Curmi & Partners

We are not out of the woods yet

by Matthias Busuttil

November has been a momentous month marking a turning point in the story of the pandemic and its impact on global financial markets. Soon after the inconclusive outcome of the US election on November 3rd, the announcement by Pfizer and BioNTech on 9th November reporting optimistic results that their vaccine can prevent COVID-19, gave hope that a post-COVID world is near. The positive market sentiment that ensued sent global equity markets soaring driven primarily by investor flows into those sectors that have been most severely hit by the pandemic.

In the following weeks, this risk-on market sentiment reverberated as similar announcements by Moderna and AstraZeneca stated that their vaccine trials yielded comparably positive results. The November rally has been the strongest month of equity market performance since markets started rebounding from the lows in March with the US (S&P500) and European (STOXX Europe 600) equity markets returning 10.95% and 13.86% respectively. These gains came on the back of the vaccine optimism despite most countries around the world experiencing an alarming surge in infection rates during this period.

The path that major economic regions have taken so far has been extraordinary. Advanced economies saw sharp contractions in output in the second quarter, as a result of the lockdown measures, causing an “economic sudden stop”. Then, in the summer months, as restrictions were relaxed, the bounce-back in economic activity was surprisingly strong and, in many cases, exceeding expectations.

Governments and central banks pulled out all the stops in order to cushion the fallout and avoid any scarring effects on the economy. Job retention schemes and enhanced unemployment benefits have supported employment and household income. Loan programmes and government guarantees facilitated working capital financing and improved liquidity in businesses. Central banks cut policy rates to the effective lower bound and injected money in the financial system through bond buying programmes with the aim of keeping borrowing rates low and ensuring the flow of credit to the real economy.

The prospects of a COVID vaccine and current assumptions around distribution and inoculation give good reasons to have a constructive outlook for 2021. Market expectations are pointing at a global real GDP growth rate of 5%+ in 2021 while earnings-per-share in US and European equity markets expected to increase by 29% and 50% next year following the sharp declines of 17% and 38% respectively this year (Source: Goldman Sachs).

As the positive vaccine narrative continues, value and cyclical segments of the equity market are expected to remain in favour. Whilst the recovery in equity markets since March has generally been driven by expanded valuation metrics (as discount rates declined and earnings dropped), the valuation differential in growth versus value stocks has widened considerably. Therefore, if the corporate earnings outlook remains encouraging, the rotation into value and cyclical stocks is expected to gain momentum in line with the continued recovery in economic activity. Moreover, as the virus risks fade and the path towards normalisation becomes clearer, equity risk premia are expected to compress given the reduced uncertainty around corporate profitability. All in all, equity markets are expected to continue to perform strongly next year, barring any substantial negative surprises.

Although the outlook for 2021 is positive, the current economic situation remains dire. Several major economies will probably enter a double-dip recession as a result of the sharp increase in cases and the related lockdown measures. Economic data and survey-based indices are pointing towards another slowdown in economic activity and deteriorating business conditions which are expected to have a negative impact on output and employment during the fourth quarter and possibly the first quarter of next year. The UK and the southern European countries are expected to hurt the most given the high reliance on services sectors, even though the contraction is not expected to be as severe as was the case earlier this year.

In view of the elevated downside risk factors, the deployment of additional fiscal stimulus and continued financial easing remains crucial to support economic players throughout another challenging period and to mitigate the risk of hysteresis in the economy. Whilst the notable market movements over the last few weeks were driven by the upbeat growth prospects for 2021, investors should not ignore the immediate market risks. The scope to identify pockets of value and select positions that can benefit from positive cyclical developments still remains. However, a diversified approach that includes defensive positions whilst maintaining exposure to safe-haven assets seems to be the most sensible strategy for the time being.


The information presented in this commentary is solely provided for informational purposes and is not to be interpreted as investment advice, or to be used or considered as an offer or a solicitation to sell/buy or subscribe for any financial instruments, nor to constitute any advice or recommendation with respect to such financial instruments. Curmi and Partners Ltd. is a member of the Malta Stock Exchange, and is licensed by the MFSA to conduct investment services business.