The Quarter in Review | 2Q 2021
TOPLINE TAKEAWAYS FOR SECOND QUARTER, 2021
In the second quarter the U.S. economy truly entered the expansion phase, though robust growth has sparked inflation concerns. In the span of one year, the U.S. economy and corporate earnings essentially went from a depression-like bust to a boom. Companies cut operations to the bone during the early days of the pandemic then, with record-breaking monetary and fiscal stimulus, the economy found its footing.
The labor market has yet to fully recover, with non-farm payrolls (a coincidental indicator) still well below pre-crisis levels, but it's not for lack of demand; small businesses are struggling to fill their open positions. Last week the Bureau of Labor statistics reported that the U.S. economy added 943,000 jobs in July with the unemployment rate falling sharply to 5.4 percent. As highlighted in our “Thoughts on Economy, Jobs and Schools” communication in May, this should not be a surprise. In June, certain large states including Ohio, Texas and Florida stopped accepting the enhanced unemployment benefits provided by the Federal government to incent individuals to return to work. This employment trend should continue as additional states begin rolling off combined with kids returning to school this month.
FIRST QUARTER RETURNS
Stocks in the U.S. and many international markets continued to post fresh highs in the second quarter on the back of fiscal and monetary stimulus, as well as the COVID-19 vaccine rollout and continued reopening of the economy. In the U.S., the broad rally continued, with modest spikes in volatility throughout the quarter. U.S. markets were up +8.24 percent for the quarter. Reversing trends from the last few quarters, Growth and Large Cap stocks outperformed Value and Small Cap stocks.
International Developed and Emerging Markets continued their recoveries, up +5.65 and +5.05 percent respectively. Developed markets had positive returns in 21 of 23 countries. Emerging Market country returns were more mixed with 18 positive for the quarter and 9 negative.
A globally diversified portfolio of 50/50 equities and fixed income was up 3.73 percent for the quarter.
FIXED INCOME
After a Q1 surge in interest rates on strong economic growth and rising inflation concerns, longer-term Treasury yields consolidated in Q2. The Fed left its benchmark interest rate unchanged and continued to signal rates will stay low until 2023, stating that it expects the recent surge in inflation to be transitory. Through this stance, The Federal Reserve is making a policy choice to tolerate higher inflation in hopes of boosting employment, having missed its inflation target for most of the past decade after the financial crisis.
The decrease in Treasury yields during the quarter is incongruent with current measures and future forecasts of inflation. Longer term Treasury yields fell for a fourth consecutive month in July, as the yield on the 10-year T-note decreased 28 bps to 1.46 percent. The Bloomberg U.S. Aggregate Bond Index returned 1.83 percent for the quarter.
ALTERNATIVE INVESTMENTS
Commodity prices surged in the second quarter as concerns about inflation came to bear with oil leading the advance. In the U.S., oil inventories fell as rising demand was met by cautious oil producers who have been slow to ramp up production, despite oil reaching multi-year highs. The Bloomberg Commodity Index was up +13.3 percent for the period, leading all other asset classes. Price increases were realized across the board with 23 of 25 categories up during the quarter. Real Estate Investment Trusts (REITs) also achieved another strong quarter, up +11.76 percent.
THE CHALLENGE OF MEDIA HYPE
There continues to be headline-grabbing news regarding day traders, meme stocks, heavily shorted stocks driven by social media momentum, IPOs, and flavor-of-the-day SPACs to quickly take unprofitable stocks public. All of these activities can either make or lose a lot of your hard-earned capital. Further, talking heads on cable news are there to fill the space, even when there isn’t anything newsworthy to report. This can lead to commentary and speculation that isn’t helpful.
We are sharing the comic below that appeared in one of the research organizations we subscribe to not because we believe any of these issues are funny or trivial, but more as a reminder that the 24/7 media frenzy can sew confusion and cause much more hurt than be of any help.
QUESTIONS WHEN LOOKING FORWARD
Some of the questions being posed by investors right now include the following:
Is the inflation surge transitory or the begging of a longer term trend?
When will the labor markets begin to normalize?
Will the COVID resurgence effect the markets?
What should we expect in terms of tax law changes?
These are all good and thoughtful questions, and they are on our minds as well.
The excess cash provided through all of the various federal programs (one-time checks, PPP loans, extended unemployment, student loan waivers, etc.) will provide amble liquidity for consumers and businesses to continue to drive demand for some time. But this “sugar high” cannot last forever as it has been artificially created through government stimulus. We do believe inflationary material costs, which peaked in June, will continue to trend lower over the next few months and quarters as supply chains are fully restored and manufacturing catches up with demand.
However, in regard to higher Labor rates, we see those being more ‘sticky’. Once you start paying employees higher wages (current and new hires), you typically do not see those being taken back down just because demand has normalized. This is not necessarily a bad thing, if people are paid more, they are more likely to spend more and hopefully save more. On the flip side, if labor costs continue to escalate, businesses will persist in looking for ways to be more productive and automate at an even greater pace than before, which in time will result in fewer workers being needed.
We do anticipate labor markets continuing to heal in the months ahead. As mentioned before, once the school year starts in mid-August, those workers who opted to stay home while their kids engaged in remote learning will now be more freed up to return to the workforce, barring any drastic measures resulting from the COVID Delta variant. Combined with the ending of the supplemental Federal unemployment benefits in September for all states, we expect to see a steady reduction in labor shortages and a reduction in unemployment rates across all sectors and demographics. They should now have the time and financial incentive to go back to work.
Even with the Delta variant present, we would not anticipate reverting back to the extreme actions taking during the early days of the pandemic and prior to vaccinations, when the economy and life as we know it was intentionally shut down. No person would want to live through that again as it was painful in so many ways. This doesn’t mean there won’t be ongoing fears and concerns that can whipsaw the markets in the short term.
Earlier this week, the Senate passed an Infrastructure Bill that is now moving to the House for further debate. This has consumed Congress’ time for months and will continue to demand its focus. Once that bill has been finalized, we would anticipate the focus quickly shifting to taxes. The Biden administration has been clear about raising both corporate and personal taxes for individuals or families making more than $400,000 annually. We anticipate something will get passed this year regarding taxes, but it is too soon to know for sure. Once there are more substantive details to share we will be reaching out to you regarding planning opportunities or actions to take before year-end.
SUMMARY
This can feel like a lot to take in. Change and uncertainty have become staples of our world in the last 18 months, which can be unnerving for all of us. However, markets are still working and performing as designed, and keeping focused on a diversified portfolio for the longer term is what matters. Even amid all of this change and uncertainty, you can feel confident knowing that together we’ve done the due diligence to weather this and any tumultuous season by:
Having an Investment PLAN
Aligning your portfolio from both a RISK and GOALS perspective
Understanding HOW you are invested and WHY
Staying DISCIPLINED and PATIENT
Remember, we’re here to help. This also is where the time invested upfront with each of you shows its value. We recognize that each client’s situation is unique and incorporates different factors into their investment and financial plan. Formulating a solid and adaptable financial plan together and discussing liquidity, cash flows, and reserves, provides the solid footing needed for times like these with many changing facets.
We are grateful for the opportunity to work with each of you. As always, if you have any questions or concerns about current market trends and the impact on your personal situation and plan, please contact us and we would be happy to discuss.
We wish you, your families, friends, and colleagues all the best as wind down the summer and anticipate the fall season ahead.
Please follow this link to read the complete Quarterly Market Review | 2Q 2021.