Published on July 13th, 2021
June 2021 | Equity Commentary
We believe the United States is very close to full reopening, with nearly all 50 states removing pandemic-related restrictions for vaccinated adults. Stocks may have largely priced in the economic rebound, but better-than-expected earnings and growth outcomes—combined with a still-dovish Federal Reserve and a retreat in longer-duration Treasury bond yields—continue providing upward support for equities. Approximately 80% of stocks in the S&P 500 Index are in an uptrend, underscoring the healthy breadth in the stock market. The S&P 500 added another 2.3% for the month, bringing year-to-date gains (through June 30) to 15.2%.
The U.S. economy appears to be humming. Consumers are largely driving the growth, armed with accumulated savings from the past year. According to the Bureau of Economic Analysis, pending volume on consumer goods is over 10% higher than pre-pandemic levels, and early data suggests consumers are now shifting their dollars to services. Spending on leisure and discretionary services (travel, restaurants, etc.) rose 0.7% from April to May, while spending on furniture and cars fell by 2.8% over the same period.
Business investment is also trending favorably, in our opinion. Data from the Federal Reserve Bank of St. Louis shows that nonresidential private fixed investment, which is a proxy for business investment, increased at a seasonally adjusted annual rate of 11.7% in Q1, following double-digit increases in Q3 and Q4 of last year. Following the “Great Recession” of 2008-09, businesses seemed more reluctant to invest in capital and equipment, and labor was cheap. In the current economic recovery/expansion, labor is tight and wages are rising, so it appears that businesses are opting to increase spending on computers, equipment, software, and other technology infrastructure in an effort to drive productivity. There is also apparently greater desire in the business community to build supply chain resiliency and to ‘on-shore’ more production, all of which is being helped along by historically cheap borrowing costs.
In the first six months of the year, the U.S. economy added about 3.3 million jobs, but is still 7.6 million jobs shy of the employment level attained prior to the pandemic. Perhaps unsurprisingly, new jobs at restaurants, hotels, stores, salons, and other in-person service industry roles accounted for nearly half of all payroll gains since the start of the year. Even though millions of Americans remain unemployed, the labor market is tight, which has created headaches for businesses while giving workers some leverage—according to ZipRecruiter, about 20% of all June job postings offered a bonus, up from 2% of jobs advertised in March. Wages are also being pressured higher.
In May, the median existing home price crossed $350,000 for the first time ever, marking a 23.6% jump from the previous year. In fact, it was only 11 months ago that the median existing home price topped $300,000 for the first time1, underscoring sharp price pressure as many urban workers migrate around the country and buy homes for remote work setups. Persistently low mortgage rates and a fairly drastic supply/demand imbalance (where demand far outweighs supply of homes) are also pushing home prices up. A 2021 report from the National Association of Realtors found that home construction over the last 20 years has fallen 5.5 million units short of historical trends.
These are all key factors driving home prices higher, but the depth and breadth of housing demand may be best explained by demographics. A large share of workers under 40 (millennials) have jobs that allow hybrid/remote work, and many are first-time homebuyers. But there are also just a lot of millennials in America—according to the U.S. Census Bureau, the largest age cohort in 2020 was individuals between the ages of 25 and 35.
Oil prices have soared past $70 a barrel, approaching a six-year high and putting pressure on gas prices across the country. Demand has returned to the global economy and to the U.S. faster than supply has kept up. Last year, OPEC cut output by 9.7 million barrels a day, but they have only brought back about 4 million barrels since then. In OPEC’s June meeting, the United Arab Emirates (UAE) balked at an agreement to increase overall production by 400,000 barrels a day each month through late 2022, largely because the UAE wants much of that production for itself. OPEC data suggests the market needs an additional 2 million barrels a day by the end of the year. Without additional supply, oil prices could remain at elevated levels in the months ahead.
By the narrowest of margins, in June President Biden and a group of 10 centrist senators agreed to a roughly $1 trillion infrastructure package. According to a list distributed by the White House, the bipartisan spending bill includes agreement to the transportation-related items on Biden’s priority list, with new investments in the electrical grid, transit, roads, bridges, and other forms of infrastructure. The cost of the spending would be covered by “repurposing existing federal funds, public-private partnerships and revenue collected from enhanced enforcement at the Internal Revenue Service.” Within days, however, the deal’s passage was in jeopardy, as President Biden alluded to wanting the $1 trillion package to be accompanied by an anti-poverty bill and other parts of his $4 trillion American Jobs Plan. Republicans balked and Biden walked back his comments, reminding us how fragile any bipartisan agreement on spending will ultimately be. It is reported that Congress will be working towards a deal on this legislation in the coming weeks, prior to the August recess.
Market leadership started to shift over the last month or so. From the late last year through the middle of May, the so-called ‘reflation trade’ outperformed; cyclicals, value stocks, and the shares of many companies believed to benefit most from the reopening of the economy led the market—the Russell 1000 Value index rose +15% compared to just +2% for the Russell 1000 Growth index. But since then that trade has reversed, with growth stocks outperforming value stocks (+2%). This rotation in equity markets was commensurate with a rally in U.S. Treasury bonds, which saw the 10-year Treasury bond yield decline from around 1.7% to around 1.4%. This decline in Treasury yields marked a reversal from the sharp rise early in the year, and may be sending a signal about falling investor expectations for economic growth and inflation going forward. It is too early to tell how this story plays out, but equity market leadership could be choppy as we get more clues from the economic data about inflationary trends.
As of June 30, 2021