Daily Commentary

Providing succinct, entertaining and savvy thinking on global capital markets. Our goal is to provide discerning investors the most essential information and commentary to stay in tune with what's happening in the markets, while providing unique perspectives on essential financial issues. And just as important, Fisher Investments MarketMinder aims to help investors discern between useful information and potentially misleading hype.


Lessons From PMIs and Other Goodies

Investors got 2021’s first US economic data release Tuesday, when the Institute for Supply Management (ISM) announced its manufacturing purchasing managers’ index (PMI) for December jumped to 60.7 from November’s 57.5, beating expectations for a mild slowdown.[i] (As with all PMIs, readings over 50 indicate expansion.) Forward-looking new orders hit an astounding 67.9, and output rose to 64.8.[ii] Surprising many, this expansion happened even as several states and metro areas were tightening lockdowns. Meanwhile, ISM’s services PMI doesn’t hit until tomorrow, but IHS Markit’s version ticked lower, signaling a slowdown. This divergence is unusual for a recession, and it isn’t the only thing making 2020’s economic contraction unique—a factor that holds a few takeaways for investors, in our view.

History will remember last year’s economic decline as a recession. The official arbiters, the National Bureau of Economic Research, already declared it one. But from a qualitative standpoint, we think the decline’s nature matters, too. Last year’s downturn had a well-known, unique cause: In hopes of slowing COVID-19’s spread, governments nationwide (and worldwide) ordered the closure of most face-to-face businesses. When the first wave of lockdowns happened in March, that included a lot of manufacturing facilities as well as shops, restaurants and personal services. But by the time the late-year virus surge triggered a new wave of lockdowns, officials seemed to realize factories could stay online provided employees maintained social distance and had adequate personal protective equipment. They were allowed to remain open—unlike restaurants, hair salons and a host of others. Online shopping also supported demand for physical goods as people adapted to stay-at-home life. So we ended up with a forced decline in services activity, while manufacturing fared ok after an initial drop.

More traditional recessions don’t materialize as suddenly or sharply. The typical recipe: As an expansion rolls on and the world gets more optimistic, businesses tend to build up excess as their expectations get too high. They launch big new projects, ramp up output, add headcount and all the rest as they see only sunlit uplands and can’t fathom bad times arriving in the near future. Meanwhile, in an effort to contain that froth, central bankers often overshoot, jacking short rates above long rates and inverting the yield curve. That starts a reset in which funding dries up, forcing businesses to get lean and mean to make it through. They slash investment and production and work through big inventories, with the goal of being able to do more with less once everyone has worked off their collective bloat. You can see this in the steady decline in inventories and capacity utilization over the entirety of a recession. Both usually bottom out alongside GDP. This time, inventories and capacity utilization took an immediate hit before beginning a sharp recovery. Neither is back at breakeven yet, but both have rebounded far faster than if this were a traditional recession, as Exhibits 1 and 2 show.

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The Sentiment Overshoot That Spurred Stocks in 2020

As we reflect on 2020 in its waning hours, it is easy to think of many ways this year will be remembered as one of history’s worst: the pandemic’s vast public health impact and the related tragedies many families endured; the sudden, sharp hit to employment and small businesses; the dislocations from social distancing and school closures. As much as this is the undeniable reality of the year, though, there is another thing to consider: How much better than feared the economic reality has been since the lockdown-induced contraction in the spring. While we don’t diminish the year’s general awfulness, we think it is worth acknowledging that this better-than-feared reality likely contributed mightily to the swift bull market that began in March.

In the early, hugely uncertain days after Western nations began locking down in an effort to slow COVID’s spread, pundits pretty much everywhere agreed the hit would be severe. Comparisons to the Great Depression were front-page news in many major outlets worldwide. Yet expectations from the crisis’s pessimistic depths for everything from annual GDP growth to earnings and unemployment have proven overly negative.

Consider GDP. In the lockdowns’ immediate wake, everyone was sure the damage would be severe—and it was. In Q1 and Q2 2020, US GDP fell -5.0% and -33.1% annualized, respectively.[i] Now, that doesn’t mean output actually fell that much in each quarter. As we took pains to explain at the time, annualized rates are the full-year rate that would result from the quarter-over-quarter growth rate repeating all four quarters. Using the actual quarter-over-quarter rates, GDP fell by -10.1% from Q4 2019’s high through Q2 2020. That is the worst two-quarter contraction in terms of magnitude since quarterly data begin in 1947. But it isn’t on the Depression’s level. Across that three-plus-year downturn, economists estimate GDP fell by roughly a third—nearly three times 2020’s decline, including one year (1932) in which GDP fell -12.9%.[ii]

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Some Dos and Don’ts for a 2020 Portfolio Review

With 2020 about to wrap up, annual reflections and reviews are common[i]—including of investment portfolios. There is nothing special about a calendar year, and reviewing such things in 12-month chunks has always struck us as rather arbitrary. But if you choose to conduct a year-end portfolio performance review, we think these dos and don’ts should be front of mind.

Do: Assess returns against a comparable market index (or mix of indexes).

Global equities are up 15.7% for the year.[ii] Depending on your asset allocation—your portfolio’s mix of stocks, bonds and other securities—that may not be the best reference point for your entire portfolio. If you have a good chunk of your assets in bonds, comparing the totality of your portfolio to stocks alone would be inaccurate. Instead, measure each portion against the most relevant benchmark. For example, you might measure your bonds against a broad bond index, like the ICE BofA 7-10 Year Corporate-Government Bond Index. For stocks, if you are invested globally, measure that portion of your portfolio against the MSCI World Index, not the US-focused S&P 500 index. For instructions on how to access these indexes on publicly available sites, here you go.

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The Major Lesson From a Wild, Tumultuous Year in Markets

With two trading days left in the year, the S&P 500 is up 17.5% year to date.[i] The MSCI World Index is right on its heels at 15.5%.[ii] If you were locked in a sound-proof chamber devoid of any interaction, online or otherwise, with the outside world all year and got only this information, you might think 2020 was just a nice, ordinary, modestly above-average year. Obviously, it wasn’t. February and March saw history’s fastest bear market, turning the year into a wild rollercoaster most would rather forget (not to mention the pandemic, natural disasters, social upheaval, a contentious election and all the other events this year threw at us). To those who hung on through the tumult to capture the rebound and subsequent gains, whether intentionally or because terror froze you into inactivity, never forget how your patience paid off—that lesson will serve you well the next time stocks encounter such sharp volatility. To those who missed some of this year’s returns, take heart: One year won’t make or break anyone’s long-term returns. For everyone out there, success doesn’t depend on how you did in 2020 alone. But what you have learned this year could be vital to future success.

There are plenty of lessons to learn from this year—and plenty of other articles listing them out. So here we will just offer a simple one: If you are investing in stocks for long-term growth, there are generally only two valid reasons to exit the market. First, if sentiment is so rollickingly euphoric that investors’ expectations have become almost comically high and impossible for reality to beat in any realistic universe. Second, if you see something big, bad and unnoticed—something no one else thinks could wipe a few trillion dollars or more off of global GDP. Those are the two things that generally cause bear markets, and identifying them early on can help you see a bear market just after it begins, giving you plenty of time to get out before the worst hits.

When stocks peaked in mid-to-late February, euphoria was absent. The COVID lockdown fell into the second category, which we call a wallop, and stocks started pricing those lockdowns’ economic fallout in weeks before they became official. Markets bottomed on March 23, the very day the UK became the last major nation to enter lockdown—and the day before IHS Markit’s flash purchasing managers’ indexes for March offered the first look at how much lockdowns were harming global economic output.

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Today in Brexit, Day 1,644

Editors’ Note: As always, our political commentary is intentionally non-partisan. We do not advocate for or against the UK leaving the EU and assess developments like these exclusively for their potential market impact.

Well how about that! In perhaps the least 2020 thing to happen all year, UK Prime Minister Boris Johnson and European Commission President Ursula von der Leyen agreed overnight on a post-Brexit trade deal. It reportedly took 24 hours of telephone haggling over fishing rights, which ended in an agreement whereby EU fishing boats can access UK waters for five-and-a-half years but the value of their catch must fall by 25%—a deal we are sure some on both sides will find delectable and others will find, well, fishy.[i] Oh, and trade between the UK and EU will remain tariff free and not subject to caps or other restrictions, a win for businesses on both sides. Now, we have long argued a deal isn’t necessary for both sides’ economies (or stock markets) to do fine once the post-Brexit transition period ends next week, so we don’t view this as some whopping positive or super-bullish catalyst for stocks. But it zaps most remaining Brexit-related uncertainty, giving businesses clarity on trade costs from here on out. More broadly, it probably helps boost sentiment, which adds to the blooming animal spirits as 2021 dawns.

Beyond the fishing bargain, the agreement offers little that wasn’t already expected. It puts the UK outside the EU’s customs union, giving it noteworthy freedom to diverge from EU regulatory standards—a key point for those who were pro-Brexit. As a result, there will be border checks on goods crossing the Channel and/or Irish Sea (the border between Ireland and Northern Ireland remains unfettered, consistent with 1998’s Good Friday Agreement that brought peace to the island). Those checks could cause some near-term backups and delays as freight firms adapt to new paperwork and procedures—not dissimilar from the interruption France closing its borders tied to COVID response caused in recent days. Moreover, the deal doesn’t apply to services—including financial services, meaning UK-based firms need to have a physical EU presence to ensure market access. That said, this was widely expected and led many firms (including our own) to establish footholds in EU jurisdictions to serve customers there over the past few years. It also remains possible that London-based banks gain access later if the sides reach an agreement on regulatory “equivalency” or thereabouts.

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An Early Christmas Gift From Congress?

Editors’ Note: As always, our political commentary is intentionally non-partisan. We favor no party nor any politician and assess political developments solely for their market and economic impact.

After months of talks, Congress agreed on a $900 billion COVID relief package on Monday, and its finalization seemed like a foregone conclusion until Tuesday evening, when President Trump blasted it and asked for some upward revisions in direct payments to Americans. But the legislation passed both chambers with veto-proof majorities, so it seems unlikely that this suddenly implodes. Meanwhile, the president isn’t the only one debating the pros and cons and whether more “fiscal stimulus” is necessary—headlines have been at it for days. In our view, this argument is wide of the mark. While the bill will likely help some struggling households and businesses, we don’t think it will meaningfully boost the economic recovery even if a few more billion dollars are added to it as the president requested—especially since the spending isn’t true stimulus, in our view.

Barring any forthcoming changes, here are some of the highlights in the bill Congress passed.[i]

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The Key Financial Lessons From an Awful Year

2020 has been terrible. But in its awfulness, it may also have revealed the importance of what we take for granted too often. This ranges from the everyday, like getting a haircut or catching a quick lunch, to the profound—the personal connections that enrich life. Being prepared financially is on the mundane end of the spectrum, but in our view, this year has made its value abundantly clear. So in the spirit of learning from hard knocks, here are some financial lessons brought to you by 2020 that we think bring timeless benefits.

It pays to stay cool and level-headed—especially when most aren’t. By their very nature, unprecedented events with big, negative consequences trigger fear and panic. But such crises aren’t the only risk. They can lead you to take the wrong actions at the worst possible moments, compounding disaster. In mid-February, after an exceptionally strong 2019 that looked likely to continue, stocks faced a wallop: a pandemic that led to blanket economic lockdowns attempting to contain it, crushing economic activity suddenly.

The bear market that ensued sent the S&P 500 down -33.8% in five weeks—a record-fast drop and extraordinary in the history of bear markets, which are usually long, grinding affairs.[i] It would obviously have been great to be able to foresee the bear market coming and take action in February or thereabouts, getting back in at lower levels later. But the next best option? Staying cool. Five months later, markets had erased the damage.

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Today in Brexit, Day 1,641

For the second weekend in a row, the UK and EU’s Brexit negotiation teams blew through a self-imposed Sunday deadline without agreeing on a trade deal. The main sticking point remains fishing rights, leading to all sorts of headlines about talks floundering, officials carping about fisheries, talks facing a sole stumbling block and EU officials being koi about whether they would allow a provisional deal to take effect without ratification if one were reached in the coming days.[i] Both sides say talks will continue, but the UK government has already ruled out extending the post-Brexit transition period beyond year-end, so the clock is ticking down toward a no-deal Brexit. However, markets are already confronting a reality including the practical implications of a no-deal Brexit, reducing whatever shock factor Brexit had left.

You see, the mutated strain of the novel coronavirus that is now circulating through London and southeast England has led governments to take actions resembling the hardest of Brexits imaginable. French President Emmanuel Macron responded by banning all freight and travel from Britain, effectively closing British ports along the English Channel. The highways are clogged with hundreds of trucks, and several thousand more have been diverted. In short, it is an extreme version of the so-called nightmare scenario of a no-deal Brexit, in which pundits feared new customs checks would cause a paperwork nightmare for truckers and result in … the highways being clogged with hundreds of trucks going nowhere for days. Only in that scenario, container ships would still be making the short journey and Brits would still be able to travel to the EU, so congratulations 2020, you have once again managed to kick society harder than anyone thought possible.

As we write, UK Prime Minister Boris Johnson is finalizing a plan to mass-test all truck drivers heading into France, and Macron has indicated a negative test result would give entrants a green light. So there is a pathway for the chaos to end, much to everyone’s relief, and by the time you read this things may be heading back to normal. But step back a bit: Is this really so different from how no-deal-Brexit-related chaos would resolve? No one expected that outcome to permanently cease trade. Rather, most expected a few days of chaos as understaffed ports tried to process reams of new paperwork, much of which might not be correct on the first attempt. But then drivers would get the hang of it, the kinks would iron out, and in the end trade would require just a bit more red tape. That is basically the process we are seeing right now. Chaos, followed by people figuring out a new system with more red tape. If society can get through that this week, is there some reason they can’t get through a second iteration after New Year’s? We have a strong hunch that this week’s events are further sapping any lingering negative surprise power. As a general rule, when markets fear something bad will happen, and the bad thing happens—or, a parallel bad thing—it enables people to see things play out, see society overcome the bad thing, and then move past the fear. Like ripping a really big bandage off, or something.

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Much Ado About Digital Taxes

“They aren’t paying their fair share!” In addition to concerns over competition, EU politicians’ standard criticism of huge US Tech firms is that they don’t pay much in local taxes, thanks to global tax rules. Hence, when they aren’t busy lobbying the US and other major nations to agree on changing these rules, they are threatening to adopt a unilateral digital services tax—a threat that returned to headlines recently as global talks once again fizzled. “Fair” is, of course, a squishy concept—one that is often politicized and hinges on who is speaking. MarketMinder doesn’t adjudicate “fairness” disputes. But it is worth considering a grand irony in this debate. There is ample evidence the EU’s digital taxes don’t—and won’t—make big Tech pay their “fair share.” They are a lot more likely to make normal Europeans pay up—one reason tax changes don’t seem like a huge threat to big Tech, whichever way the EU’s policy winds up going.

The EU has been considering a digital tax for eons. Currently, big Tech and Tech-like companies are subject to taxation only in countries where they have a physical presence. Naturally, this motivates them to set up shop in low-tax countries like Ireland and Luxembourg. Governments in other EU nations argue this unfairly prevents them from taxing commerce that occurs within their borders.[i] Partly in response to this, the Organization for Economic Cooperation and Development (OECD) has been exploring some kind of a global digital tax reform for years, but to no avail.

Attempting to remedy this, in March 2018, the European Commission (EC) proposed taxing digital companies with over €750 million annual global revenue and annual taxable EU revenue above €50 million based on users’ location. However, not all member states agreed, so an EU-wide digital tax failed to materialize. As a result, some countries have either imposed or proposed their own taxes. (Exhibit 1)

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Flash PMIs Put a Potential No-Deal Brexit Into Perspective

December is only half over, but the good folks at IHS Markit always get a jump on December data to get ahead of the holidays, which means … drumroll … it is Flash PMI time! PMIs, or purchasing managers’ indexes, are monthly snapshots of business activity that aim to measure the percentage of businesses growing—the “Flash” version being something of a sneak peek. PMIs aren’t perfect, but they are fast (especially Flash versions, as the name implies), and they often contain interesting nuggets. So it is in December, with results in the US, UK and eurozone overall mixed. The UK improved as its composite PMI (services plus manufacturing) inched back over 50, implying expansion. The eurozone contracted at a slower rate, and the US grew a tad more slowly. But the real eye-popping figures came from UK and eurozone manufacturing, which soared to multiyear highs. The reason why, in our view, offers investors some insight into a big Brexit fear.

That reason: Soaring supplier delivery times. These add to PMIs, as a delay in obtaining parts from suppliers implies demand is surging. That is the theory, at any rate, and it is often true. But sometimes delivery times shoot up because of issues at ports. This happened in America when West Coast ports had labor disputes a few years ago, causing container ships to stack up offshore. It is happening again today worldwide—and most notably in Southern California and the UK—as the combination of online holiday shopping and ports’ social distancing requirements is causing huge backlogs of unloaded containers from Asia. This is a big side effect of the pandemic and one that is quite clearly creating winners and losers, even if PMIs treat it as a big positive, which we think underscores the need to look under the hood when assessing even good-looking data.

Note, we aren’t saying this is some huge forward-looking negative. It isn’t even the first time ports stacked up this year. As Markit’s press releases note, supplier delivery times were even higher during the first lockdown. Port operators worked through the backlogs, truckers dispersed the delayed goods, and we all got our toilet paper, videogame consoles, gizmos, loungewear and pantry staples. Factories, too, got what they needed and were able to ramp up output bigtime over the summer. The same is likely this time around.

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