Stock investors have put the pandemic shock behind them. How can they position their portfolio for more upside?
The year 2020 was a disaster for economies and financial markets across the world. Covid-19, which was declared a pandemic in March, had not only claimed more than 1.8 million lives, it had also substantially reduced economic activity and caused the prices of many asset classes to plunge, owing to various measures to curb the spread of the virus.
But this year, things are looking brighter. Major financial markets have rebounded and more. The US stock market, for instance, has completely recovered from the Covid-19 slump and is scaling new highs.
Year to Jan 11, the S&P500 and Nasdaq was up 1.2% at 3,799.61 points and 13,036.43 points respectively. The Dow Jones, too, was up 1.3% to end at 31,008.69 points. This was despite the riot at Capitol Hill that saw supporters of outgoing US President Donald Trump attempt to disrupt a session by the US Congress to rectify the results of the election.
The optimism in Asian financial markets is also palpable. Year to Jan 11, the Hang Seng index was 2.5% higher at 27,908.22 points. The Nikkei 225 was also up 2.5% at 28,139.03 points. In Singapore, the Straits Times Index closed 4.9% higher at 2,983.90 points.
Gold, on the other hand, continued to decline from its new all-time high of US$2,063.54 ($2,746) an ounce recorded last August. The precious metal is now down 2.9% year to Jan 11 to trade at US$1,843.89 an ounce, implying investors are no longer pivoting to the safe haven asset.
Interestingly, cryptocurrencies — especially Bitcoin — is climbing sharply, continuing the strong rally seen in the last few weeks of 2020. That has enabled the digital currency to gain a whopping 592.5% from a 12-month trough to close at US$33,964.38 on Jan 11.
The movements in these asset prices — expected or unexpected — can be attributed to various reasons. One of these was the positive development of several Covid-19 vaccines. (See Page 25 on vaccine ETFs) As pharmaceutical companies make great strides in Covid-19 vaccine development, many countries signed agreements to acquire doses from them. Some, including Singapore, have begun to administer shots to the general population. The hope is that with inoculation, countries can fully reopen and resume normal activity.
Yet inoculation of the masses will take time. Moreover, the safety of the vaccines is still far from certain. Two people in the UK late last year developed an allergic reaction to the Pfizer-BioNTech vaccine. This led the Medicines and Healthcare Products Regulatory Agency (MHRA) to warn that “people with a significant history of allergic reactions” should not take the vaccine for now. Health Canada also came out with the same warning.
More recently, a healthcare worker, who was given Pfizer’s Covid-19 vaccine, reportedly died 16 days after receiving the jab. Thus far, the evidence has not suggested a connection to its vaccine, Pfizer says in a statement.
Meanwhile, many countries are still struggling to contain the spread of Covid-19. Notably, the US and India are continuing to see an increasing number of new cases and deaths. Worse, the Covid-19 virus has mutated into three new strains that are reportedly more contagious than before. The mutations are reportedly detected in more than 30 countries, including Singapore.
Still, things appear to be under control locally. The city-state has successfully kept the number of new cases low over the past few months. On Dec 28, Singapore entered Phase Three of the reopening of its economy, further easing restrictions on gatherings and activities.
So, how will economies and financial markets fare in 2021?
Inflation expected to pick up
Market observers are optimistic this year. Citi Private Bank says the global economy will recover more quickly and robustly from the Covid-19 recession than from a more typical, severe downturn. The virus, Citi says, was an “exogenous shock” with its impact spreading unevenly. As such, parts of the global economy were largely spared Covid-19’s effects, while some benefited “mightily”, it adds.
Apart from that, governments are providing the necessary “fuel” to support a broad recovery, says Citi. Monetary policies of major central banks, too, have turned accommodative to spur economic activity. The US Federal Open Market Committee, in its December meeting, voted to keep its benchmark short-term interest rate anchored near zero. As a result, Citi believes that global employment and spending will rebound faster than in a “normal” downturn.
Signs of a gradual recovery may already be taking shape in Singapore, according to advance estimates. The Ministry of Trade and Industry (MTI) announced that the country’s GDP shrank 3.8% y-o-y in 4Q2020, registering an improvement from the 5.6% contraction in 3Q2020.
On a q-o-q seasonally adjusted basis, MTI says the economy grew 2.1%, following the 9.5% expansion in the preceding quarter. For the whole of 2020, the country’s GDP contracted 5.8%, outperforming MTI’s November estimate of growth contracting between 6.5% and 6%.
Singapore’s manufacturing sector has been the main driver of growth with a y-o-y expansion of 9.5%. This was driven primarily by the electronics, biomedical and precision engineering clusters. While the manufacturing sector contracted 2.6% on a q-o-q seasonally adjusted basis, output for this sector should continue to remain “sanguine” in the coming quarters, according to Irvin Seah, senior economist at DBS Group Research.
Overall, he says the economy is on a recovery path after the strong rebound in 3Q2020 and the trough registered in 2Q2020. However, the pace of growth has slowed, as the V-shaped recovery has turned into a square root-shaped trajectory, he adds. “We see this [as] part and parcel of a normalisation process. As economic activities gradually resume to norm, growth momentum will naturally revert to a more sustainable pace,” Seah says in a Jan 4 note.
However, the construction and services sectors may continue to contract at least into 1Q2021, according to Barnabas Gan, economist at United Overseas Bank (UOB). He notes that the uncertainties surrounding Covid-19 and its negative impact on global trade winds will likely be around in the foreseeable future.
This, in turn, may create headwinds against Singapore’s trade and transport sectors, he warns. “In the same vein, the slow restart of the construction sector could mean that time is needed for this sector to return to pre-Covid-19 levels,” Gan says in a Jan 4 note.
UOB has kept its GDP forecast for Singapore at 5.0% in 2021, which is within MTI’s outlook of between 4.0% and 6.0%. “We recognise that the global backdrop will likely be favourable for Singapore’s economy for the year ahead,” says Gan. DBS, on the other hand, is slightly more bullish with a higher GDP forecast of 5.5%.
Despite expectations of growth this year, there are risks ahead. Morgan Stanley warns that “economic scarring” following a recession could occur again if history were to repeat itself. In particular, the bank warns that higher interest rates, higher inflation, and sharper and shorter business cycles could occur because of higher spending.
“Given the scale of the Great Covid Recession (GCR), this time won’t be different from others, [but] how we heal matters,” Morgan Stanley equity strategists Adam Virgadamo and Michelle Weaver write in a Jan 3 note.
Keith Wade, chief economist and strategist at Schroders, warns that inflation could return in three ways. For one, inflation could already be higher; it is just not being measured properly. Secondly, inflation could also occur from latent demand because of the build-up of liquidity. Finally, inflation could result from overstimulation through loose monetary and fiscal policies as policy-makers overestimate the supply side of the economy. “Investors certainly have good reason to fear higher inflation,” he says in a January note.
Digitalisation trends to remain
Regardless of the economic outlook, market observers reckon that certain structural trends are here to stay. For one, Citi says the legacy of the Covid-19 will be a reminder of just how much innovation has changed the contours and dynamics of the world economy.
It reckons that the end of the pandemic will further accelerate innovation and the adoption of technologies that will generate great value for investors and society over the decades to come. “And all of these are investable possibilities,” say chief investment officer David Bailin and chief investment strategist cum chief economist Steven Wieting.
Morgan Stanley shares a similar sentiment. The bank says artificial intelligence, automation and industrial software will continue to see robust demand for investment. This comes as the application of technology in response to the pandemic led to new ways of operating that made companies more efficient and protected their margins. “We suspect that these efficiency gains are just the beginning as the continued diffusion of technology across industries boosts productivity for years to come,” say Virgadamo and Weaver.
Environmental, social and governance (ESG) integration is another area. With more money moving into ESG, pure-play green investments have seen valuations skyrocket, says Morgan Stanley. “We think that the power behind green investing and the common-sense investment approach of buying at lower prices mean that the market may embrace rate of change ESG investing and reward companies improving their ESG characteristics,” say the Morgan analysts.
Thirdly, the bipolar US-China world order will likely continue. BlackRock says the rivalry between the world’s two largest economies centres on technology. “We believe investors need exposure to both poles of global growth,” say BlackRock Investment Institute head Jean Boivin, head of macro research Elga Bartsch, chief fixed-income strategist Scott Thiel and senior portfolio strategist Vivek Paul in a Jan 4 report.
Yet how the rivalry play out could very well be determined by the new US administration. Citi says US president-elect Joe Biden is likely to seek alliances with Western countries to manage issues like intellectual property rights, access to Chinese markets and fair trade policies. “This could be a more formidable approach relative to the prior ‘America First’ strategy that had relatively minor consequences for China,” say Bailin and Wieting.
DBS reckons that Biden is unlikely to remove tariffs on Chinese imports overnight. But he may progressively ease them after consulting with close allies of the US, according to the brokerage. “This will trigger a similar response from China on US imports,” DBS analysts Yeo Kee Yan, Janice Chua and Yong Woon Bing say in a Jan 4 report.
Will Singapore, which has long maintained friendly ties with both countries, get caught in the crossfire? Maybank Kim Eng believes that the country’s neutral position, together with the ongoing shift in supply chains as countries adopt China+1 strategies, should benefit the country as a hub for MNCs and regional corporate headquarters relocations.
Furthermore, Singapore has strengthened its global connectivity by completing two key free trade agreements — the Regional Comprehensive Economic Partnership (RCEP) and the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP), it says. So, where should investors put their money?
Hunting for yields in risky assets
Michael Strobaek, global chief investment officer at Credit Suisse, says with low interest rates across the world, there is no more money to be earned on excess free capital. Savings are worth nothing unless they are put into risky assets, he adds.
“In the year ahead, central bank policies will continue to play a key role and determine the course of equity markets, which I believe will be up by the end of 2021. However, investors should not expect another 44% gain in the Nasdaq or another 16% increase in the S&P500. Rather, they should start thinking about the laggards and dare to be contrarian,” he writes in a Jan 5 note.
Citi shares a similar view. It says when rates are held below normal levels for extended periods of time, the value of cash and many fixed-income investments is “repressed”. It warns that accepting negative real returns in large parts of a portfolio is harmful. In contrast, the backdrop for equities and real assets is strong. Wise users of leverage in private equity and real estate will also be beneficiaries of this extended low interest rate environment, says the bank.
Citi says it will focus on “quality” income-generation equities. It prefers firms that grow dividend payments routinely in industries with strong growth or cyclical recovery. “We believe these dividend payers will be resistant to eventual upward interest-rate pressures, unlike utility shares for example,” say Bailin and Wieting.
Meanwhile, BlackRock says it is adopting a barbell approach to risk assets over the next six to 12 months. In particular, the asset manager is focusing on quality assets such as tech and healthcare stocks on one end and selected cyclical exposures on the other. “Quality assets with strong balance sheets and cash flows also offer resilience against potential bumps on the road to a full activity restart, in our view,” according to its analysts.
BlackRock also says it sees assets exposed to Chinese growth as core strategic holdings that are distinct from exposure to Emerging Markets. “There is a clear case for greater exposure to China-exposed assets for returns and diversification, in our view,” say Boivin, Bartsch, Thiel and Paul. “Strategically, we favour deliberate country diversification and above-benchmark China exposures.”
Although BlackRock concedes that these assets are exposed to China’s high debt levels, yuan depreciation and US-China conflicts, it believes investors are well compensated for these. “We expect persistent inflows to Asian assets as many global investors remain underinvested and China’s weight in global indexes grows,” they add.
What about gold? Hou Wey Fook, chief investment officer at DBS, says the precious metal continues to be a good hedge against volatility. He points out that gold’s dual characteristics as a diversifier while still appreciating in value when equity prices rise should enable the overall portfolio to be resilient in a volatile environment. This is especially the case as quantitative easing has the effect of injecting liquidity into the system, bringing bond yields down, weakening the dollar, and driving inflation higher. “These factors are tailwinds for the price of gold,” he says in a 1Q2021 report.
And what about Bitcoin? Kristina Hooper, chief global market strategist at Invesco, is bearish on the digital currency. She believes that gold is a far better choice for diversification into “hard assets” and as a hedge against geopolitical risk. “Bitcoin might continue to run for a while this year, but I expect it to be volatile and to ultimately disappoint, as it has in the past after strong rallies,” she says in a Jan 5 market commentary.
