By Guest Blogger Ryan Lewenza
.
“It’s tough to make predictions, especially about the future”
– Yogi Berra
The above quote has always been one of my favourites and I often think about this quote as I’m preparing my market outlook for the year ahead. It’s part of my job to analyze and forecast where the markets and economy are headed, but I’m fully aware of my own fallibility and the arrogance required to believe I can correctly and consistently predict an unknown future.
Take last year for example. Who would have predicted we would be hit with the worst global pandemic in over a 100 years! That said, we do the best we can on making these predictions with the information and knowledge that we possess. As I often say to clients, if I can go 6 or 7 for 10 then I consider that a win. So, let’s get started.
The next few months could be dicey as Covid rates rise exponentially, governments in turn roll back reopening measures and we transition to a new US president and a democratically controlled congress. But if we do see any volatility over the short-term it should prove to be a buying opportunity, as I’m fairly bulled up for this year.
First, critical to our positive market outlook is our expectations for a big ramp-up of vaccinations in the coming months and the high likelihood for developed countries to reach ‘herd immunity’ in the second half of this year.
With us being locked up in our homes for close to a year now, record savings and cash balances on hand and our profound desire to get back to normal and do all the things we miss, I believe once we near herd immunity that we’ll see an explosion of economic activity and a big rebound in the global economy.
This sentiment is echoed by many other economists as consensus is currently projecting the global economy to expand by 5.2% for 2021, after contracting by an estimated 4.4% in 2020. Canada is expected to grow at a faster clip than the US (5.2% vs 3.1% for the US) given its exposure to natural resources and that we were harder hit than the US in the downturn.
Economic Growth Forecast to Rebound Strongly in 2021
Source: Bloomberg, Turner Investments
The key to this economic recovery will be jobs! So far the Canadian and US economies have recouped 80% and 60%, respectively, of the jobs lost last year at the start of the pandemic. I see the potential for some job losses in February and March due to the lockdowns, but then strong job growth for the remainder of the year as vaccinations pick up.
Job growth in certain areas like business services, manufacturing and construction have actually been quite strong since last March, with the more service-based sectors like leisure and hospitality lagging well behind. But as we get vaccinated we should see people flooding back into the bars, restaurants, hotels and hospitality sector. This is why I see job growth surging in the second half of the year and this will be a sign that the pandemic is nearing its end.
Leisure and Hospitality Jobs to Accelerate in H2/21
Source: Bloomberg, Turner Investments
If I’m correct about this ‘pent up’ demand and a strong economic recovery, this should translate into a big rebound in corporate profits.
Stocks go up by either the multiple (i.e., P/E ratio) increasing or rising earnings. I see earnings growing at double-digit rates this year, which should help to propel the global equity markets even higher this year. Currently, consensus estimates point to S&P 500 earnings increasing by 30% this year. This is really the crux of our bullish call for this year.
Big Earnings Rebound Expected in 2021
Source: Bloomberg, Turner Investments
My conviction for further stock gains is pretty high this year, but, as always there are a few risks to my outlook that I’ll be monitoring closely.
First is the vaccine rollout and the expected time to reach herd immunity. A low adoption rate of the vaccine could greatly hamper how quickly we eradicate this virus and pandemic. Some surveys in the US showed only 60% of Americans would be willing to take the vaccine, but this has started to rise (now at 70%) as the vaccine rolls out, which is critical since it’s estimated that 70-80% of the population needs to be immune to the virus (either through vaccination or through natural infection) for us to reach herd immunity.
Second are the high equity valuations. Currently, the S&P 500 is trading at a forward P/E ratio of 23x, which is the highest level seen in many years. I do believe the historically low interest rates does support and justify a higher than normal P/E level, but clearly US stocks are expensive. This is one reason why we’ve introduced US value stocks into client portfolios.
When all is said and done, I believe earnings will rise more than the P/E will contract in 2021, and thus, equity markets will continue to rise this year.
High US Stock Valuations a Risk to our Bullish Outlook
Source: Bloomberg, Turner Investments
- So that’s the call. Stocks will climb a wall of worry this year on a successful vaccination rollout, a rebounding economy and higher corporate profits. Now let’s discuss key themes for this year:As the economy rebounds and inflation picks up, long-term bond yields will rise, which should weigh on government bonds. In a rising rate environment, corporate bonds should outperform government bonds, which is why we’ve reduced our government bond exposure in recent months.
- I see small-cap companies outperforming large-caps this year, which is why we added them back to client portfolios last summer.
- With stronger economic growth and a weaker US dollar, emerging market equities look set to do much better this year and I see them potentially outperforming developed markets.
- While the growth sectors – technology and healthcare – should continue to shine, I believe value stocks will finally come to the party and perform well over the next few years.
- REITs, after a rough 2020, should rebound nicely as people return to the shopping malls and concerns over commercial real estate subside. I see REITs as a vaccine recovery play.
- Biotech stocks are one of our favourite growth ideas right now and we see the industry outperforming this year.
- Oil and other commodity prices will continue to rebound as demand picks up in the second half and therefore see the lagging TSX doing better this year.
Come this time next year I believe the markets will be higher and the world will be a better place. As always, I’ll review these market calls at year-end to see if I can prove Yogi Berra’s assertion wrong.
Ryan Lewenza, CFA, CMT is a Partner and Portfolio Manager with Turner Investments, and a Senior Vice President, Private Client Group, of Raymond James Ltd.