2020: Low Probability Events Occasionally Occur
The year began quietly in investment markets, extending a lengthy stretch of subdued volatility. That relative calm came to a dramatic end in late February when the extent of the pandemic became clear, sending shockwaves across global investment markets. From its peak on February 19 to its March 23 trough, the S&P 500 Index tumbled 33.8% for its fastest ever descent into bear market territory. International markets followed suit, with the MSCI ACWI ex-US index falling 32.9% over the same period. Although Core Fixed Income served as a ballast during the period, corporate bonds did not escape the sharp selloff, with both investment-grade and high-yield credit indices registering losses in the short-run.
Massive Fiscal and Monetary Stimulus Minimized the Economic Impact
This jolt of liquidity put a floor under markets and set the stage for a rebound, resulting in an extremely short bear market. The U.S. Federal Reserve maintained short term interest rates close to zero. Broad stock and bond indices gained ground throughout much of the rest of the year, shrugging off concerns about the pandemic, inconsistent policy responses, uncertainty around the U.S. election, and escalating social tensions.
As the year progressed, economic data stabilized and improved from the dramatic drop. Unemployment followed a similar path, reaching a peak of 14% then backtracked to 6.7%. While the U.S. economy has not yet fully recovered, the U.S. stock market, which reflects the present value of future corporate earnings, appreciated in 2020.
The Economic and Market Recovery Has Been Uneven
The re-emergence of volatility has brought about significant dispersion across markets. For example, the difference between the best and worst sectors reached its widest level in many years. Similarly, growth stocks such as Amazon, Apple, Facebook and Google, outperformed value stocks by the widest margin in more than 20 years. Recent promising news about vaccines has brought about an abrupt reversal of those trends in the fourth quarter. Small company stocks outperformed large companies this year. Emerging markets in Asia outperformed the more developed international equity markets.
Volatility is Likely to Continue
The fourth quarter brought news of encouraging progress on treatments and vaccines, but the virus is far from contained. Until a vaccine becomes a widespread reality, investment markets will likely remain volatile. And even after the pandemic, new uncertainties that will challenge markets are likely to emerge; not the least will be paying for the cost of the pandemic.
While volatility provides opportunities for those entering the markets, it can pose behavioral challenges for the rest of us. The sharp selloff in the first quarter was enough to test the mettle of the calmest investor, but those who stayed the course and stuck to their long-term plans benefitted from the sharp recovery that followed. We will look back on 2020 as a year that underscored the value of timeless investment principles such as diversification, discipline, and a long-term view.