Recently we sent out a special note to readers on the topic of Fed Chair Powell’s remarks last Thursday. We wrote:
“For many, Fed Chair Powell’s remarks yesterday were lost in the overwhelming election-related noise. But some of Powell’s comments were extremely important for investors to note as they contemplate their long-term strategy:
“Over coming months, we will continue to increase our holdings of treasury securities and agency mortgage-backed securities at least at the current pace… what we can do is we can obviously support financial stability through our lending programs and we can support demand through interest rates and asset purchases and that sort of thing. So we’re going to take the economy as it comes, including all external factors. And so I think all of us live through the experience of the years after the global financial crisis and for a number of years there in the middle of the recovery fiscal policy was pretty tight…
“By this comment, we interpret the Fed Chair to mean, We’re not making that mistake again! He went on:
“The purchases that we have in place are providing strong support to economic activity still, and by the way, they’re sustaining the gains we’ve made in financial stability. We don’t take anything for granted, we don’t expect that things will deteriorate, but nonetheless, we have a habit of keeping things in place for a while. So we’re not taking our gains and financial market function for granted… Is monetary policy out of power or out of ammo? … No, I don’t think that. I think that we are strongly committed to using these powerful tools that we have to support the economy during this difficult time for as long as needed. And no one should have any doubt about that. And we do not doubt the power of the things that we’ve already done or the things that we may do in the future. I do think there’s more that can be done… When I say we’re not out of ammo, I’m looking at a couple of our tools, mainly, as I mentioned, the asset purchase program. There’s a number of dimensions in which we can adjust that if we deem it to be appropriate. Right now, we like the job it’s doing. If the facilities are extended, we could certainly look at new facilities. If things deteriorate, that would be the case where you’d want to maybe continue the facilities and maybe change them, and maybe you have new ones. Who knows?”
This message is, we believe, extremely important. Markets have not risen to all-time highs for no reason. A confluence of events have driven them there. The salient points:
- Ongoing unprecedented monetary intervention from the Fed. The Fed balance sheet briefly dipped while some facilities deployed in the depths of the March and April panic rolled off — but it is climbing inexorably thanks to ongoing asset purchases.
- Ongoing monetary intervention worldwide. Many global central banks are easing — but looking only at central bank balance sheets can be deceiving. In many developing countries, particularly China, it is not the central bank but commercial banks through whom liquidity expansion is occurring.
- A potential political “Goldilocks” scenario. We hate to say it, but Mr Market loves the status quo. Sometimes an ineffective, gridlocked government is just what he wants. Although a lot remains to be decided before January, including the Georgia Senate run-off races, there is the distinct prospect of a Democratic White House and a divided Congress. With no fiscal discipline anywhere to be found in either party, it is likely that both will agree to spend — wrangling over what exactly to spend on, more than on whether to spend. This means continued powerful fiscal stimulus.
- An end to the pandemic coming into view. We believe that in spite of headline Covid cases rising, mortalities remain much more important, and have remained under control, thanks to better treatments and the approach of “herd immunity.” A successful vaccine candidate, even if accepted only by part of the population, will hasten the total re-opening of the economy and further invigorate the economic rebound that is already underway.
In the light of these converging factors, we see many reasons to be bullish about prospects for the stock market in 2021.
Investment implications: There will be plenty of reasons for volatility in the near term. Although the election has been called by mainstream media, and many are behaving as though Joe Biden’s victory is a fait accompli, we note that current legal efforts to challenge the results are just getting started and could have unpredictable and unexpected consequences. Further, Congressional gridlock may be obviated by the results of the Senate runoffs in Georgia. However, investors should not let near-term volatility blind them to the converging positive set-up for economic rebound, abundant liquidity, and fiscal support in 2021.
