On 20 January 2021, Joe Biden was proclaimed President of the United States. This marked the end of Donald Trump’s presidency, a term of office marked by numerous controversies. Some of the key events during Biden’s first year in the White House were the economic rescue plan, the withdrawal of troops from Afghanistan and the highest inflation in forty years.
But the question we wanted to ask at this point is: how has this first year in office affected the financial markets? The experts at AllianceBernstein, M&G, iM Global Partner and Richard Bernstein Advisors tell us.
Miguel Luzarraga, Country Head at AllianceBernstein for Iberia
The current situation in the US can be summarized in four big themes: a strong economic backdrop; a new phase in the recovery thanks to Omicron; extreme inflation expected to fade; and further withdrawal of policy support.
During 2021, PMIs have continued to improve, supported by a rebounding services sector and resilient manufacturing. Although we have seen earnings revisions falling from their highs, they are still strong compared to long-term history.
In addition, the new Omicron variant appears to be more contagious but with milder symptoms, particularly for those with vaccinations. Despite the huge sharp rise in cases, the adverse effects on economic recovery were or are still short-lived. It seems Omicron could likely accelerate the process of COVID-19 moving from pandemic to endemic.
On the inflation side, major economies continue to experience elevated inflation during the year, driven by higher goods consumption and lingering supply chain challenges. The consumption spending mix is showing signs of normalizing. Services consumption has continued to recover while durable goods consumption growth has normalized, though some areas of goods spending remains resilient. Robust growth and tight labor markets will likely keep inflation above pre-pandemic levels.
2021 was a year of volatility. Inflationary pressures and tapering fears led to Treasury bonds’ volatility exceeding high-yield volatility. For 2022, a dynamic approach to managing duration will be key. We expect rate volatility to persist during the year as central banks transition to tighter policy.
Fabiana Fedeli, CIO Equities at M&G
2021 was a year of divergences in global equity market performance, both regionally and at a sector level, and the increase in market volatility, promoted by the uncertainty created by the Covid-19 pandemic, has yet to settle back to pre-pandemic levels.
Developed markets, led by the US, have been the relative winners and energy, IT and financials stocks have led the gains at a sector level. Looking to the year ahead for the US market, President Biden goes into November’s US mid-term elections with a low job approval rating and wafer thin majorities in both houses of the US Congress.
He is already struggling to pass the signature piece of his ‘Build Back Better’ legislative programme. If history is any indicator, then the November elections will see the Republican party take control of the House and Senate.
Most Presidents have had to deal with the opposing party controlling congress, including Presidents Trump and Obama. This situation has, historically, not been a bad scenario for equity markets, but it will likely limit the President’s ability to continue spending at the high levels that we have seen in the US over the last two administrations. US equity market gains recently have not been dissimilar to the stimulus-fuelled returns in President Trump’s first year in office, if divergent at a sector level. Energy stocks have seen some of the strongest gains as they recovered from a dismal 2020 and the tech sector has also outperformed, but returns have been tempered by inflation concerns in 2021.
President Biden has made headway with the $1.2 trillion US infrastructure bill, with $550 billion in new federal spending being channelled into repairing and modernising roads and bridges, investing in public transport, clean energy, digital connectivity and ensuring clean water infrastructure. The infrastructure sector, including renewables, should benefit from the build out in the US and globally. Last year, we witnessed increased corporate takeover activity in the listed infrastructure market, while dividend growth has been providing a degree of inflation protection.
When it comes to equities, it’s not inflation that is the key variable to watch – but rather the growth outlook that surrounds that inflation. As long as the growth outlook is constructive, this is good for equities, particularly given that from a relative valuation standpoint they are faring better than other asset classes. However, if inflation has a negative impact on the economic outlook or there is a policy error along the way (whereby the central banks tighten too much, too fast) that would change the narrative for equities.
Other areas to watch closely are energy prices which can indirectly affect discretionary consumption of Americans (despite having a much more self-sufficient energy market than Europe) and any flare up in US-China or US/NATO-Russian geopolitical tensions which could also create a more uncertain economic and market backdrop. Finally, at a sector level, a looming risk for Tech is increased regulation. US equity markets offer substantial breadth and depth of opportunity across growth and value.
The opportunity for active investors is in taking advantage of rising return divergence and broadening valuation dispersions across and within sectors. We expect this trend to continue with the more uncertain inflation, monetary policy and COVID-19 backdrop, which is already providing some good entry points in 2022, but selectivity remains key.
Eric Lynch, Portfolio Manager iMGP US Value Fund
US observers could be forgiven for their confusion reconciling America’s booming economic and stock market performance in 2021 with its citizen’s meager 40% approval rating for President Biden’s handling of the economy. The gap can be attributed to one word – inflation.The Conference Board estimates 2021 US real GDP will increase 6.0%, the highest rate in nearly 40 years.
US observers could be forgiven for their confusion reconciling America’s booming economic and stock market performance in 2021 with its citizen’s meager 40% approval rating for President Biden’s handling of the economy.
The gap can be attributed to one word – inflation. The Conference Board estimates 2021 US real GDP will increase 6.0%, the highest rate in nearly 40 years.
S&P 500 stock market index increased 26.9% as earnings growth for the index is expected to grow nearly 50%. Surprisingly, despite the Producer Price Index increasing 9.7% last year, US corporations successfully flexed their pricing power and increased profit margins. S&P 500 operating margins exceeded 13% in 2021 vs. a pre-pandemic range of 10-12% in the prior decade.While inflation-driven increases in sales, profit margins and profits have enthused institutional and wealthy investors, price increases have eroded consumer confidence for the average American household, owners of just $40,000 in stocks.
A majority of voters find themselves more concerned with rising gas, food, housing and health costs. Fairly or not, many pin the inflationary pressures on Biden’s successfully legislated $1.9 trillion covid relief and $1.1 trillion infrastructure plans, and his pending, if unsuccessful to date, additional $2.2 trillion Build Back Better plan.
In light of such voter concerns, persistently high inflation metrics, and a US unemployment rate of just 3.9%, the Fed has signalled a distinct change in tone. Investors now expect interest rate increases and declines in the Fed balance sheet to start as early as March.
Real stock market volatility, especially for risk assets that most benefitted from stimulus largesse, has commenced.Speculative investors partied to Biden’s inflation-friendly policies in 2021. In 2022 they are waking up to a hangover.
Dan Suzuki, Deputy Chief Investment Officer at Richard Bernstein Advisors
RBA believes that profit fundamentals — and not politics — drive market performance, and this presidential cycle has been no exception.
With President Biden being sworn into office at a time when the pandemic recovery was already well underway, financial market performance has been more attributable to underlying economic fundamentals than the administration’s policies. As such, performance during his presidency has been led by the parts of market that were among the most beaten-down during the pandemic and not those reflecting his policy priorities.
For example, energy has been the best-performing sector within the US equity market despite the President’s support for green initiatives.
The combination of the pandemic recovery and the continuation of ultra-stimulative policy resulted in surging demand that far outstripped supply and has led to broad-based increases in asset prices from commodities to real estate, financial assets, consumer goods and wages. The exception to the broad increase in prices has been long-term US government bonds. Despite having recovered some of the losses since their bear market lows in early 2021, long-term Treasuries remain roughly 15% below their peak levels and well below where they were at the time of Biden’s inauguration. This reflects the rise in interest rates brought about by the confluence of strong growth, inflation at a 40-year high and the pricing in of the first Federal Reserve tightening cycle since 2018.