Jonathan Marriott, Chief Investment Officer
The first quarter of 2021 saw a continued shift out of safe havens and the stocks that had held up well through the worst of the pandemic, into some of the areas hardest hit last year. Equity markets were generally positive, but with a huge dispersion of returns. Government bond markets suffered as expectations rose for higher inflation given the cyclical recovery. Central bankers on both sides of the Atlantic were more sanguine, sticking to their view that a rise in inflation would be temporary and rates would not rise for some time. Investors were given pause for thought by events including the spectacular rise of GameStop shares fuelled by Reddit, the blockage of the Suez Canal and a hedge fund collapse causing massive losses for some banks. Meanwhile the vaccine rollout and official support for the global economy continued, with varying degrees of success.
In the US
President Biden got to work quickly after his inauguration, reversing many of Trump’s policies. He brought new urgency to the vaccination programme with a target of 100 million doses in his first hundred days, a target that has been exceeded and revised up to 200 million doses. He pushed through a $1.9 trillion support package and at the end of the quarter announced a further $2.25 trillion "American Jobs Plan," with rises in corporate taxes to pay for it. With the narrowest of margins in the Senate, this may not go through in full, but it will see a substantial increase in infrastructure spending – with an emphasis on sustainability and the green economy. The huge stimulus has caused fears over inflation, with the rate priced into 5-year inflation-protected Treasuries moving up to 2.6%, well above the Federal Reserve 2% target. Year-on-year inflation will be higher in the middle of this year, not least because the oil price has recovered from the lows of last year. Longer-dated US Treasury yields moved sharply higher and the market has started to price in rate hikes ahead of Federal Reserve expectations.
The vaccine rollout has been successful in the US and UK but, in other parts of the world, particularly Europe, it has been slow – with doubts raised about the safety and efficacy of some of the vaccines. In these places, cases are rising and renewed lockdowns are being enforced, with the economic recovery delayed. The European Central Bank has extended its support and also noted that they expect any rise in inflation to be transitory.
In the UK
The UK agreed the Brexit deal at the end of 2020, but there have been difficulties particularly over Northern Ireland. The recent dispute over vaccine distribution added to ill feeling between the UK and the EU. For now, the pandemic impact on the economy is much larger than any Brexit effect, but there are signs of difficulties with delays in customs.
China is heading towards being the largest economy in the world and, while the pandemic started there, they came through it well. The crackdown on democracy activists in Hong Kong and Alibaba's venture into financial services show that they want to retain a degree of central control. Tensions over claims to territory in the South China Sea and Taiwan have added to uncertainty. There was some weakness in Chinese stocks: the Shanghai Shenzhen CSI 300 Index is down 3% after a strong 2020. This remains a region for investment opportunities, but the moves in the first quarter demonstrate some of the difficulties.
In the stock market
The rise in US Treasury yields caused a sell-off in tech and growth stocks. Banks are benefiting from a steeper yield curve. Energy and materials stocks also did well, as the market priced in a post-pandemic boom. Leisure and transportation have also recovered on expectations that markets will reopen. Some share prices have even gone above the pre-pandemic level. This optimism may be overdone, so we add a note of caution.
In the last week of the quarter, the unwind of big leveraged positions that had been built up by investment firm Archegos caused substantial losses for certain investment banks. This caused big moves in individual stocks as several banks sold at the same time. Hedge funds also appeared to be a target when chat on social media caused a more than tenfold rise in the price of GameStop. A bricks and mortar retailer in the middle of an online shopping boom, GameStop had been heavily shorted by hedge funds. In this case, hedge funds were beaten by social media. High street retailers may have appeared easy targets for short sellers as the move to online shopping was accelerated by the pandemic. The attention of the Reddit community may have caused a reassessment of these short positions.
In global supply chains
This time last year we were concerned about supply chains given the closure of factories in the Far East. This quarter, the blockage of the Suez Canal raised those fears again. Fortunately, this was a temporary closure. However, with over 400 ships delayed and arriving at ports at the wrong time, some manufacturers may find themselves short of parts in the next month. Intel has announced the investment of $20billion in two new factories in Arizona. Meanwhile, part of the Biden investment plan is to reduce US reliance on Chinese manufacturing. Repatriating manufacturing will require investment in robotics and artificial intelligence if they want to offset higher labour costs.
Overall, what helped protect portfolios through the worst of the pandemic has suffered in the first quarter of 2021; meanwhile, investments that had been hit hard have recovered. There remains considerable uncertainty around the path of recovery and, in the short term, this move may have swung too far. The companies that suffered during the pandemic will recover some of their earnings, but their balance sheets have been damaged and this may make growth difficult. Those looking to smooth long-term returns should look to companies with more stable earnings and strong balance sheets. China and the Far Eastern markets will continue to be drivers of global growth, but do carry higher risks. After the pandemic recovery, we expect a return to the slow-growth, low-inflation world that existed pre-pandemic. Given the higher government and corporate borrowing incurred during the pandemic, we expect central banks to be slow to raise interest rates. Productivity gains come from technological innovation, so investment in technology will be important. In conclusion, we expect investors will return to the quality growth companies that have suffered in the last quarter.
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