Investment Outlook: First Quarter 2021 Market Recap

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It may have gotten a bit too easy.  For a while, it felt as if you could throw money at just about anything in the stock market and watch it rise in value.  Big tech, re-opening plays, IPOs/SPACs, near-defunct retailers, anything and everything related to EVs or cryptocurrency – it all worked.  Granted, certain areas fared better than others, but, by and large, it was a case of a rising tide lifting all boats.  These last few months, however, have been a little different.  Some of the high-flying technology stocks have begun to cool off, while other, more cyclically-driven names, came to life.  Now that we are moving forward down the path of recovery, people are actively trying to figure out what the economy looks like in the post-pandemic world and what, if any, repercussions might exist from the massive amount of stimulus it took to get us here.  This kind of uncertainty is exactly what drives increased volatility and sector-wide rotations like the ones we have seen in recent weeks.

One of the many factors to come into focus recently is inflation, something that hasn’t been an issue for well over a decade.  The emergence of this factor as a potential concern was triggered, in large part, by the enormous amounts of stimulus money that continues to flow into the economy.  While there was no question major assistance was needed early on in the pandemic, we are now starting to reach the point of “how much is too much?”  If we end up printing too much, or if we misallocate the funds, we run the risk of simply creating more dollars to chase the same amount of goods, therefore netting higher prices across the board.  It’s the same reason why the government can’t just print more money and make everyone millionaires – the value and purchasing power of the dollar would simply decline (i.e., prices would rise) in response.

Fears of higher inflation alone aren’t what has been driving the volatility in the markets, it’s the potential chain reaction it can set off.  For example, if investors are worried about the value of the dollar declining in the future, they may not want to hold a contract that promises to pay some fixed-dollar amount several years down the road.  And because this is essentially what you sign up for when purchasing a bond, these securities instantly become less desirable.  Now, to incentivize lenders and compensate for the additional risk of inflation, borrowers are forced to pay higher interest rates.  Higher interest rates aren’t good for many of the high-flying tech stocks as they earn little money now and rely heavily on external financing to fund their future growth.  This, in turn, leads some investors to shift away from these companies in favor of those more dependent on current economic growth (e.g., industrials, financials, etc.).

The above is just one isolated set of cause-and-effect relationships.  Throw in potential Federal Reserve intervention, a fluid political landscape, proposed regulatory and tax changes, ongoing recovery efforts, lingering pandemic headwinds, etc. and it becomes easy to see why the markets can seem so indecisive and skittish in the short-term.  The important thing to consider is that these particular investment decisions are being made at the macro level.  For the most part, there has been little to no change in any of the underlying businesses whose stocks have been impacted.

Rotations like this are quite common.  In the moment, it can feel as if companies caught on the wrong side of the broader market sentiment can do no right but, over time, individual results will again begin to matter and the macro factors will fade to the background.  For those investors with a longer time horizon and a little bit of patience, great buying opportunities can and do emerge.  The stock market continues to be one of the few places where people willingly run away from a good sale.