What a fascinating month in markets (I seem to say that a lot lately). A new president installed in the White House, rising interest rates, earnings results in the United States, a rally in low quality companies and the Gamestop effect, a virulent explosion in the prices of once derided and heavily short sold stocks.
As an investor, focussed on long term accumulation of wealth, rather than being a speculator focussed on a short term (but often illusory) profit, sorting out the real news from the amusing anecdote can be a challenge. Getting that judgement right is important to make sound long term decisions.
For 2021, the real news will be dominated by the gradual recovery of the global economy from the coronavirus pandemic and associated lockdowns and the flow through effect to company profits, interest rates and currencies.
Company results - while getting overly focussed on short term company results can contribute almost as much noise as a rampant Reddit feed, this quarter’s results from US companies support the view that profits are recovering from the deep COVID slump in the middle of 2020.
It is a remarkable performance. Broadly revenues will likely be similar to the same time last year with earnings only marginally lower. The trend, at least so far for companies that have announced results, is that actual results are comfortably beating expectations. The key takeaway here is not the detail of results but the path of earnings recovery. Over time higher company earnings underpin higher share prices. We are not out of the woods but normality is returning.
Ongoing fiscal and monetary policy stimulus – while we never hang our hats on brave economic forecasts, governments and central banks are retaining their supportive posture, keeping short term interest rates low and government spending high. This supports economic activity, enabling consumers to spend and companies to profit.
Normalisation of long term interest rates – of course normalising economic activity has some consequences for financial markets. Chief amongst these is a small, but meaningful, uptick on inflationary pressures and a rise in longer term interest rates. This poses challenges for fixed income portfolios, longer maturity bonds fall in value when interest rates rise and for conservative portfolios. We have sought to protect portfolios from this by owning shorter than typical maturity bonds.
The post-COVID business environment – while the broad swath of economic activity might return to something like normal – the same is not necessarily true at an individual company level. COVID will impact how we work, how we travel and where we buy our goods and services. Not every company has been able to successfully navigate the challenges of the pandemic, others have gone from strength to strength.
This makes being very selective in what you own more important than ever. Our portfolio managers and analysts are very busy looking for those companies best able to adjust their strategy to the new world.
The good news is that the team has done a wonderful job of doing this not only over the past year but over the longer term.
The team has done a good job on your behalf and is working hard to do even better for the next five. The key to doing this is getting that first judgement right – the difference between noise and news – the things that don’t matter over time and the things that ultimately drive long term returns.