After Rally in Pandemic, Will Investor Enthusiasm Decline in 2021?

After Rally in Pandemic, Will Investor Enthusiasm Decline in 2021?

Against all odds, stocks rallied strongly in the fourth quarter, and most broad indices finished the year solidly in positive territory, at or near all-time highs. FSA strategies also ended the year at or near record values and assets under management for FSA are at an all-time high.

It’s hard to believe this was possible given the effects of the pandemic and the government-imposed global recession that prevailed for most of last year. We have commented a number of times in these Market Updates about the apparent disconnect between the ongoing economic difficulties and the generally optimistic outlook of stock and bond investors. Apparently, investors have looked beyond the current dreary spike in coronavirus cases, expecting the new COVID-19 vaccines to gradually bring this pandemic to an end in 2021. Well, we are now in 2021, and if there are any hiccups in delivering the vaccines or if new strains emerge, some of the gains in 2020 could get reversed pretty quickly this year.

The table below shows the performance for 2020 in the S&P 500 Index as well as several other asset classes. Notice the discrepancy between the return for the S&P 500 Index versus the Dow Jones Industrial Average and foreign stocks (MSCI EAFE Index). Large U.S. companies continued to dominate the performance charts, especially in the technology sector.

Stocks of smaller companies performed quite well in the fourth quarter and helped the FSA portfolios that held them, including Tactical Growth, Core Equity, and Conservative Growth. All eleven broad sectors (health care, energy, etc.) of the market were positive, with most sectors up 10% or more. Within the fixed income arena, high yield bonds posted strong returns, which helped these FSA strategies: Conservative Growth, Income & Growth, and Income.

Outlook for 2021
In 2020, investors bought stocks on the assumption that the economy would get back on its feet in 2021 and earnings would recover strongly. As a result, the risk in the first half of this year leans more to the downside. If there are major setbacks in the rollout of the vaccine or renewed lockdowns by states in the early part of 2021, stock investors may need to retreat and reconsider their bullish positions. The trends look positive across most asset classes and sectors, so we at FSA are comfortably invested but will be sensitive to any pullback early in the year.

We will be looking for opportunities to add foreign funds to the portfolios in January, as well as increase our allocations to small-cap funds and growth funds.

Historically speaking, the first year in the four-year presidential cycle tends to be anemic for stock returns. And given the stretched valuations among many groups of stocks, it probably makes sense not to be too optimistic for stock returns this year. Having said that, given that stocks around the world are coming out of a recession, there is some potential for the surprising upside in stocks to continue. If governments around the world can distribute and administer the covid-19 vaccines quickly, investors may continue to bid up stock prices in 2021. A number of areas—financials, energy, transportation, and others—are still very depressed compared with a year ago, so opportunities for positive returns are likely to be greatest in those areas.

In closing, we recognize what a tremendous challenge 2020 was for everyone. Many of us lost family members and friends to the pandemic; others were disrupted by layoffs and shutdowns. We also recognize the challenge for parents who had to work from home while making sure their kids were doing their schoolwork. Even the most ardent introvert no doubt struggled emotionally at some point last year.

So, as we step into a new year, we want to wish you all good health and happiness, with the hope that we will soon be able to return to a new normal. If there is anything on your mind as a result of last year’s tumultuous events, please feel free to call or email your advisor.

Portfolio Update
Keep in mind that because we manage clients’ portfolios individually, the holdings in your particular accounts may differ somewhat from the averages.

Income (Strategy 1)
Trading was light in the fourth quarter in our bond strategy as we added another high yield bond fund to take advantage of a positive trend from this sector of the bond market.  All funds in the portfolio were positive in the fourth quarter. As of the quarter’s end, these portfolios held roughly 50% in high yield bonds, 40% in other types of bond funds, and 10% in money market funds.

Income & Growth (Strategy 2)
Trading was also light in this conservatively balanced portfolio. We increased the equity allocation up to it maximum level of 50% as stocks rallied in November. At the year’s end, the portfolios held 50% in equities and 40% in bonds, including 20% in high yield bonds, along with 10% in money markets.

Conservative Growth (Strategy 3)
Our flagship strategy posted a solid result in the fourth quarter, thanks in part to a small-cap position we added in November. Also, we rotated out of a more conservative short-term bond fund into a more aggressive high yield fund to take advantage of a strong stock market. As we start a new year, the portfolios hold 60% to 70% in equities, 20% to 30% in bond funds, and less than 10% in money markets.

Core Equity (Strategy 4)
Core Equity portfolios finished the year strong, thanks to our positions in various sector funds such as internet and transportation. During the quarter, we added a small-cap fund, which also performed well. Early in the new year, we will be looking to add an international fund into the portfolios. At the year’s end, the portfolios held 90% in equities and less than 10% in money markets.

Tactical Growth (Strategy 5)
In spite of the incredible bear market back in March, this aggressive strategy fared quite well for the year, and in the fourth quarter in particular, as semiconductor and small-cap funds contributed. During the quarter, we added a foreign fund and a commodity fund to the portfolios. At the quarter’s end, this strategy held roughly 70% to 75% in U.S. equities, 5% to 10% in foreign funds, 5% to 10% in commodities, and 5% to 10% in money markets.

Sector Rotation (Strategy 6)
This specialized strategy posted its strongest result since it was launched in 2015, thanks to an approach that keeps the portfolio invested most of the time. As a result, when stocks turned higher in April, this strategy benefited. In addition, the rotation process managed to keep the portfolio in the stronger areas of the market most of the year. At this time, the strategy holds transportation, financial, leisure, internet, and semiconductor sector funds. Surprisingly, it also picked up an energy fund for the first time in over a year.

Please remember to inform your advisor of any changes in your life that could affect your investment objective and how we manage your money.

Ronald Rough, CFA
Chief Investment Officer


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