Buoyed by unprecedented monetary and fiscal intervention, global equities markets demonstrated their resilience in 2020. As we look forward to 2021, pandemic-induced uncertainty continues to be a dominant theme. A rising tide of COVID-19 infections, on the one hand, will pose challenges to markets, while signs of progress toward a medical resolution to the crisis will spark rallies.
In general, we favor equities compared with other asset classes because they continue to offer relatively attractive excess returns. The equity risk premium (ERP) for developed equity markets stands at 5.5% as of October 31, 2020 – 46 basis points higher compared with the same time last year. The ERP for US equities exceeds that in Europe, largely due to comparatively greater compression of US bond yields. (Earnings prospects for US companies also appear more promising than for European companies.) The equity risk premium for global emerging markets (EM), while slightly below last year, has come back in line with long-term averages.
That said, fundamentals continue to be thoroughly disconnected from equity price movements. This is the second straight year that equity returns have been driven primarily by stimulus-fueled multiple expansion – not by earnings. For equity markets to continue to perform, the pressure is on earnings to come through. Although governments could manage to deliver larger-than-expected stimulus packages, we see limited room for additional stimulus. Quantitative easing measures will not be enough.
On the earnings front, after lagging market developments for months, earnings expectations are beginning to reflect the reality of COVID-19’s impact. Compared with other regions, we believe earnings in North America are least likely to disappoint (see Figure 1).
Focusing closely on earnings potential provides a few key points for equity investors to consider in 2021:
We are most confident that growth and quality assets will deliver on earnings in 2021. Growth companies’ contribution to profits has been disproportionately higher than their overall market capitalization; and earnings growth is coming through to justify their valuations.
We believe that individual consumption will bounce back in 2021; investors should pay close attention to this theme. Consumer spending globally has already shown a sharp recovery since its low point in April. Despite recent job losses, stimulus efforts have supported household incomes, while increased savings have bolstered household assets. Although some areas have reimplemented mobility restrictions in response to rising infection rates, these have mostly stopped short of the blanket lockdowns that took shape in the spring of 2020. As economic activity resumes, and demand for goods and services revives, we believe the consumption theme is on track to outperform in 2021.
With all of this in mind, we expect earnings growth in China to be especially resilient, supported by a resumption in growth and consumption. Digitization and consumption trends will warrant a reconsideration of EM equity exposures in general. In that context, we favor Chinese consumer and growth stocks.
As we compose this equity market outlook, we’re keenly aware of key points of uncertainty that pose risks to our base case. The days following US Election Day saw a steepening of the yield curve and a rise in the MOVE index after a period of dormancy, indicating rising inflation expectations. If the Senate ends up in Democratic control following runoff elections in January, US fiscal expansion could exceed current expectations, and inflationary pressures could step up further, triggering trade in reflationary assets.
For now, although we’re keeping a close eye on the potential for a nearer-term uptick in inflation, we believe this is more likely to materialize beyond 2021. This year, we favor growth and quality equities, and encourage investors to consider their equity exposures in the two markets that we believe are most likely to deliver on earnings: North America and China.
The information provided does not constitute investment advice as such term is defined under the Markets in Financial Instruments Directive (2014/65/EU) or applicable Swiss regulation and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell any investment. It does not take into account any investor’s or potential investor’s particular investment objectives, strategies, tax status, risk appetite or investment horizon. If you require investment advice you should consult your tax and financial or other professional advisor. All material has been obtained from sources believed to be reliable. There is no representation or warranty as to the accuracy of the information and State Street shall have no liability for decisions based on such information.
The views expressed in this material are the views of State Street Global Advisors through December 7, 2020 and are subject to change based on market and other conditions. This document contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected.
The trademarks and service marks referenced herein are the property of their respective owners. Third-party data providers make no warranties or representations of any kind relating to the accuracy, completeness or timeliness of the data and have no liability for damages of any kind relating to the use of such data.
Investing involves risk including the risk of loss of principal.
The whole or any part of this work may not be reproduced, copied, or transmitted or any of its contents disclosed to third parties without SSGA’s express written consent.
Equity securities may fluctuate in value in response to the activities of individual companies and general market and economic conditions.
Investing in foreign domiciled securities may involve risk of capital loss from unfavorable fluctuation in currency values, withholding taxes, from differences in generally accepted accounting principles or from economic or political instability in other nations. Investments in emerging or developing markets may be more volatile and less liquid than investing in developed markets and may involve exposure to economic structures that are generally less diverse and mature and to political systems which have less stability than those of more developed countries.
© 2020 State Street Corporation. All Rights Reserved.
Exp. Date: 12/31/2021
More on the Global Market Outlook
Central Bank Action Will Support Investment Grade Credit
Investment Theme: Momentum Will Carry ESG Investing Far Beyond the Pandemic
As the Pandemic Surges, Global Economies Will Be Tested Anew