Equities Outlook: A Vaccine Is Not an Economic Panacea

12.15.2020 - Carin L. Pai, Head of Portfolio Management

3 Themes Heading into 2021 are Income, Growth and Diversification

Beyond its health impact, COVID-19 has had a dramatic effect on the economy and corporations during 2020. Interestingly, equity returns grinded higher in 2020 largely due to multiple expansion through the performance of a small group of stocks. Meanwhile, aggregate S&P corporate earnings may decline roughly 20% by the end of the year.

Many analyst forecasts anticipate strong growth (perhaps 25%) next year, with broader industry participation. We believe a widening rebound may occur within a climate of gradual and low levels of economic growth. 

With hopes growing for an effective vaccine rollout by mid-2021, equities appear to be expecting consumer behavior to return to “normal” in the second half of the year. In some ways, US shoppers and their increased savings1 may hold the key. Consumption remains well below pre-pandemic levels despite a bounce back in retail sales, as spending on services seems to be tied to the virus. We expect the tailwinds of a vaccine, fiscal spending and pent-up demand to be countered by waning consumer confidence, permanent job losses and high equity valuations.

Stocks are likely to experience bouts of volatility featuring a “tug of war” between economically sensitive cyclical stocks and defensive growth stocks. As a result, we think investors should focus on three themes for 2021—scarcity of income, scarcity of growth and risk mitigation.

Theme 1: Scarcity of Income in a Lower-for-Longer World

The pandemic has led to fewer companies being able to pay dividends. As such, dividend-yielding stocks went unrewarded in 2020 and the flood of liquidity and easy money from the Federal Reserve drove investors to seek high-growth stocks. Our team thinks that 2021 will likely see a recovery in payouts as many companies restore their dividends. Furthermore, with low interest rates and low yields for the foreseeable future, many investors will likely search for dividend-yielding and dividend-growth stocks. Both offer attractive income-generating alternatives to bonds.

A number of dividend-paying stocks are also considered value stocks, such as Energy, Financials and Real Estate companies, which have significantly underperformed this year. Value stocks could recover in 2021 alongside economic improvement. But instead of investing in beaten-down cyclicals on expectations of a market rotation, a more prudent strategy may lie in dividend growth and yield.

Theme 2: Scarcity of Growth Favors Companies that Generate Their Own

The dramatic rebound in third quarter GDP (+33%) was encouraging but also represented a recovery from the deep valley of economic shutdowns. We have a more muted growth outlook going forward. With virus cases increasing, a soft patch could emerge in the first quarter of 2021 before the economy resumes its recovery to an estimated 4% growth rate.2 Importantly, we expect that the road ahead will not be a straight path—too many unknowns remain on the health front even with promising vaccine news.

Until sustainable economic growth appears, we believe corporate earnings resiliency will be important. A few companies have flourished during the work-from-home environment, with many others challenged by falling consumer demand. Companies that can generate their own growth will likely command a premium.

The pandemic has led to a change in overall consumer behavior, from an acceleration in pre-existing trends to somewhat permanent shifts.

  • Secular trends of remote work. Industry watchers have long touted the potential for technology to transform the modern workplace, leading to widescale working from home and a reduction in office space. Clearly, COVID-19 has sped up the pace.

Many firms have already announced plans to have more remote employees even after a vaccine is distributed. This will continue to support the adoption of cloud-based technology platforms, high speed connectivity and digital transformation. Additionally, housing and home improvement trends seem poised to benefit as the de-urbanization shift becomes more permanent, further aided by low interest rates.

  • Rise of the hybrid model. People need socializing in some form. This has led to virtual coffee breaks, remote competitions and online wellness classes. The hybrid model of in-person and online interactions will likely remain post-pandemic. Such distanced and digital events will benefit some companies (i.e., social media platforms and online gaming), but will also challenge companies to adapt and innovate.

With expectations of normalization in 2021, we think that consumers will eventually return to brick-and mortar stores. However, trends in digital payments and online shopping aren’t likely to fade given their convenience as online purchases by consumers jumped in 2020 (+36.8%)3 due to the economic shutdown. Digital commerce has remained at heightened levels as e-commerce has broadened out into many categories including groceries, pharmaceuticals, and food service.

  • Manufacturing shifts. A shortage of personal protection equipment and other essentials highlighted the need to re-examine production and sourcing for the US as well as other countries. While trade tensions may fade under a Biden presidency, localization of supply chains is a shift that may gain traction. Companies geared to supply chain management, robotics in manufacturing as well as industrial technology could benefit. These areas allow other companies to remain laser focused on cost containment while smart manufacturing can be streamlined.

We believe many of these trends will remain in place post-pandemic due to business productivity gains and positive consumer experiences.

Theme 3: Diversification May Help Mitigate Risk

Growth and momentum stocks performed well in 2020. However, valuations on equities and fixed income have traded at elevated levels recently. The S&P 500 Index price-to-earnings ratio hit a nearly two-decade high at 22x,4 suggesting that stocks are close to being fully valued at their current prices.

Stock Valuations Are at Their Highest Level Since 2000

S&P 500 Index Forward Price-to-Earnings Ratio

Source: Bloomberg, as of 11/23/2020.

With minimal sources of reliable income at attractive prices, investors have few dependable alternatives. Slow global growth may create power struggles among corporations as they try to grab more market share leading to price competition. Furthermore, potentially increased regulation on businesses and higher taxes could squeeze margins.

Meanwhile, US government debt is projected to roughly equal the size of the US economy by the end of the year5 and US companies sold more debt during the third quarter than ever before.6 Combined, high government and corporate debt may create a volatile environment as borrowing tends to magnify the variability in profits. We think this is a time to reduce some risk exposures by diversifying across industries and asset classes.


1. Bureau of Economic Analysis, as of 10/30/2020.2. Bloomberg, as of 11/24/2020.3. US Census Bureau, 9/30/2020. Retail e-commerce sales jumped 6.75% on a year-over-year basis for the quarter ending 9/30.4. Bloomberg, as of 11/23/2020.5. Congressional Budget Office, 9/2/2020.6. The Wall Street Journal, “After Record U.S. Corporate-Bond Sales, Slowdown Expected.”10/2/2020.

This communication is intended solely to provide general information. The information and opinions stated may change without notice. The information and opinions do not represent a complete analysis of every material fact regarding any market, industry, sector or security. Statements of fact have been obtained from sources deemed reliable, but no representation is made as to their completeness or accuracy. The opinions expressed are not intended as individual investment, tax or estate planning advice or as a recommendation of any particular security, strategy or investment product. Please consult your personal advisor to determine whether this information may be appropriate for you. This information is provided solely for insight into our general management philosophy and process. Historical performance does not guarantee future results and results may differ over future time periods.

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