2020 Fourth Quarter Investment Commentary
By Arthur G. Swalley, CIMA®, Director of Investments
Sharing a quarterly investment commentary has the advantage of being able to have some perspective on recent events, but the disadvantage of being overwhelmed by the sheer volume of them. Looking back over the end of 2020 and the first month of 2021, we at Arlington are impressed and challenged by the breadth and velocity of change the world, and the financial markets, have experienced.
After a tense October of rising COVID-19 infection rates, super-spreader rallies, and minute by minute polling results, November kicked off with a historic election marked by record voter turnout, despite the surging pandemic. As with the 2016 election, investors embraced change with strong positive momentum. The end of election uncertainty kicked off a powerful rally in value and smaller companies, erasing all of the sectors’ pandemic induced losses by year end. Additionally, foreign markets led by China and Southeast Asia performed strongly. Arlington’s disciplined positioning, aided by two rebalancing moves during the year, benefitted from these rallies and finished the year with strong absolute and relative returns.
The election coincided with a surge in COVID-19 infections and hospitalizations, which led to renewed shutdowns and slowing in economic activity. However, the Pfizer vaccine release in early December, quickly followed by the Moderna vaccine release, allowed markets to look past the virus’s surge and maintain positive momentum. U.S. cases peaked on January 8, two weeks after Christmas, and have declined rapidly since, thanks to a combination of vaccinations and lack of holiday gatherings. We anticipate and hope that Dr. Anthony Fauci is correct in his informed prediction that herd immunity will be reached in the late summer/early fall timeframe.
With hardly a chance for a breather, 2021 kicked off with the Georgia Senate elections handing the thinnest possible control of the chamber to the Democratic Party. Markets began pricing in more fiscal stimulus and higher inflation, anticipating larger COVID-19 relief measures with a Democratic Congress and President Biden in control. The very next day, Congress was overwhelmed and overrun by a horde of insurrectionists trying to overthrow the results of the Presidential election. Fortunately, our democratic processes held up to the challenge as Congress reconvened and certified the election result, leading to an orderly transition of power on January 20. The U.S. market peaked in the week after President Biden’s inauguration.
The peak in the market didn’t last for long as the Reddit/GameStop drama began to unfold. With the short sellers squeezed out of Gamestop and AMC Theaters over the past week, the Reddit community has turned it sights onto silver, another heavily shorted asset. Many long/short hedge funds suffered double digit declines and caused short term market volatility by having to sell long positions to cover their losses on the short side. Without diving into more details, we do want to point out that day trading in options and challenging short sellers isn’t new, but what is new is an entire generation of investors is quarantined at home, bored, with a set of services on their phone designed to funnel them into extreme, dopamine-driving trades. In short, a major result of rapid, unpredictable change (in this case social media driven trading) is volatility.
These latest market machinations, along with unprecedented government spending and deficits which were expanding rapidly even before the pandemic broke out, lead to the most popular financial question of 2021: are we in a stock market bubble? Bubbles are easy to spot after they have happened. The best we can do is point out that there are speculative excesses in some stocks and sectors, especially in innovative, speculative companies with no earnings. Other indicators are an increase in initial public offerings (IPO’s), increased margin trading by smaller investors, and market valuations that make sense only relative to zero interest rates. However, if the vaccines are effective in controlling COVID-19, the U.S economy is poised for a rapid recovery in activity and earnings, which would quickly fill the current gap in valuations.
Here at Arlington, we continue to focus on high quality companies and the discipline that has served us well through previous bubbles and inevitable dislocations. We are confident that innovation will continue to keep up with the changing needs of consumers around the world, and that over the long term, we will have you positioned to benefit.
We wish you a healthy and happy 2021!