Suny Park, Head of Institutional Client Strategy, North America, offers his perspective on some of the major “known unknowns” confronting institutional investors as we gingerly step into 2021.
- Continued accommodative monetary policy, expected additional fiscal stimulus by the new administration and reignition of corporate earnings growth all seem to point to a benign environment for equities. However, they represent known knowns.
- Even with the benefit of hindsight, we doubt anyone can point to a single negative catalyst that burst the TMT bubble 20 years ago. Likewise, we do not know when the growth cycle will end and the value cycle will begin.
- Despite their recent relative underperformance, institutional investors may be well served over the long term to persevere with growth-at-a-reasonable-price or quality-at-a-reasonable-price investment strategies that meaningfully outperformed their benchmarks when the TMT bubble burst in the early 2000s.
- For those who are unwilling to time the market or style cycles, adding portfolio protection strategies in the strategic asset allocation may be one of the more sensible things to do.
All of us agree 2020 is a year that will live in infamy. And yet, if financial markets were the only window into what happened during 2020, one would never grasp the havoc the pandemic wreaked on people’s lives, on industries such as airlines, energy, restaurants and hotels, and on countries’ economies. Solely looking at these market averages, one would think that everything was back to normal, when in fact that is so far from reality.
On the flipside, some of the major uncertainties such as the outcome of the U.S. election, a timely and successful discovery of COVID-19 vaccines, and the final terms of the UK’s exit from the European Union have been resolved. Furthermore, when risk assets were in a free fall last March, the Federal Reserve (Fed) demonstrated its resolve to provide liquidity where necessary to preempt any recurrence of the 2008 Global Financial Crisis. Therefore, while the evils of the pandemic are still fresh and ever present, the foregoing narrative partially explains why financial markets rallied during 2020.
With 2020 behind us, what now? It appears that many investors’ outlook for 2021 is generally positive. The Fed is in no hurry to raise its policy rate; aggregate corporate earnings appear poised to grow again; and expected corporate defaults appear not as dire and to be limited only to certain sectors of the economy such as energy, retail and hospitality.
The Fed’s forward guidance on policy rates and the expected corporate earnings growth and defaults represent “known knowns.” As we look forward in 2021, what institutional investors should concern themselves about are not the known knowns (because they are most likely already priced in) but the “known unknowns” and “unknown unknowns.” However, since latter are, by definition, unknowable, we are left only to assess the known unknowns.
In our opinion, the following represents some of the major known unknowns institutional investors are wrestling with as we gingerly step into 2021:
- Are growth equities in a bubble?
- Free market or lack thereof – a major handicap to investing in China?
- Will inflation unexpectedly surprise on the upside?
Since each one of the foregoing represents a major topic – we will divide and tackle them individually on a quarterly basis beginning with the first. Read our full analysis here.