters is upbeat. S&P 500 earnings forecasts for 2021 and 2022 continue to rise from already solid levels. All this while the Federal Reserve remains accommodative, interest rates and inflation remain quite low, and fiscal stimulus being provided to support the economy until it can comprehensively reopen stands at unprecedented levels. This hardly describes the makings of a bear market. To us, it paints a backdrop that can drive stocks to additional gains this calendar year.

That said, we have consistently stated we are looking for rising volatility after this historic 70% rally off of S&P 500 trough levels back in March of 20203 and that we would not be surprised to see a sizable temporary correction before we move to higher highs by year-end. We listed a number of wall of worry items likely to be in the headlines this year—amongst them we included issues such as: possible bottlenecks in vaccine distribution and mutations of COVID-19 that could delay the reopening of the economy; transition in political leadership in Washington; disappointment and fumbles in approving additional fiscal stimulus measures that might be needed; and the specter of rising inflationary pressures. Our conclusions are that these wall of worry items are manageable and that they are unlikely to impact the fundamental data at this juncture, which remains solid and ultimately drives returns. All told, we believe this is a sober, yet positive message.

So how are we progressing so far this year? Well, the S&P 500 is up roughly 2% as of early February. 4 While that sounds like a nice start to the year on the surface, the headlines have been unnerving to investors and have talked of bubbles and froth in the market. And, as we expected, volatility has indeed increased. The source of these headlines has focused on a surge in prices of a handful of very speculative stocks…you know the ones that have captured media attention…GameStop being chief among them. The executive summary is that we do not invest in these types of speculative securities in our internal equity strategies and do not own the ones currently making headlines. We seek companies with solid fundamentals and catalysts for earnings growth that exhibit attractive valuation on a number of metrics…that is our discipline. Signs of froth or advertised bubbles often can arise in pockets of the market without spilling over into the general market. That is what we see here…excess and froth in a very small niche of the market that certainly doesn’t interest us and that we do not think will spillover into broader market returns. If anything, we would see any correction in the broader market that arose from angst over behavior in these heavily shorted stocks currently making news as a chance to buy other attractive issues at a compelling entry point and take advantage of the opportunity. In this sense, we embrace J. Paul Getty’s thinking that owners of sound securities need not panic.

Does the Market Look Toppy?

We can deliver a pretty resounding no answer to this question. The table below lists the nine factors we look for that generally signal bull market tops.

Indicator Commentary

Green check marks mean these measures are in the clear, in our opinion. Red X’s would populate this chart if they were signaling future weakness and the beginning of a bear market. Flows into equities remain uninspiring over the last 12 months, credit spreads remain tight, meaning bond investors don’t foresee recession, and leadership in equities is in growthier names rather than the defensives that tend to lead when bear markets are developing. Only one of the nine signals is cautionary and that pertains to the inflated IPO activity we are seeing. One of nine, a bear market does not make, in our opinion.

We believe our conclusion that we are not close to a market top is also supported by our interpretation of the data as positive, negative or neutral outlined in the additional table below.

Fundamentals Data that impacts revenues

When evaluating the stage of the stock market, we look at three levels of analysis. First, we look at the fundamentals, such as economic and earnings growth, Fed policy, levels of inflation and rates. As you can see, these are positive. Second, we look at valuation. While the P/E multiple of the S&P 500 at 23 times earnings looks high, stocks remain attractively valued when comparing the earnings yield on stocks versus the interest rate on bonds. Back in the bear market of 2000 when P/E’s were higher and in the upper 20s, the 10-year Treasury was at 6%, and the Fed was hiking rates. Today the 10-year is at 1.1%, and the Fed is extraordinarily accommodative. So, stocks look fairly valued to us. With regard to the third type of research we conduct—analysis of technical price trends—market performance is broad and momentum is strong as captured in the degree to which the S&P 500 is trading above its 200-day moving average and the percentage of stocks at three-month highs. These measures bode well for future returns.

Corrections vs. Bear Markets

We separate the likelihood of corrections from the beginning of a bear market. The former is over before you know it and is caused by emotional wall of worry oriented headlines. The risk of taking action is suffering significant whiplash and missing the ensuing rally driven by actual facts and the solid fundamentals that are not appreciated. The latter occurs when the fundamentals, valuation levels and technical price trends are negative…which they are not today.

 The recent pullback feels more like it could be of the 2018 variety…it was caused by hand-wringing over the tariff rhetoric with China and worries that the Fed would make a major policy mistake. Anxiety about these items caused investors to anticipate worst-case outcomes and inspired predictions of a looming recession. These fears proved unfounded as the fundamentals remained quite constructive. The S&P 500 declined by roughly 20% intra month in December 20185 and then experienced one of its strongest years immediately after in 2019. The concerns over behavior in a handful of speculative stocks at present feel similar in nature to periods such as December 2018…temporary. Could the market sell-off to the same 20% magnitude? It could, but it also could be far softer than that. Regardless, we believe this is an isolated issue that should not spill over into the market in a broad, sustained way.


We’re staying glued to the facts. We believe the data remains positive in the broader market and with regard to a wide list of stocks we follow. There will be some bumps in the road, but calendar 2021 looks solid to us—healthy, not dazzling. Rising inflation and a significant move in rates would grab our attention far more than activity in a small group of stocks with uninspiring catalysts for growth and insignificant market capitalization. Stay tuned!


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The S&P 500 Index is a market-value weighted index provided by Standard & Poor’s and is comprised of 500 companies chosen for market size and industry group representation.

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