Commentary Winter 2021

2020: The Year of the Unexpected

At the beginning of 2020, the outlook for the economy and the stock markets seemed promising. The US stock market was amid its longest bull run ever (almost 11 years), the economy was growing, and unemployment was low. Interest rates were on the rise – the benchmark 10-year US Treasury bond yield hit 1.90%, and core inflation was creeping back up to almost 2.50%.

Graph showing 11-year bull market run
11-Year Bull Run in S&P 500 – Longest in History, 3/9/09 – 2/19/20

COVID Shock

Then came the spread of COVID. It started as a minor news story in mid-January and then, by mid-February, became front-page news as it spread from China to cities across the globe. In short order, people were ordered to shelter at home, businesses were shut, and governments struggled to understand how the novel virus spread and how to contain it. The impact on the US economy was immediate and staggering: an unprecedented 10 million people filed for unemployment insurance in the second half of March, and the S&P 500 Index dropped over 20% in 20 days – its fastest descent into bear market territory on record. On March 23, the market reached its low after having fallen 34% from its mid-February high. The 10-year US Treasury bond yield fell to a low of 0.54%.

No End in Sight?

At this point, the consensus was that the market was likely to fall further over the coming months – there seemed no end in sight to how low it could go; there was talk of recession, even depression. But then the Federal Reserve stepped in with its enormous balance sheet to purchase a wide swath of financial assets, and it aggressively lowered interest rates; Congress signaled that it was prepared to take dramatic action to help struggling businesses and the unemployed by launching the CARES Act. The narrative quickly turned to a sense that the worst had been avoided. The markets picked up steam in April, and then by November 2020, the major US indices were back to record highs.

But in looking more deeply at the first stage of the recovery, though the S&P 500 and other large company indices had reached new highs, the news was not necessarily representative of a broader rebound of the markets. In fact, just a handful of stocks overwhelmed the index – Facebook, Amazon, Netflix, Microsoft, Apple, and Google (aka FANMAG stocks) benefited from a crisis that had most of us camping out at our homes and avoiding things like dining out, traveling, and going to more traditional retailers. These five companies represented over 25% of the S&P 500 index – at one point, Apple, with a $2 trillion market value, was worth more than the combined value of all 2000 companies in the small company Russell 2000 index.

By the end of the third quarter of 2020, the S&P had recorded a gain of 5.6% year to date. But if we excluded the FANMAG stocks, the remaining stocks in the S&P 500 index would have reported a loss of 3%.

And entire, once robust sectors of the market, including airlines, energy, financial and hotels, resorts, and cruise lines, were down by double digits.

Graph shoting FANMAG stocks
Mega Stocks Dominate the Market

Strength in Diversification

However, in an encouraging sign, especially for those invested in diversified portfolios, the broader markets started to rally. Positive news on vaccine trials was released, the election produced a winner, and parts of the world, most notably in Asia, were having success with controlling the virus. This led to a resurgence in small company, international, emerging markets, and value stocks in the 4th Quarter after a long period of underperformance. Thus, 2020 for diversified investors ended up being a strong year.

As always, there are things to watch for – especially in the short term. Political divisions remain, COVID-19 continues to spread within the United States, and the initial signs are that the rollout of the vaccines has been slow. Unemployment remains high, and there is concern that those knocked down by the economic effects of the virus will be slow to recover. Only time will tell how this will all shake out; at this point, the markets remain optimistic that the recovery will continue and that the worst has been averted.

Markets Work

As we look back on 2020 and highlight the major market events in this commentary, it just reminds us that markets do work, and a long-term investment perspective is required at all times. The downdrafts can be hard to endure, and, when they are in freefall, it can seem as though they will never right themselves; but markets have always recovered. Some companies might not survive; others will prosper. Research has shown no reliable way to predict the top-performing stocks. Looking at the top 10% of stocks by performance each year since 1994, on average less than a fifth of that group has ranked in the top 10% the following year. At times, the market will seem to concentrate around one story, or one sector will dominate, while other, more diversified strategies will lag far behind. But in trying to avoid losses during downturns or chasing high-flying stocks in market upswings, you end up losing out on the discipline that can provide more reliable investment outcomes. And that is why we continue to emphasize diversification and a long-term view. It is discipline that produces the most consistent results and allows you to reach your goals.