Round 2 Goes to the Defending Heavyweight Champ
2Q 2020
Following the worst quarter for US stocks since the end of 2008, we have managed to tally the best quarter in 23 years, with the S&P 500 up 20.5% in the second quarter (including dividends). Since 1949, this was the fourth-best quarter – which followed the fifth-worst quarter.
2020 Q2 also featured impressive performance from other segments, including large growth stocks (+27.8%) and large value stocks (+14.3%). Mid-sized companies and smaller companies were +24.1% and 25.4%, respectively, beating their larger peers. International developed market large cap stocks were +14.9%, while developed market small cap stocks were +19.9%, and emerging market stocks were +18.1%.
Many bond segments experienced a reversal of the “risk-off” environment in the first quarter. This meant the bond categories which did poorly in Q1 (e.g. corporate, municipal, agency, and mortgage-backed bonds), performed much better than “safe-haven” Treasury bonds in Q2. For example, the Barclays US Treasury Index was +0.5% in the second quarter, while the Barclays US Corporate Bond Index was +9.0%, and the Barclays US Intermediate Aggregate Index (which consists of a variety of Treasury, agency, mortgage-backed, and corporate bonds) was +2.1% for the quarter. Municipal bonds were also higher, with the Barclays Municipal 1-15 Year Index +2.7% for the period.
Many investors wonder whether this surge means the stock market has decoupled from the economy, given that we are beginning to see a rise in COVID infections. They fear that a resurgence of the virus will be accompanied by another economic shutdown and another wave of unemployment claims. While on the face of it, this may be difficult to square, the fact is that the stock market is different from the economy in two very important ways.
First of all, the companies traded on the stock market are some of the largest enterprises in our economy. While many smaller (mostly private mom-and-pop) businesses are having a difficult time in this environment, it seems that their better-capitalized, larger competitors are finding it relatively easier to access capital and sanitation supplies, weather the storm, and take customers from smaller firms.
Secondly, the stock market is a discounting mechanism that looks beyond the immediate economic future. The market found a bottom on March 23rd when the number of “sell first and ask questions later” investors were finally depleted. Those who held on through the indiscriminate panic knew that eventually the demand for goods and services of those large companies would return. And we expect the economy to continue to gradually recover over the next several months – though we may encounter fits and starts along the way.
As the past couple of quarters have shown, large downward moves in the market can be followed by swift rebounds, rendering market timing a useless exercise. We advise investors to remain diversified and balanced during periods of uncertainty and to take advantage of rebalancing and tax-loss harvesting opportunities where appropriate when markets become volatile.
We are encouraged by the fact that “high frequency” economic data is indicating light at the end of the tunnel. These data show that although many economic data points remain below year-ago levels – like hotel occupancy, TSA traveler traffic, global flights, and restaurant dining – the activity levels are well off the bottoms and continue to trend higher. Furthermore, additional data points – like purchase mortgage applications and driving direction usage – are actually now higher than year-ago levels.
Finally, we would add that the Federal Reserve is committed to staying accommodative for as long as possible, while plans for additional fiscal stimulus look to be imminent. Continuing the boxing analogy from our first quarter market commentary, the judges’ scores showed a huge comeback by the Champ in the second round. While there are 10 rounds left, they may not all be necessary…