Updated Market Comments, October 08, 2020
Tailwinds and Headwinds
We find ourselves now less than 90 days away until 2020 is finally over. These last seven months sure have presented our country, and the world, with a challenging journey. While we of course wished we could have avoided the pandemic and its many twists and turns, we also think investors have learned now more than ever how important it is to continue to focus on the road ahead, rather than the rearview mirror. As we enter the final quarter of 2020 amid an increasingly tentative economic recovery, there are a few tailwinds and headwinds that we have tracked and will continue to track in order to give us some insight into where the market may stand in 2021.
Don’t Fight the Fed
“Don’t fight the Fed” is an investment policy that states investors should align their actions with those of the Federal Reserve System. In the current market environment, this means to invest in the economy in other ways while the Fed is doing everything it can to be extraordinarily accommodative. With Zero Interest Rate Policy (ZIRP) in place fixed income yields are lower, in turn investors may seek to purchase elsewhere to stimulate the economy (Bespoke Investment Group).
Stocks vs. Bonds
The dividend yield of the S&P 500 is 1.77% (as of 9/30/2020), approximately more than 100 basis points higher than the 10-Year US Treasury’s yield of 0.7% (as of 10/7/2020). Generally speaking, though the S&P’s price to earnings ratio is elevated relative to history, compared to yields offered by risk-free bonds, stocks do not seem overvalued in our opinion.
The US consumer has been extremely resilient and a strong contributor to the recovery. In aggregate, retail sales have entirely recovered their COVID lockdown declines. September’s retail sales report showed that total seasonally adjusted sales were up 1.5% from the prior record from January. That is a new high in just five months. In comparison, after the Financial Crisis in 2008, it took forty months for the retail sales report to make a new high (Bespoke Investment Group).
Not only has the consumer bounced back but so the manufacturing sector is showing signs of strength as well. This week’s September reading from Markit’s Purchasing Managers’ Index™ (PMI) saw the seasonally adjusted index rise slightly to 53.2 from 53.1 in August. Markit highlighted that output accelerated at its fastest rate in the last 10 months and we experienced the second-sharpest rise in employment since November 2019 (IHS Markit).
Housing on Fire
New Home Sales have jumped to their highest levels since the Financial Crisis and show no signs of weakness so far. Sales of new single-family homes in the United States jumped 4.8% in the August (the latest report released 9/24/20) from the previous month to a seasonally adjusted annual rate of 1,011,000. It is the highest reading since September of 2006. At the same time, monthly supply has dived to its lowest level in decades. The number of new houses for sale available on the market fell 3.1% in August to 282,000 (Trading Economics).
Across the US, fewer than 5% of administered COVID-19 tests are coming back positive over the past week (7-day moving average). Easy access to timely testing isn’t available everywhere, but there is enough at this point that exposures can generally be identified rapidly. Hospitalization is also showing positive signs. From the week ending August 1 to the week ending September 26, weekly hospitalization rates declined for all adult age groups (Centers for Disease Control and Prevention). A vaccine is expected to be available by the end of the year at earliest, but multiple different trials have shown a very high likelihood that vaccines can provide sufficient immune response to protect against COVID (Bespoke Investment Group).
Most economic indicators are still lagging behind their levels prior to the pandemic but they have improved much more quickly than economists expected. The Citi Economic Surprise indices measure the pace economic indicators are coming in above or below compared to consensus estimates. If the index is negative, it means that the majority of reports are coming in below expectations. If positive, the reading indicates that most data is coming in ahead of expectations. These indices for the US, Europe, and world all reached record highs. Although they have turned lower more recently, they remain at higher levels than anything prior to COVID. Please keep in mind Index returns are not fund returns. An index is unmanaged and not available for direct investment. Past performance is no guarantee of future results (Bespoke Investment Group).
Corporate earnings are down post-COVID, but similar to what we’ve seen with economic indicators, they’ve managed to surpass analyst expectations. The percentage of companies exceeding analyst estimates has skyrocketed to record highs similar to the early days coming out of the Financial Crisis. The sales beat rates are strong as well. The 3 month rolling Earnings Per Share (EPS) Beat Rate is currently 76.40% compared to the historical average of 59.37% while the 3 month rolling Sales Beat Rate is currently 67.33% compared to the historical average of 56.45% (Bespoke Investment Group).
2020 is Not 1999
Given the top-heavy nature of the S&P 500 recently, there have been many comparisons made between now and late 1999/early 2000. While there are some similarities between the two periods, it’s important to keep in mind there are plenty of differences too. For instance, valuations of the largest stocks are much more reasonable now than they were in early 2000. Bespoke Investment Group derived this from the market breadth measured by Cumulative A/D line. The Cumulative A/D line plots advancing (A) and declining (D) stocks in an index. The S&P 500’s Cumulative A/D line has been following the S&P 500’s price closely for the past 12 months compared to 1999 and early 2000s in which a majority of stocks were in bear territory as the market reached new highs (Bespoke Investment Group).
Quarter 4 is traditionally a very bullish period for stocks. The Dow has averaged monthly gains in October, November, and December whether you go back 20, 50, or 100 years (Bespoke Investment Group).
We began 2020 with an elevated price-to-earnings ratio (P/E) (trailing 12-month) for the S&P 500. The latest reading was a P/E of 25.84 versus the historical average of 15.69, sitting at a very high end of its range going back to the 1930s. We can attribute this to share prices rising as earnings have fallen as a result of lockdowns. Another valuation metric is the ratio of total US stock market capitalization to GDP. This ratio, along with the S&P’s P/E ratio, was already at record highs heading into the year. With GDP down and stock prices up, it has only increased even further.
We did highlight previously in “Tailwinds” that one of the positive elements of the market was that though the largest stocks in the S&P 500 are up big, that the rest of the market hasn’t necessarily been bad, especially compared to 1999 and the early 2000s. That being said, market breadth is not very positive either. When the market gets this top heavy, it does throw up some warning signs. If the five largest stocks start struggling, it will make it difficult for the “market” to go higher (Bespoke Investment Group).
Slowing Improvement for Employment
The employment recovery since the lows in April should be noted as impressive. In September, the unemployment rate declined by 0.5% to 7.9% and the number of unemployed persons fell by 1 million to 12.6 million (Bureau of Labor Statistics). Employment statistics are going in the right direction but still have a way to go considering the economy has added more than 2.5 million jobs per month since May. Payrolls continue to stand far below where they were pre-COVID in February. The pace of improvement in payroll has slowed recently and is expected to decelerate further. Weekly new jobless claims continue to come in 30% above levels seen during the worst of the financial crisis (though it was over 1000% during the peak of the recession in March) (Bespoke Investment Group).
We noted in “Tailwinds” that beat rates for EPS and Sales have been extraordinary since the COVID Crash. Things have been so positive that we may be at a point where expectations are just too inflated and not very possible to meet. Investors sold “good news” this past earnings season with “triple plays” (companies that beat earnings and revenue estimates and raise guidance on most recent earnings report) actually averaging declines in response to their reports in September (Bespoke Investment Group). If a company making earnings triple plays can’t trade higher, it signals it may be difficult to find one that will and so this is a concern to keep in mind as we enter Q4.
We are confident there is light at the end of the tunnel. We may not have hit the last bump in the road just yet, so sticking to a disciplined investment strategy will be of the highest importance if you wish to arrive at your destination, achieving all your goals and objectives.
“The stock market is a device to transfer money from the impatient to the patient.” – Warren Buffett
Founder, Chief Executive Officer
Senior Portfolio Manager
P: (239) 239-920-4440 | F: 239-431-5239
Thomas.Moran@MoranWM.com | www.MoranWM.com
5801 Pelican Bay Blvd, Suite 110, Naples, FL 34108
Past performance is not a guarantee of future results.
All investing involves some degree of risk, whether it is associated with market volatility, purchasing power or a specific security, including the possible loss of principal. Stocks offer long-term growth potential, but may fluctuate more and provide less current income than other investments.
Investments in fixed-income securities are subject to market, interest rate, credit and other risks. Bond prices fluctuate inversely to changes in interest rates. Therefore, a general rise in interest rates can result in the decline in the bond’s price. Credit risk is the risk that an issuer will default on payments of interest and/or principal. This risk is heightened in lower rated bonds. If sold prior to maturity, fixed income securities are subject to market risk. All fixed income investments may be worth less than their original cost upon redemption or maturity. Yields and market value will fluctuate so that your investment, if sold prior to maturity, may be worth more or less than its original cost.
The opinions expressed here reflect the judgment of the author as of the date of the report and are subject to change without notice. The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Additional information is available upon request.
Investment products and services are offered through Wells Fargo Advisors Financial Network, LLC (WFAFN). Moran Wealth Management is a separate entity from WFAFN. 1020-01674
Bespoke Investment Group (2020, September 25). Equity Market Pros and Cons.
Bureau of Labor Statistics (2020, October 2). The Employment Situation – September 2020. US Department of Labor.
Centers for Disease Control and Prevention (2020, September 26). COVIDView: A Weekly Surveillance Summary of US COVID-19 Activity.
IHS Markit (2020, September 24). U.S. Manufacturing PMI.
Trading Economics (2020, September 24). United States New Home Sales.