4Q2020 Market Summary
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Stocks ended a challenging 2020 on a high note as all major equity indices generated impressive gains during the fourth quarter. Perhaps most noteworthy during the quarter was the change in leadership within equities as value, small-cap and non-US stocks led the way after years of lagging large-cap US growth companies. We believe the relative outperformance of these asset classes reflects the market’s optimism that additional government stimulus and widespread distribution of a Covid-19 vaccine will lead to strong economic growth in 2021.
The recent outperformance of value, small-cap and foreign stocks may also reflect a possible “topping out” for some of the market’s biggest winners of recent years (mostly technology-related companies). At the end of 2020, the top ten companies in the S&P 500 Index made up 28.5% of the S&P 500 compared to 17.5% five years ago.
Those same ten companies now sport an average price-to-earnings ratio of 33.3 times earnings compared to a relatively reasonable 19.7 times earnings for the remaining 490 stocks, according to JP Morgan. This data suggests that while some portions of the market appear overheated, others continue to provide opportunity. Should the economy return to normal in 2021, earnings growth may improve significantly for some of the companies most impacted by Covid-19, which in turn may continue to support stock prices both in the US and overseas.
While earnings growth should be strong next year, we also see signs of market froth and speculation. For example, the ongoing popularity of speculative investments in the cryptocurrency space, robust market for initial public offerings and emergence of special purpose acquisition corporations (SPACs) all suggest a high level of exuberance that warrant caution. It is also possible that strong economic growth may lead to higher inflation and disappointing returns for bond investors. For these reasons, we continue to emphasize the importance of a long-term perspective and reliance on fundamentals and valuation, rather than splashy news headlines that create short-term volatility.
The S&P 500 returned 12.2% during the fourth quarter, resulting in an 18.4% return for the full year. The Russell 1000 Value Index returned 16.3% compared to 11.4% for the Russell 1000 Growth Index. As expected in an environment where value stocks outperformed growth, the financial, energy and industrial sectors were the strongest performers during the quarter.
Small-cap stocks surged during the quarter and the Russell 2000 Index of small-capitalization companies generated a 31.3% return during the last three months of 2020. Non-US stocks also performed strongly and the MSCI EAFE Index of developed nation stocks rose 16%, while the MSCI Emerging Markets Index returned 19.7% as a declining US dollar helped foreign stocks.
Short-term interest rates were effectively flat during the fourth quarter, but longer-term rates increased following expectations that greater government spending and strong economic growth could lead to higher inflation in the near future. The Federal Reserve continues to signal its willingness to keep shorter-term rates low to let inflation run above its traditional 2% target, in which case longer-term rates could continue to rise.
The Bloomberg Barclays US Aggregate Bond Index returned 0.7% during the quarter, despite the 10-year Treasury rate increasing from 0.68% to 0.92% and 30-year Treasuries from 1.45% to 1.65%. Corporate bonds also held up well during the quarter, supported by the ongoing economic recovery. The Bloomberg Barclays US Corporate Bond Index returned 3.1% during the quarter while high yield bonds returned 6.5%.
Commodity prices were also boosted by expectations for an improving economy. The Bloomberg Commodity Index returned 10.2% during the fourth quarter, while oil prices rose from $38.50 to $48.35 for a barrel of West Texas crude. The Dow Jones Commodity Gold Index was essentially flat during the fourth-quarter but returned 21% for the full year.
The Standard & Poor’s 500 Index is an American stock exchange market index based on the market capitalizations of 500 large companies having common stock listed on the NYSE or NASDAQ. The S&P 500 index components and their weightings are determined by S&P Dow Jones Indices.
The Russell 1000 Growth Index is a broadly diversified index predominantly made up of growth stocks of large U.S. companies.
The Russell 1000 Value Index is a broadly diversified index predominantly made up of value stocks of large U.S. companies.
The Russell 2000 Index is a small-cap stock market index of the bottom 2,000 stocks in the Russell 3000 Index. The index is maintained by FTSE Russell, a subsidiary of the London Stock Exchange Group.
The Russell Microcap Index measures the performance of the microcap segment of the U.S. equity market. It includes 1,000 of the smallest securities in the Russell 2000 Index based on a combination of their market cap and current index membership and it also includes up to the next 1,000 stocks.
The MSCI EAFE Index is a stock market index that is designed to measure the equity market performance of developed markets outside of the U.S. and Canada.
The MSCI Emerging Markets Index is an index designed to measure equity market performance in global emerging markets.
The Bloomberg Barclays US Aggregate Bond Index is a broad-based flagship benchmark that measures the investment grade, U.S. dollar-denominated, fixed-rate taxable bond market.
The Bloomberg Barclays US Corporate Bond Index measures the investment grade, fixed-rate, taxable corporate bond market. It includes USD denominated securities publicly issued by US and non-US industrial, utility and financial issuers.
The Bank of America Merrill Lynch High Yield Bond Index tracks the performance of below-investment-grade U.S. dollar-denominated corporate bonds publicly issued in the U.S. domestic market.
The Bloomberg Barclays U.S. Municipal Index covers the USD-denominated long-term tax exempt bond market. The index has four main sectors: state and local general obligation bonds, revenue bonds, insured bonds and prerefunded bonds.
The LBMA Gold Price Index is the global benchmark for unallocated gold and silver delivered in London.
The West Texas Intermediate (WTI) oil, also known as Texas light sweet, is a grade of crude oil used as a benchmark in oil pricing. This grade is described as light because of its relatively low density, and sweet because of its low sulfur content.
Bloomberg Commodity Index (BCOM) is calculated on an excess return basis and reflects commodity futures price movements.