The social and economic impact of COVID-19 has dominated capital market performance over the past nine months. The severe and rapid decline in global equity markets in February and March has been countered by a surprisingly strong rebound that continued unabated through the summer months.
While overall equity markets have almost returned to their levels at the beginning of the year, the majority of individual stocks have not. There is a clear demarcation between “COVID winners” and the rest of the market. Large technology stocks, benefiting from strong demand for their products with the shift to remote working, have resumed the robust pace they were enjoying before the pandemic. Other beneficiaries include the healthcare sector, home renovation suppliers, well-positioned retailers, renewable energy providers, and a few industrial companies providing essential goods and services.
The same cannot be said for the shares of many other companies, whose performance in 2020 has significantly lagged the markets. These include the banks, traditional “bricks and mortar” retailers, oil and gas producers, airlines, hospitality companies, and other service-related businesses.
The strength of “COVID winners” and their inordinate contribution to overall equity market returns belies the grim economic reality globally. Unemployment levels remain elevated and will continue to be so well into next year. Many small businesses in the service sector have either disappeared or are hanging on precariously, calling into question whether the banks have taken sufficient provisions should these commercial enterprises fail. A depressed transportation sector, most notably the airlines, has resulted in weak demand for petroleum products. We expect that growth in these sectors will remain depressed as long as the movement of people is restricted.
One silver lining in this environment has been the strengthening of personal balance sheets. Here in Canada, where individual borrowing had grown to surpass U.S. levels, people have taken advantage of the lockdowns by paying down debt. This should help sustain the recovery in time.
Governments worldwide, having learned a valuable lesson during the financial crisis 12 years ago, have been aggressive in providing monetary stimulus. Interest rates have once again been driven to record lows, with central banks pledging to maintain them for the foreseeable future. The main goal of controlling inflation, which has dominated central bank thinking since the early 1980s, has been replaced by the desire to regain full employment. This, in turn, has supported asset prices in the equity, bond and residential housing markets.
We view the strong recovery of the equity markets with a healthy dose of skepticism. While we acknowledge that investors are attempting to see through to the other side of the pandemic, we remain cautious. In addition, the lead up to the U.S. elections on November 3rd adds further potential for increased market volatility.
To this end, we continue to hold elevated cash levels in your portfolio. This serves to provide some downside protection should markets retreat while providing us with opportunities to buy good companies at a discount should such an event occur. Meanwhile, the high-quality equity positions we do own will ensure that your portfolio participates in a recovery, whenever it occurs.