Vaccines And Massive Stimulus Fuel 2021 Optimism; Plus Baker’s Dozen Long-Term Performance Update

First off, I am pleased to announce that Sabrient’s Q1 2021 Baker’s Dozen portfolio launched on January 20th! I am particularly excited because, whereas last year we were hopeful based on our testing that our enhanced portfolio selection process would provide better “all-weather” performance, this year we have seen solid evidence (over quite a range of market conditions!) that a better balance between secular and cyclical growth companies and across market caps has indeed provided significantly improved performance relative to the benchmark. Our secular-growth company selections have been notably strong, particularly during the periods of narrow Tech-driven leadership, and then later the cyclical, value, and smaller-cap names carried the load as both investor optimism and market breadth expanded. I discuss Baker’s Dozen model portfolio long-term performance history in greater detail in today’s post.

As a reminder, you can go to Bakers Dozen to find our “talking points” sheet that describes each of the 13 stocks in the new portfolio as well as my latest Baker’s Dozen presentation slide deck and commentary on the terminating portfolios (December 2019 and Q1 2020).

No doubt, 2020 was a challenging and often terrifying year. But it wasn’t all bad, especially for those who both stayed healthy and enjoyed the upper leg of the “K-shaped” recovery (in which some market segments like e-commerce/WFH thrived while other segments like travel/leisure were in a depression). In my case, although I dealt with a mild case of COVID-19 last June, I was able to spend way more time with my adult daughters than I previously thought would ever happen again, as they came to live with me and my wife for much of the year while working remotely. There’s always a silver lining.

With President Biden now officially in office, stock investors have not backed off the gas pedal at all.  And why would they when they see virtually unlimited global liquidity, including massive pro-cyclical fiscal and monetary stimulus that is likely to expand even further given Democrat control of the legislative triumvirate (President, House, and Senate) plus a dovish Fed Chair and Treasury nominee? In addition, investors see low-interest rates, low inflation, effective vaccines, and therapeutics being rolled out globally, pent-up consumer demand for travel and entertainment, huge cash balances on the sidelines (including $5 trillion in money market funds), imminent calming of international trade tensions, an expectation of big government spending programs, enhanced stimulus checks, a postponement in any new taxes or regulations (until the economy is on stronger footing), improving economic reports and corporate earnings outlooks, strong corporate balance sheets, and of course, an unflagging entrepreneurial spirit bringing the innovation, disruption, and productivity gains of rapidly advancing technologies.

Indeed, I continue to believe we are entering an expansionary economic phase that could run for at least the next few years, and investors should be positioned for both cyclical and secular growth. (Guggenheim CIO Scott Minerd said it might be a “golden age of prosperity.”) Moreover, I expect fundamental active selection, strategic beta ETFs, and equal weighting will outperform the cap-weighted passive indexes that have been so hard to beat over the past few years. If things play out as expected, this should be favorable for Sabrient’s enhanced growth-at-a-reasonable-price (aka GARP) approach, which combines value, growth, and quality factors. Although the large-cap, secular-growth stocks are not going away, their prices have already been bid up quite a bit, so the rotation into outperformance of quality, value, cyclical-growth, and small-mid caps over pure growth, momentum, and minimum volatility factors since mid-May is likely to continue this year, as will a desire for high-quality dividend payers, in my view.

We also believe Healthcare will continue to be a leading sector in 2021 and beyond, given the rapid advancements in biomedical technology, diagnostics, genomics, precision medicine, medical devices, robotic surgery, and pharmaceutical development, much of which are enabled by 5G, AI, and 3D printing, not to mention expanding access, including affordable health plans and telehealth.

In this periodic update, I provide a comprehensive market commentary, offer my technical analysis of the S&P 500 chart, review Sabrient’s latest fundamentals-based SectorCast quant rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. To summarize, our outlook is bullish (although not without some bouts of volatility), the sector rankings reflect a moderately bullish bias, the longer-term technical picture remains strong (although it is near-term extended such that a pullback is likely), and our sector rotation model retains its bullish posture. Read on….

Commentary:

With investors flush with cash, most asset classes finished 2020 strong, with the S&P 500 (SPY) +18.3%, the Tech-heavy Nasdaq 100 (QQQ) +48.6%, Russell 2000 small caps (IWM) +20.0%, S&P 400 mid-caps (MDY) +13.5%, 20+ Year Treasuries (TLT) +18.1%, Emerging Markets (EEM) +17.0%, gold (GLD) +24.8%, and bitcoin up a whopping +303.0% (and still climbing!). Moreover, oil has been holding above $50, and copper (the bellwether industrial metal) remains in a solid uptrend. It was notable that the end-of-year surge in small caps allowed the Russell 2000 to outperform the S&P 500 for the first time since 2016. Hedge funds overall returned +11.6% in 2020, which is the best in 10 years, according to the HFRI Fund Weighted Composite Index (a global equal-weighted index of over 1,400 single-manager funds).

You surely noticed that bitcoin was the best-performing asset class of 2020 by a country mile, closing the year at $29,000 and then continuing to spike during the first week of the year before topping out at nearly $42,000. Since then, traders have been taking profits and repositioning for the next leg up, while long-term investors are using the pullback as a buying opportunity. Cryptocurrencies (including Bitcoin, Ethereum, and numerous altcoins) have enjoyed rapid capital inflows for a variety of reasons, including profligate government “money printing” (to fund deficit spending and stimulus programs), institutional adoption, the proven security of blockchain technology, and the emergence of 5G connectivity (to speed up transactions). Many investors now see Bitcoin as superior to gold (or even Treasuries, given ultra-low yields) as either a store of value or protection against inflation or recession. So, rather than rising merely on retail investor speculation (like they did in 2017, before crashing back down), this time there seems to be real purpose behind the bullishness. Total crypto market cap now exceeds $1 trillion.

One might think that Democrat control of the legislative triumvirate: President, House, and Senate, would send stocks plummeting due to fears of higher taxes and regulations, but according to DataTrek, US stocks historically have averaged +14% annual return since 1948 when Democrats control Congress and the White House. Furthermore, I think the likelihood of sweeping changes in tax rates and regulation and accelerated “Big Government” spending are lessened given razor-thin majorities and the presence of several moderate Democrats. Even now, there is doubt about the viability of Biden’s $1.9 trillion stimulus package (as an extension to the $900B package that was just enacted), with state and local government and pension funding (aka bailouts) likely to be a major sticking point.

Nevertheless, given the apparent growing acceptance of once-unthinkable Modern Monetary Theory (MMT) and the willingness of central banks (including our own) to support the economy with unlimited liquidity, investors evidently expect the trend to continue for much of that liquidity to find its way into both financial assets and hard assets alike, including stocks, gold, and cryptocurrencies. Is all this “fake money” pouring into the financial system healthy in the long term? No, and I have proffered ideas in the past as to how the developed economies might someday need to coordinate a way to retire much of that debt from central bank balance sheets (and perhaps restore something akin to the old gold standard). But for the near term, as long as the spigot stays open, it is stimulative for both the economy and risk assets.

Federal Reserve data show that the M2 money supply grew by 25% in 2020, which is the largest growth rate in history, while M2 money velocity is at all-time lows. Although the massive liquidity and spike in M2 money supply growth would suggest an imminent rise in inflation, it has proven quite hard to overcome the powerful disinflationary dynamics from the aging demographics throughout the developed world, slowing population growth, expanding globalization of manufacturing and trade, and the innovation, disruption, and productivity gains of rapidly advancing technologies. Moreover, both businesses and consumers have been more inclined to keep their money in the bank or investments rather than spend. So, with all that liquidity (often employing leverage) competing for a relatively small number of investment choices, asset prices keep rising in expectation of continued expansion in money supply – which could continue for years.

As a result, valuations are historically high by most metrics. But keep in mind, “Big Tech” companies dominate the major cap-weighted indexes much more than they ever have before, and they are veritable profit machines with powerful competitive positions, unprecedented global reach, wide moats, strong customer loyalty, low capital intensity, and immense growth opportunities.

Furthermore, as aggressive, cash-flush investors seek new sources of “hockey stick” returns, initial public offerings (IPOs) are surging. Last year was a record year for IPOs in the US as a total of 552 companies became listed (versus 242 in 2019), raising a total of $174 billion, which is 43% more than the previous record set in 2007. The surge in IPO activity during the second half of 2020 was fueled by Special Purpose Acquisition Companies (SPACs), which accounted for half of all IPOs in 2020. These so-called “blank check” companies are created for the express purpose of effecting a reverse merger, capital stock exchange, asset acquisition, stock purchase, reorganization, or similar business combination with one or more businesses.

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Disclosure: Author has no positions in stocks or ETFs mentioned.

 

Disclaimer: This newsletter is published solely for informational purposes and is not to be construed as advice ...

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