TD Ameritrade Network: David Garrity On The Market Impact Of a Lack Of Fiscal Stimulus
Updated: Apr 12
Question 1: Significance of DJIA 30,000 As the Dow Jones Industrial Average is not a performance benchmark for institutional investors of anywhere near the magnitude of the S&P 500 index, the effect of its recent rise through the 30,000 level is more psychological than anything else. That said, animal spirits are just as important in supporting market advances as economic data and corporate profits. So, we will consider the development to be a further positive confirmation of a return of optimism to the stock market as investors look across the chasm opened in the economy by the COVID pandemic as the bridge offered by accommodative monetary policy, record fiscal stimulus and now the discovery of vaccines supports the prospect of a better economy in 2021. Question 2: Likelihood of Congress passing further fiscal stimulus Seeing how the relationship between rising financial asset prices and liquidity provided by fiscal and monetary stimulus has been amply demonstrated during the COVID pandemic, it is hard to argue against the need for further fiscal stimulus not just domestically, but globally as well. As seen, weekly unemployment claims have been moving higher as the third wave of COVID infection has been sweeping across America and in the process fulfilling the predictions of health experts such as Dr. Anthony Fauci who warned that the onset of cold weather would bring substantial risk of increasing infection and mortality. While Congress is moving to provide extension to current unemployment benefit programs, there are still roadblocks such as the current administration’s insistence on receiving a further $2 billion for its southern border wall. Talk about obstructing progress when people need it most, but following the recent election the political climate remains highly partisan to everyone’s mutual detriment. To me, it is clear that American democracy needs a new deal in order to move forward, but it appears that unless both of the Senate run-off elections in Georgia coming in early January favor the Democrats the prospect is for piece-meal action at best. To cure what ails America now politically depends in large part on the ability of the incoming administration to prove effective in curing what ails America now physically. If it can do so, then it enhances the prospects for breaking the political barriers that impede the chances for rebuilding America better. Question 3: Why has gold sold off?
Historically gold is viewed as a hedge against policy errors that result in rising inflation. Given that the Federal Reserve under Chairman Jay Powell has moved recently to relax its interest rate policy guidelines to allow for higher inflation rates, one might expect that gold would receive a material and sustained boost in its price level. This is further underscored by the likelihood of former Fed Chair and former head of the Council of Economic Advisors Janet Yellen being appointed Treasury Secretary. With Yellen’s background as a labor economist and an accommodative Fed, one might expect that over time labor wage levels may start to rise, something that could serve as an inflation driver as labor markets tighten. However, the price action in the bond markets do not reflect much in the way of inflation concerns, if any. The implied inflation rate calculated by comparing yields on Treasuries and on Treasury inflation-protected securities for the five years starting in five years’ time has risen only to 1.83% from 1.81% at the end of October, still below the 1.92% reached last month, the highest since August last year. The best explanation for the bond market yields remaining low lies in the expectation of monetary intervention by central banks as they move to keep long-term interest rates low so as to support economic recovery following the successful distribution of COVID vaccines. That said, while low interest rates serve to reduce the carrying cost of a gold position, the feared appearance of inflation that will drive gold prices higher lies well out into the post-COVID future. Question 4: What do market internals indicate for 2021 performance? It has long been said on Wall Street that no one gets fired for taking a profit. After the wild ride 2020 has brought and the gray hairs it has very likely created along the way, I would not be surprised at all that the stock market going into the end of the year will trade sideways. However, it is important for investors to consider that both the economic externals and the market internals remain constructive. As to economic externals, we remain in a supportive monetary policy environment and the chances are for some action on the fiscal policy front with the incoming administration. Relative to market internals, we have recently seen the Russell 2000 begin to outperform the S&P 500 as investors see the benefits from COVID vaccines working their way into the broader economy. While the S&P made a new all-time high on August 17th, it took the Russell until November 13th, and its prior all-time record was back in August 2018. Small-cap stocks rarely perform exactly in line with large caps over a 1-year period which means that, even with the Russell 2000 now matching the S&P 500 over the last year, there is the opportunity to make a profitable call on small-cap stocks in here as they tend to work better than large-cap stocks at the beginning of a business/economic cycle. This was the case in 1991, 1993, 2003, and 2009 – 2011. In each of those periods the Russell 2000 beat the S&P 500 over a 200-trading day holding period by at least +10 percentage points. The takeaway here is that the Russell 2000 should outperform the S&P 500 over the next year. Ten points of outperformance is the usual early cycle difference in relative performance between the two, something offering sufficient potential upside to consider small-cap stocks now even at their recent new highs. Question 5: Significance of Janet Yellen as Treasury Secretary nominee. As mentioned in passing earlier, presumptive Treasury Secretary nominee Janet Yellen offers a superb mix of unique theoretical insights into the labor market well-grounded by institutional practice both as Chairman of the Federal Reserve and Chairman of the Council of Economic Advisors. Should Yellen be confirmed and in our view it is very difficult to imagine the circumstances under which her nomination will not move forward, she will represent a trifecta in economic policy management. So, not only are we likely to receive more monetary and fiscal support, but more importantly the means and methods and focus of these efforts will be guided in an adroit manner that likely has not been seen in some time. That said, the confidence of investors worldwide has been and should be bolstered by the prospect of improved economic policy stewardship under the leadership of Janet Yellen as Treasury Secretary.