Morgan Stanley
  • Wealth Management
  • Nov 23, 2020

Yes, There’s Light at the End of the Tunnel

Worsening COVID-19 conditions may weigh on U.S. market sentiment, but investors should focus on encouraging signs, including positive news on vaccines.

Lisa Shalett Chief Investment Officer, Wealth Management 

Given the grim recent trajectory of COVID-19, the prospect of more lockdowns and political dysfunction that could delay additional federal stimulus relief until the New Year, it’s not surprising that investor sentiment seems to have taken a turn for the worse. Although the S&P 500 remains up 12% year to date, touching a new high earlier this month, it now looks set to limp along into the end of the year. 

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Still, we don’t think a temporary market slowdown will derail the U.S. economic recovery. In the next few months, we see the outlook increasingly dominated by much more positive catalysts. Here are three signs of light at the end of the 2020 tunnel:

  • COVID-19 Vaccines: At least three different research trials have produced better-than-expected results. The three treatments closest to distribution have all indicated near 95% efficacy. The first up could be made available to high-risk groups and front-line workers as early as December, and the global economy could be benefitting from a broad roll-out of vaccines by the second quarter of next year. If by the late summer, we see near universal availability of vaccines, that could suggest an end to the pandemic by the third quarter.
  • Pent-Up Consumer Demand: The concept of pent-up demand isn’t just wishful thinking. We believe extraordinary demand has built up that could provide upside to our 2021 U.S. real GDP forecast of 5.9%. Despite continuing high unemployment, many households have shored up savings, if for no other reason than the inability to spend on entertainment and travel, including commuting costs. Less spending combined with lower interest rates may also mean lower debt payments. These savings set up a meaningful, and still underappreciated, tailwind for growth in the second half of next year. Rising home valuations and robust capital markets are also contributing to healthy consumer balance sheets.
  • Rising Small-Cap Stocks: The 20-year high in small-cap earnings revisions offers further evidence that the economic recovery has gathered momentum under the surface. Such revisions have historically been a precursor of an economic rebound. With 91% of stocks in the Russell 2000 Index, a broad benchmark of small-cap companies, now running ahead of their 50-day moving average, 50 years’ worth of data suggest good odds for positive forward returns.

Long-term investors should take advantage of the potential deterioration in sentiment over the next couple of months to add to the asset classes and sectors that are most likely to benefit, as the U.S. emerges from recession in 2021. Consider adding to U.S. small caps, cyclicals like financials, industrials, materials and consumer services, and non-U.S. stocks, including Japanese and emerging markets equities.

This article is based on Lisa Shalett’s Global Investment Committee Weekly report from Nov 23, 2020, “Light at the End of the Tunnel.” Ask your Financial Advisor for a copy or find an advisor. Listen to the audiocast based on this report.

Risk Considerations

Yields are subject to change with economic conditions. Yield is only one factor that should be considered when making an investment decision. 

Equity securities may fluctuate in response to news on companies, industries, market conditions and general economic environment.

Bonds are subject to interest rate risk. When interest rates rise, bond prices fall; generally the longer a bond's maturity, the more sensitive it is to this risk. Bonds may also be subject to call risk, which is the risk that the issuer will redeem the debt at its option, fully or partially, before the scheduled maturity date. The market value of debt instruments may fluctuate, and proceeds from sales prior to maturity may be more or less than the amount originally invested or the maturity value due to changes in market conditions or changes in the credit quality of the issuer. Bonds are subject to the credit risk of the issuer. This is the risk that the issuer might be unable to make interest and/or principal payments on a timely basis. Bonds are also subject to reinvestment risk, which is the risk that principal and/or interest payments from a given investment may be reinvested at a lower interest rate.

Asset allocation and diversification do not assure a profit or protect against loss in declining financial markets.

Rebalancing does not protect against a loss in declining financial markets.  There may be a potential tax implication with a rebalancing strategy.  Investors should consult with their tax advisor before implementing such a strategy.

Because of their narrow focus, sector investments tend to be more volatile than investments that diversify across many sectors and companies.  Technology stocks may be especially volatile.

International investing entails greater risk, as well as greater potential rewards compared to U.S. investing. These risks include political and economic uncertainties of foreign countries as well as the risk of currency fluctuations. These risks are magnified in countries with emerging markets, since these countries may have relatively unstable governments and less established markets and economies.

Investing in foreign emerging markets entails greater risks than those normally associated with domestic markets, such as political, currency, economic and market risks.

Investing in commodities entails significant risks. Commodity prices may be affected by a variety of factors at any time, including but not limited to, (i) changes in supply and demand relationships, (ii) governmental programs and policies, (iii) national and international political and economic events, war and terrorist events, (iv) changes in interest and exchange rates, (v) trading activities in commodities and related contracts, (vi) pestilence, technological change and weather, and (vii) the price volatility of a commodity. In addition, the commodities markets are subject to temporary distortions or other disruptions due to various factors, including lack of liquidity, participation of speculators and government intervention.

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