We will shortly begin our customary year-end planning process to determine our strategic allocation models for 2021. An important part of this process involves considering alternative scenarios for the year ahead and translating those scenarios into position weights for different classes of equities, fixed income and other assets. We typically consider a handful of what might be considered optimistic and pessimistic cases, and eventually arrive at a base case set of assumptions from which to work.

Of course, events in the real world couldn’t care less about the arbitrary human artifact of a transition from one calendar year to another; nonetheless, the passage from old to new affords us the opportunity to take stock of our assumptions, challenge our existing mind-sets and take action accordingly. Since this week leads us into the Thanksgiving holiday we are perhaps in more of a thankful frame of mind, which lends itself to presenting what we see as an optimistic case for next year.

A Surfeit of Vaccines

Any optimistic assumptions about 2021 have to start from the ability to scale up the delivery of one or (preferably) several approved Covid-19 vaccines. We certainly seem to have the candidates. On three successive Mondays now we have seen announcements from Pfizer, Moderna and most recently AstraZeneca attesting to efficacy rates of greater than 90 percent in their Phase 3 clinical trials. Pfizer has already moved to seek FDA approval for its drug and the others are expected to follow suit. Initial doses for the most high-priority population segments may be underway before the end of the year.

Those highest-priority cases number in the millions, though, and that needs to expand by several orders of magnitude to reach a global population in the billions. It will be a daunting task to be sure; nonetheless, a great deal of investment and preparation has already gone into the effort – much more than would normally be the case before a drug has received formal approvals and licenses. Our optimistic case assumes that this process is well underway by springtime, and that by the end of summer there is enough large-scale immunity to resume a great many of the activities that were a part of our lives before Covid.

Pragmatic Politics

No, we are not naïve about the contentious state of American politics. But this is the optimistic case – indulge us a bit. The incoming Biden administration, from the looks of things thus far (and admittedly this is still a very early look) is shaping up to be the kind of pragmatic, policy-oriented and low-drama team of experts one might expect from a leader who has been on the national political stage for nearly half a century. The question is not whether Republicans will fall over themselves en bloc to work with the new administration. They won’t. But there is the potential for enough movement among some of the more centrist figures from both parties to cobble together enough support for solving some of the most pressing problems. These include making sure the bridge to the vaccine is sturdy enough to minimize the chance of slipping back into recession, losing more jobs and viable small businesses along the way. They include a real attempt for a broad-based infrastructure program. There are, in our opinion, viable outcomes here that do not assume it will be nothing but zero-sum trench warfare all day every day for the next four years.

While we are on the subject of politics, it is worth noting that we are only in the position to even plausibly offer up an optimistic-case scenario involving national politics because of the resilience we saw from local civic institutions during and in the aftermath of the election. Despite everything, the evidence overwhelmingly points to an election system that worked – that worked thanks to the unsung efforts of thousands upon thousands of diligent poll workers, boards of elections, state legislatures and the rest of the sprawling, highly decentralized components of the baffling contraption that is our democracy. As maddeningly obsolete and creaky as this system so often seems, when push came to shove it worked.

Changing World and New Opportunities

Of course, an optimistic case for investment portfolios is not confined by trends that take place here at home in the US. One thing became very clear to many observers in 2020: the countries with the most successful outcomes in getting the pandemic under control were not those of the European and North American West. China, the world’s second-largest economy, has had no Covid cases to speak of for many months now and is also on track to end the year with a positive run rate in GDP growth. Neither the EU nor the UK nor the US can lay claim to either of those feats. South Korea, Taiwan and Singapore also have demonstrated the ability to achieve healthcare outcomes that apparently elude most of the more prosperous developed world.

The balance of economic power has been shifting for some time, but the events of this year have arguably accelerated the trend. China’s currency, the renminbi, is up more than eight percent in the past six months as demand for Chinese assets has soared. Meanwhile the entire region – rebuffed by the US in early 2017 when we abruptly pulled out of the Trans-Pacific Partnership trade agreement – has gone ahead and formed itself into a new partnership. The Regional Comprehensive Economic Partnership (RCEP) will be strongly influenced by China, its largest member. It will also include Australia and New Zealand – but not the United States. Accounting for over 30 percent of global GDP it will be a force to be reckoned with alongside the EU and the North American successor to NAFTA.

Whether that implies a world of increasingly inward-looking regional blocs or a possible building block for a more integrated global economy remains to be seen. In the meantime it hastens the end of thinking of “emerging markets” as one asset class – there are emerging markets set to grow strongly, and there are emerging markets set to do quite the opposite. There are plenty of risks – but also new opportunities for enhancing portfolio returns.

When we come back from the Thanksgiving break we will have the chance to focus our attention on what could go wrong, rather than right, in 2021. But that is a story for another day. Today is for thinking positively and thankfully. We wish you and your loved ones a safe, happy and healthy Thanksgiving.

To Our Valued Clients:

We wish you and yours a happy, healthy Thanksgiving and start to the holiday season.

As of this writing, we are happy to report that, thanks to recent developments, there are some positive signs breaking through the uncertainty that has clouded the financial markets for much of this year. Announcements of potential Covid-19 vaccine breakthroughs provide considerable cause for hope that the pandemic can eventually be brought under control. The outcome of the US presidential election, despite continued legal challenges, now seems beyond doubt.

Nonetheless, we cannot say that the near- and intermediate-term outlook is completely clear. As we send you this message, most regions are experiencing a renewed wave of Covid-19 infections, healthcare systems are strained, and lockdowns are being re-imposed in some communities. Negotiations for another economic stimulus package remain deadlocked. And, we do not know what policies a new administration will pursue (nor what they will be able to get through Congress) with respect to taxation, regulation, job creation, trade, and many other areas that will impact the financial markets.

In short, we remain cautiously optimistic—but with an emphasis on caution. For investors who have been more defensively positioned in equities and other risk assets than usual, taking an aggressive stance is still premature.

MV Financial’s approach to managing our clients’ portfolios over the past year has reflected this cautious, incremental perspective. Even before the Covid-19 outbreak, we were maintaining a fairly low target allocation to equities in most portfolios of around 55% (in conservative growth strategies – the allocation differs depending on the risk strategy of each portfolio). By April, we winnowed that position down to about 50% (again in conservative growth portfolios) by exiting risk-on sectors (such as small and mid-cap, international emerging market shares) while shifting to cash and short-term bonds. More recently, we saw opportunities to ratchet up our equity position, but we’re still at around 56% equities.

For much of this year we have witnessed an equity market where the most sustained rallies were driven by a very small number of mega-sized technology-related companies.  We remain concerned by the extremely high valuations of many of these companies. For example, we made some tactical moves into healthcare stocks back in April, but it is probably too late to start building positions in those companies now. Now, however, we may be starting to see an incremental rotation away from some of the long-standing (and expensive) high flyers towards areas of the market that have underperformed. For example, there may be opportunities to selectively invest in international (though perhaps not emerging markets yet), mid-cap growth and small/mid-cap value along with some of the chronically beaten down names in areas like financial institutions and high street retail. But, again, we can afford to take our time and remain measured in our approach.

Given that the prevailing uncertainty and market volatility are likely to be with us into 2021, we continue to advise clients to focus on their own investment and financial goals. The essential needs of individuals and families–whether for retirement planning, estate planning, or budgeting for major purchases—are not dependent on the direction of the markets and must continue to be addressed. This is the time to be thinking about longer range plans and the financial resources required to realize those plans.

As we enter the holiday season and the “home stretch” of 2020, we wish you and your family well. Please feel free to reach out to us at any time to discuss your investment and financial questions.  Happy Thanksgiving to all of you.

Old hands on Wall Street have long ascribed distinct anthropomorphic characteristics to different asset markets. The stock market, they say, is the kid who sees a pile of straw under the Christmas tree and says “I know there must be a pony in the back yard!” The bond market is the old sourpuss who says “Kid, if your dad bought you a pony then he’s in debt up to his eyeballs and about to go bankrupt.” So it has gone this year. Stock markets have been relentlessly optimistic all the way through the worst health pandemic in more than a century, and by some measures the sharpest economic decline since the Great Depression. Fixed income investors, on the other hand, have looked on with a mix of bewilderment, disapproval and expectations of misplaced confidence on the part of their risk-seeking peers.

The Game Changer

Small wonder, then, that the long-awaited news of success in Phase 3 trials for a coronavirus vaccine sent a new shiver of delight into global equity markets. On back-to-back Mondays – November 9 and November 16 – two companies announced that their trials to date have resulted in efficacy rates greater than 90 percent. This is an almost-unheard of rate of success for a new vaccine. If the views of the world’s top immunology scientists are correct – and there is scant reason to think they are not – then it would seem likely that sometime before the end of next summer there will be a sufficient level of broad-based protection against the virus to facilitate a return to the things in life we have so sorely missed. In this particular case the sunny view of the equity market may rest on a solid foundation. That has the potential to be a real catalyst in shifting some long-standing market trends.

Hello, Small Caps

The chart below shows the performance of a handful of asset classes against the S&P 500 (represented by the blue dotted line) over the past three months.

As the chart shows, many asset classes did little more than tread water between peaking in early September after a torrid summer rally and the approach to the presidential election earlier this month. The election results brought a certain amount of clarity that took some of that pressure off risk assets, and that was followed a few days later by the vaccine news.

As you can see from the chart, the market reaction was most pronounced in some of the areas that have been long-term underperformers. Small cap stocks, in particular, have leapt ahead of the pack in the time since the election (the crimson trend line). Value stocks and emerging markets, two other habitual underperformers in recent years, have also outpaced the S&P 500. Meanwhile investors have been bailing out of gold, one of the leading “haven” assets during the pandemic.

How Durable the Rotation?

What is not entirely clear at this point is if this “vaccine trade,” for want of a better name, is really anything more than just a reflexive expression of risk-on sentiment that snaps up undervalued assets in the expectation that a rising tide will lift everyone. It may well be nothing more than that – but even that simple narrative might be enough to keep the small cap and value stock party going for a while. We are talking literally years since these asset classes have outperformed the Big Tech darlings that make up a quarter of the total market cap of the S&P 500 and an even bigger share of the S&P 500 growth index and the Nasdaq composite. Their valuations, while still supported by above-average expectations for sales and earnings growth, remain exceedingly high. A rotation play driven by an overall economic message of return to health may be durable – even if the recovery still won’t come quickly enough to remedy the extreme effects the health crisis will exert on our system in the coming several months.

As for emerging markets – the other relative outperformer of late – bear in mind our comments in this space a couple weeks back about China and the Asia Pacific region. The world’s second-largest economy is already back in growth mode, while the region itself is in the process of forming a trade alliance that will rival the EU and North America in its economic heft. There are reasons beyond asset rotation considerations from taking that part of the world very seriously. We have much to do in preparing for the right positioning in 2021.

In all fairness there is a lot of conflicting news out there today, enough to seemingly justify the whiplash-inducing lurches back and forth by major asset classes this week. Monday brought with it news of a coronavirus vaccine that had demonstrated 90 percent efficacy in trials pitting the drug, developed by pharmaceutical giant Pfizer in partnership with biotech developer BioNTech, against a placebo. Game changer! Yes, but…how long until it can come to market? What about the unprecedented number of new cases and hospitalizations that look set to get much worse well before a vaccine is at hand? Do we double down on the “back to normal” sectors of the economy, or stick with the winners of lockdown mode?

Or the election: Yes, we have a President-elect and Vice President-elect (and despite all the noise and misinformation and frivolous lawsuits, that result will stand the test of the 68 days between now and Inauguration Day). But the Senate is still up for grabs with the two run-off seats in Georgia scheduled for early January, the result of which could make all the difference to what does and does not get accomplished in Washington in 2021 (including fiscal spending, taxes, regulations and other things that matter to investment markets). Do we dust off that playbook for higher rates and inflation, or assume that gridlock (last week’s conventional wisdom) will rule indefinitely?

The Tremulous Ten-Year

What about the Fed? The central bank sees stable credit markets as a necessity for facilitating the return of economic growth. Jay Powell and his colleagues will have found little to love about the gyrations in the intermediate-long term bond market in recent days. The chart below shows the pattern in the 10-year yield over the past three months.

The benchmark 10-year has been gyrating all over the place since Labor Day weekend. Coming out of a rip-roaring August in the stock market, safe haven bond yields were still mostly elevated from earlier levels when the S&P 500 peaked on September 2. But yields soared near the end of the month as the first presidential debate proved to be a polling disaster for the incumbent president and solidified expectations of a Democratic win. That trend kept going throughout much of October and surged into the final run-up to Election Day.

That day, as we discussed in last week’s commentary, threw cold water over the notion of a Democratic sweep of the table and a resulting massive double dose of pandemic relief and infrastructure spending. The 10-year yield plummeted in the immediate aftermath of the election. But then came Pfizer’s vaccine announcement and with it the potential for a return to growth in those sectors of the economy hardest hit by the pandemic. On the back of that news yields jumped once again, nearly hitting the one percent level that would be fully double the yield at its lowest points earlier in the year.

Or…maybe not. This week has been an unending count of grim statistics for the pandemic. Daily new cases are now setting records upwards of 150,000 (that’s about twice the highest levels in the prior wave in July). Hospitalization rates are also at records and straining health care systems just about everywhere in the country. However soon the vaccine is able to make it through the final regulatory steps, out of the lab and into retail health care centers for distribution, it will not be soon enough to mitigate the dire conditions of the present, the lives that will be lost and the ongoing suffering of the many who will experience the pernicious long-haul effects of the disease.

The Upside and the Downside

So where to now? This current indecision indicates the potential for wildly different scenarios. But stepping back to take a longer-term view of where rates are today suggests that there is more space on the upside (i.e. interest rate risk) than the downside. In the end it may come back to the Fed.

As the above chart shows, yields have come down considerably from where they have been for most of the past several years. If the 10-year were to double from where it is today, that movement would put it roughly in the middle – a bit below average even – of its trading range over the past five years. It’s not hard to envision a scenario where rates rise to that extent or even more. For example, a scenario of the vaccines moving full speed ahead towards distribution and a Democratic pickup in the Georgia Senate races (which would leave the Senate at 50/50 with Vice President Harris as the tiebreaking vote) would potentially bring about such an outcome.

Would the Fed intervene? Perhaps not. If the upside risk in yields is borne out by a recovering economy, receding health crisis and sufficient fiscal support then the Fed is less likely to extend its heavy hand as far out as 5 or 10 years on the yield curve. The central bank would be more likely to intervene directly if the fragility of the economy were to suggest it could not withstand a meaningful organic upward movement in rates.

All of these variables remain big “ifs” in the present moment, which we interpret as a signal that now is the time to keep one’s powder dry and to refrain from the kind of speculative bets that could go massively wrong. We will continue paying close attention to the bond market. An old saw on Wall Street has it that “where bonds go, stocks often follow.” Useful words to follow in these strange times.

Well, this has been a week. The world’s eyes were on a map of 50 states, but those eyes were not fixated on the many that were confidently and immovably etched in a deep red or deep blue. The action was in that handful of “grey states” – too early or too close to call to color in red or blue. That was Tuesday night. It is now Friday morning and as of this writing no media outlet has made a formal call on the presidential contest. It is quite possible that such a call will have been made by the time you are reading this, as the vote count in the as-yet undecided states are moving fairly steadily into the column of Joe Biden and Kamala Harris.

The world pays close attention to our elections because our political system has an important impact on the world – on the global economy, on financial markets and on the civil societies that make up the world’s nations. So what do we know, and what can we expect, given where things stand today?

The Volatility That Wasn’t

In September we wrote about options markets that were showing historically high levels of volatility for contracts settling in the time period around Election Day. The concerns reflected in these options prices revolved around the potential for a contested outcome that could potentially lead to a constitutional crisis. Those fears abated somewhat as the days rolled by in October, with polls seeming to show an increasingly large margin for Biden and the Democrats. As the results came in on Tuesday night, though, those polls wildly missed the mark. A tight race was indeed what we got in the end.

But it was a tight race absent – at least so far – the kind of messiness that spooked options traders back in September. A record number of absentee and mail-in ballots – reflecting the reality of a country still tightly in the grip of a vicious pandemic – has resulted in a long and laborious counting process that explains why it has taken so long. But the process has been methodical, transparent and, in the end, will have done its job. Yes, there have been protests, inflammatory rhetoric and all the rest of it – but the system showed that it could deliver the results without engendering a crisis. We can be thankful for that.

Gridlock and the Markets

Investors didn’t wait for official calls on any race to rush to the conclusion that the most likely outcome of a Democratic White House, Republican Senate and Democratic House of Representatives would be gridlock. In their best Gordon Gekko impersonations they seemed to say in unison: “Gridlock is Good.” The S&P 500 jumped on the prospects of not much change in store for corporate or household tax rates, or regulations, or much of anything else. The upbeat sentiment was reinforced by statements from Mitch McConnell, who is set to retain his seat as Senate Majority Leader, to get on with a pandemic relief package before the end of the year. Economic relief plus no new taxes seemed to be a pretty seductive narrative for potentially another run of the bulls through the remaining weeks of the year.

Time for a New Story

That “gridlock is good” mantra may work for a short time, but it is an insufficient answer to the scope of problems we face, both here at home and abroad, in the coming months and indeed years. It is promising that the victorious Senate Republicans are at least signaling a willingness to finally sit down and negotiate a fiscal relief package. The coronavirus pandemic is getting worse by the day, with cases soaring above 100,000 just as we are running smack into the annual flu season. Whether some of the more recalcitrant senators who stood in the way of productive negotiations earlier in the fall can be persuaded to come around is another story.

But dealing with the pandemic is job number one for everyone with policymaking responsibilities on both sides of the aisle. Bipartisanship, say many observers jaded by the institutional rot and performative silliness of American politics, is dead. Joe Biden insisted throughout his campaign that it was not dead, and that it was absolutely necessary if we are going to make a meaningful impact on the many problems we are currently facing.

We agree with that sentiment. It is time for a new story, because the old story has not worked. The oldest and most established economies in the world – in North America and Europe – are facing chronically slowing growth while those of China and the Asia Pacific region are becoming more dominant. Climate change is a fundamental threat to our way of life in an increasingly obvious way with every “once in a lifetime” hurricane, flood, wildfire or other disaster. Our infrastructure is old and needs to be brought into the twenty-first century with green and digital solutions. Our healthcare system, not in any kind of good shape to begin with, will be straining under the pressure of the coronavirus and its many long-term effects even after a vaccine finally comes to market.

It would be naïve to think that all these problems will be swiftly attended to by a bipartisan team of rational, pragmatic and far-sighted politicians on the day the new administration is sworn in. We remain a decisively divided nation, and nothing that happened this week is going to change that. But the only hope we have for lowering the fever of anger and mutual hostility is to change the story. To work on first agreeing on what our biggest problems are, and then figuring out how to fix them. To put the interests and well-being of actual flesh-and-blood constituents ahead of whatever is trending loudly on the far left and right corners of Twitter and the rest of the social media fantasyland.

Can we do this? We had better be willing to put our best efforts forward to try. Our children, grandchildren and those who follow will not forgive us if we do not.

The stock market has been having a pretty rough week. As usual, financial media types have supplied us with a couple go-to explanations. If you tuned into CNBC or a similar market-focused source you probably heard something along the following lines: “stocks fell this week because Covid cases are up and there are no prospects for a fiscal relief package from Congress before the election.” Maybe someone tossed in the phrase “election jitters” because, well, it just sounds good and appropriate in the week before a highly consequential election with still a number of moving parts.

Yes, But Why Now?

All those go-to reasons are valid. They were also valid on October 2, when Covid cases were rising again from late-summer levels, when the differences between what Democrats and Republicans were demanding for fiscal relief seemed insurmountable, and when concerns over the likelihood of a contested election were, if anything, somewhat higher than they are today. Yet from October 2 to October 12 the S&P 500 rose more than five percent. Same news, different market response. What gives?

We call this “getting the memo.” The market seems to chug along on its merry way, impervious to anything that might call for reconsidering. Then one day, seemingly out of the blue, all those algorithms that power the daily buy and sell triggers move in the same direction. Greed turns to fear in a single heartbeat. We’ve seen this happen plenty of times before. In 2018 the Fed spent most of the year communicating its intention to continue raising interest rates as it implemented a monetary tightening policy. All summer long the market enjoyed a steady rally with very low volatility. Then one day in early October everyone got the memo, and a 19 percent correction took place over the next two months. Go figure. This is why we always say that market timing is a fool’s errand.

About That GDP Number

Depending on where you get most of your news from, you may have wondered why the market didn’t rally more strongly than it did yesterday, when the third quarter Gross Domestic Product (GDP) numbers came out. After all, if you just went by the headlines or a quick one-liner from a local news anchor you would have heard that the third quarter saw a record-breaking rise in GDP growth. Fastest quarter of growth since 1948, when record-keeping started!

In this as in most cases, context matters. And the context here is that the record-breaking third quarter growth followed what was by far the worst quarter in GDP history, reflecting the near-total shutdown of the economy that occupied much of the fiscal quarter from April to June. The net effect of the pandemic is that US output, as measured by GDP, is still about three percent less than it was in the third quarter of 2019. It is still likely to be below last year’s levels when this year (finally) comes to an end.

2021 Memo Still In Development

We expect there will be more instances in the year ahead when markets seem to ignore the circumstances at hand until that day when they get the memo. Whatever is going to be on that memo is still very much in development. In our opinion this is not a good time to be making strong directional bets, because those bets could wind up being spectacularly wrong. In recent weeks we have been writing quite a bit about the possible reappearance of the “infrastructure reflation trade” in which a new Democratic-led administration implements a massive double-dose of pandemic relief and infrastructure spending. The bond market continues to suggest a growing conviction in this outcome, with the interest rate yield curve steepening at intermediate and long maturities.

But there is a long way to go from here to there, including an election that hasn’t happened and Senate procedural rules that haven’t been overturned, among others. For our part, we are comfortable staying put with an allocation that we believe offers a bit more defensive positioning while maintaining exposure to growth opportunities. All the while we will continue to spend our days analyzing the many factors contending for mention in that eventual 2021 memo.

From the pandemic, to a hard-fought election, to social unrest, 2020 has been a challenging period on many fronts. In such times of great uncertainty, people can make hasty and unwise financial decisions. For those who may not have lived through earlier market cycles, here are five critical points to consider.

1. Protect and Bulk-Up Your Rainy Day Fund

We typically think of a rainy day/emergency fund as a 3- to 6-month pool of savings you can easily access in a pinch. Given the duration and severity of the disruption, the pandemic has called into question the right amount to have in an emergency fund. The baseline advice has been 6 months for a single income household and 3 months for a dual income household. But, I believe we must take a more conservative approach and ask ourselves: Is 6 months the right amount? How much would you need to live on should the worst-case scenario arise (as it has for so many in recent months)? What if that scenario is protracted, like the one we are currently experiencing? If you believe that uncertainty is the “new normal,” think about saving more and bringing down your monthly spending where possible.

2. Don’t Give In to Bad Money Habits

Even if you have been spared the worst financial impact of the crisis thus far, you may have formed some bad habits due to the quarantine lifestyle. I have seen people spending money to rent an out-of-town home to gain more space and avoid urban centers. Others may be spending more on recreational activities in lieu of being able to travel (such as renting a boat for an extended period). These increased costs may be affordable as long as your situation doesn’t worsen, but could have long and meaningful impacts on your savings and general ability to accumulate assets that may be needed later on.

For example, a family spending an extra $60,000 on a rental home for the year to escape their downtown home/condo is passing up a major savings opportunity. The “rule of 72” states that the annual rate of return divided into 72 equals the amount of time it will take for an invested amount to double. That $60,000 saved and invested, assuming a 7% rate of return, will double in 10 years. So, over 10 years, the amount spent on the unnecessary rental equates to $120,000 in “lost” value. In another 10 years, the amount of value lost becomes $240,000. These decisions have big consequences for long-term planning and accumulation of a family’s wealth. Think about how these savings might affect college spending for your children, retirement spending, long term care in the case of illness, etc.

3. Real Estate – Do I Stay or Do I Go?

As people become frustrated by stay-at-home restrictions, many are asking whether they should buy a new home to gain more living, working and green space, and sell their current home/condo to facilitate the change. The result is a boom in suburban homes of a certain price range – which is unprecedented in the face of a recession. Expensive New York condos are in price correction, while suburban homes are seeing a price bump of anywhere from 10-15%+. I will give the same advice about the housing market as I do when equity markets are volatile, and clients ask me what they should do with their portfolios: wait it out. Periods of high volatility are the worst time to make a change. I understand the desire for “wide open spaces”. However, the market may correct after this initial surge ends, and I believe waiting out the storm is better than potentially taking a loss on your current property and paying an upcharge for a new home because of the current price escalation.

4. Don’t Try to Time the Market 

I can’t say this often enough: “Timing the market is a loser’s game.” You may get it right once or twice, but over the long haul you will lose. It is understandable that many investors sat on the sidelines in fear when the market was down 30- 40% earlier this year; it’s hard to pull the trigger when everything is blinking red and everyone is in panic mode. But, if you had invested consistently over the last few years, instead of waiting for a correction, you’d have had a better return – without the stress of trying to time it right or missing the short opportunity. I recommend getting into the market when you have the cash available to save and invest. You need to look at the market like an investor: you’re in it for the long haul. If your portfolio is invested properly and managed diligently, your efforts should pay off in 5 and 10 years and grow. Also, consider dollar cost averaging when you are looking to get into the market to take timing out of the game and buy into a better average price of the market as opposed to a one-day up or down swing.

5. Don’t Sit on the Sidelines Due to Election Uncertainty

I know this election and this news cycle are the cause of exceptional anxiety for many people. You should not sit out the market because you fear election results or volatility. Typically, election results have a very short-term impact on the markets and then “wash out”. You should not “play” the election with your portfolio. Stand your ground with your investment strategy and remain disciplined.

But, regardless of who wins the White House, you should plan for higher taxes. The stimulus packages adopted in response to the pandemic massively expanded the federal deficit, and taxes will undoubtedly rise as a result. Your after-tax income in the next few years may be very different from what it is today. As a millennial in the asset-accumulation stage of life, you should price in the impact of a bigger tax burden and consider how that will impact your finances more broadly.

At the start of 2020, no one could have predicted the kind of uncertainty that has now become part of our daily lives. That’s all the more reason to have a cautious, thoughtful “steady as you go” investment approach that is focused on you long term needs and goals.

Imagine if someone had come back from the future to tell you, at the end of 2019, that the dominant news story of the year 2020 was going to be a virulent pandemic that arose in a food market in Wuhan, China. Would your first instinct have been to place a big bet on Chinese equities as a likely outperformer for the year? Probably not!

Winning the Pandemic

Yet the Shenzhen A-share index, a benchmark for Chinese shares, is up by nearly 28 percent as the year heads into its final two months. The S&P 500 – which has also enjoyed a rather better-than-expected rebound from the pandemic – is up by just seven percent. And a host of other risk asset classes from small caps to developed non-US equities (as well as most emerging markets not named China) remain stubbornly in negative territory, having been unable to recapture the hit from the depths of March.

Nor is the story just about competing stock markets. China’s economy is on track to be the only major global economy to sustain positive real GDP growth for the full year. Industrial production and retail sales, two driving forces behind GDP growth, are not far from their pre-crisis trend levels. All this has had an effect on the renminbi, the Chinese currency, which has seen an accelerated pace of growth in recent months. Not to mention the fact that, following the draconian shutdown of Wuhan back in winter, China’s success in managing the pandemic has far outshone that of the US and Europe.

The chart below provides a snapshot of these current developments.

The Promise and the Peril

China has beguiled Western investors, business leaders and entrepreneurs alike ever since Deng Xiaoping first proclaimed that “to get rich is glorious” in the immediate aftermath of the ruinous final years of Mao Zedong’s regime. But the allure has always been spiked with the perils of the unknown, in particular the opaque nature of the highly centralized decision-making structures that form and implement economic policy from Beijing. The Chinese system – a rigidly dirigiste form of managed capitalism with the florid rhetorical trappings of old Communist Party dogma – is quite unlike that of any other major economy.

Passive foreign investors in Chinese equities may not have had to deal with the red tape and rabbit holes that have tripped up many a globetrotting CEO, but the ride has been anything but steady. Even with the relatively impressive performance versus other equity markets this year, China’s Shenzhen index is still below its peak at the height of a frenzied bull market in the middle of 2015. This kind of volatility has kept exposure to Chinese risk assets at relatively contained levels for most Western-domiciled asset management models (although broad-based emerging market equity benchmarks like the MSCI Emerging Market index contain a disproportionate weighting of China-based holdings).

China In a Post-Pandemic World

The question worth thinking deeply about going forward is what China’s role in the world is going to be on the other side of the pandemic. Things are changing on several fronts to suggest that role may be more prominent than it has been. First of all, Beijing has been taking very deliberative steps to integrate its domestic market more closely with the global economy. The renminbi, the national currency, has never been freely accessible around the world in a way that would enable it to make a viable challenge to the US dollar for reserve currency status. That may be changing, however. In a similar vein, China’s domestic fixed income markets are opening up as well, and capital movements in and out of the county are being subject to fewer and less odious regulations.

The domestic consumer base is also changing. It is worth noting that nearly half of the entire volume of global initial public offerings (IPOs) in 2020 will be related to Chinese companies. This includes the upcoming listing of Ant Financial, a Chinese financial technology firm whose $30 billion offering will displace Saudi Aramco as the largest ever. Investors who continue to think of China’s economy as largely consisting of copycat manufacturers of cheap, frilly consumer goods are about 15 years behind the times; the country’s domestic consumer payments infrastructure, for instance, is arguably the most advanced in the world. China is also a leader in green technologies including the dominant player in solar energy.

The pandemic has shone an unforgiving light on the political, social and economic infrastructure of much of the world, most definitely including the so-called developed world. There was a time when the default assumption of policymakers in Brussels, London and Washington was that China’s opening up of its economy would eventually lead it to Western-style liberalism and democratic norms. That hope has largely faded. The bigger challenge ahead may well be for the democracies themselves to resist a model of economic success built on decisively anti-democratic foundations.

The Fed intends to keep interest rates at or close to zero for the indefinite future. The central bank has said as much in each of its last several meetings of the Open Market Committee that sets monetary policy. But it is important to remember that while the Fed has direct influence over short-term interest rates through its management of the overnight Fed Funds rate, it has less control over what happens further out on the yield curve. Once you get into the intermediate-maturity range beyond five years or so, interest rates are subject to a variety of supply and demand variables both domestic and global.

Infrastructure and Bonds

Last week we talked about the possible return of the so-called “infrastructure-reflation trade” and the role it could play as a catalyst for an equity market rotation out of the long-dominant, very expensive growth stocks and into some of the cyclical sectors that feature more prominently in value stock indexes. This week we will focus on what such a development could mean for the bond market. Remember that when the yield on a fixed income security goes up, the price of that security goes down. When we make decisions about the fixed income asset classes in the portfolios under our management, we have to take into account the likely effects of different scenarios on different maturities and bond types. Given that short-term yields are unlikely to change much under the Fed’s standing policy, one key focus for us this year will be on what could increase spreads between shorter-term and longer-term rates.

The Long and the Short of Things

In the chart below you can see the relative movements of three key benchmarks: the 10-year Treasury yield, the 2-year Treasury yield and the Fed Funds rate, the rate at which banks lend to each other overnight and over which the Fed exerts direct influence through its monetary policy operations.

As you can see from the chart, quite a lot has happened in the bond market over the past five years. We show that in July 2016 the 10-year Treasury yield reached a then-record low of 1.36 percent. When we say “record low” we mean “never before in the history of global bond benchmarks.” The 10-year Treasury is essentially a worldwide reference point for the “risk-free asset” standard against which the risk properties of all other assets are evaluated. Never before since such things have been calculated had the global reference point been that low.

But just four months after reaching that low point, the 10-year yield shot up immediately after the 2016 election which, as you will recall from our commentary last week, was the catalyst for the infrastructure-reflation trade. The sharp rise in yields reflected the belief that a massive dose of public spending would require a large increase in Treasury bond issuance to fund the different programs. Investors would demand higher rates to compensate for the presumed risks inherent in the rise of the national debt.

You Take the High Road, I’ll Take the Low Road

As we all know, that major infrastructure program never happened. But in 2017 rates rose for a different reason: the Fed got serious about the tighter monetary policy that it had put on hold after the stock market pullback in early 2016. Short term rates rose in more or less linear fashion along with the Fed funds rate, while the 10-year rate also rose but in a manner less closely correlated to Fed policy moves.

All of which brings us to the very strange world of fixed income in 2020. The 10-year yield crashed through that earlier all-time low of July 2016, bottoming out around 0.5 percent in the immediate wake of the general market panic in March and rediscovering those lows in August. Overall, the bond market has been a relative sea of calm during this period after the Fed pledged a variety of liquidity measures to support bonds of all stripes from Treasuries to investment grade corporates and even junk bonds.

But the Fed has pointedly not done one thing: it has not endorsed a policy of direct intervention in maturities downstream from the Fed funds rate. “Yield curve management” is the term of art for this kind of direct intervention, and the central bank did use it once before, during the Second World War. Moreover, while the topic of yield curve management has been up for discussion at recent FOMC meetings, the maturity bands concerned would likely be limited to the 2-3 year range.

That leaves longer maturities subject to unpredictable market forces, including – again – the possibility of a real infrastructure spending program if the Democrats win big in November. Joe Biden elaborated on this topic in some detail during his town hall meeting last night. Looking at where the 10-year is today in the above chart, and looking at its trajectories over the past five years, it seems that there is plenty of room for upside movement in the months ahead. Specifically, it appears plausible that the spread between the 10-year and short-term rates could widen, and possibly widen considerably.

None of this is a given, of course. We can’t even be certain that the Fed would leave longer-term rates to the fates of the market without intervention if rates were to rise beyond a certain level. Nor is anything related to the election and its aftermath predictable in any statistically meaningful way. But we have to consider the potential scenarios arising from this sea of unknowns and make provisions accordingly. A widening of maturity spread is, if nothing else, an alternative with not-inconsequential probability.

Arian Vojdani was on Bloomberg Radio discussing investing in today’s climate. The podcast can be listened to here.  (Arian’s comments begin at approximately 11:15 of the podcast.)