Weekly Recap: COVID-19 Market Edition

Ryan NaumanMarket Strategistryan.nauman@informa.com

For the week ending September 18, 2020

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Equities (S&P 500 index) fell for a third straight week, falling -0.60% as investors continue to take profits from tech stocks, while the FOMC meeting did little to boost risk assets.

The OECD announced that the economy will not shrink as much as initially feared. The organization revised its forecast for economic growth this year to a 4.5% decline from the original forecast of a 6% decline. The improving outlook is due to the rebound in U.S. employment and better-than-expected data from China. Furthermore, the organization mentioned the economic recovery will need more fiscal and monetary support. Moving on, retail sales rose 0.6% in August, marking the fourth straight month of gains, however, the pace of sales has waned after a huge spike in sales after businesses reopened from the pandemic caused lockdowns.

The NAHB home builders’ index rose to 83 in September from 78 in August. The September reading marks the highest on record. Robert Dietz, chief economist for the National Association of Home Builders said, “the suburban shift for home building is keeping builders busy, supported on the demand side by low interest rates”. Homebuilder optimism has also been boosted by the lack of existing homes available for sale, which has pushed home buyers to purchase new construction homes. Furthermore, the demand for new homes hasn’t been effected by the 170% increase in lumber prices since April, as builders have been able to pass the additional cost on to buyers for the time being.

During its last meeting before November’s elections, the Federal Reserve (Fed) left key short-term benchmark rates at the zero band and said it doesn’t expect to increase rates until the end of 2023. The Fed stated, “it will be appropriate to maintain this target range until labor market conditions have reached levels consistent with the Committee’s assessments of maximum employment and inflation has risen to 2 percent and is on track to moderately exceed 2 percent for some time.” As for the Fed’s asset purchasing program, the central bank said it will continue to purchase at least $120 billion per month of Treasuries and agency mortgage-backed securities “to sustain smooth market functioning and help foster accommodative financial conditions, thereby supporting the flow of credit to households and businesses.” In addition to monetary policy, the Fed adjusted its economic outlook. The Committee increased its 2020 GDP expectations to a decline of 3.7% from the initial forecast of a 6.5% decline. Furthermore, it decreased its 2021 growth outlook to 4% from 5% and 2022 to 3% from 3.5%. It also forecast the economy to grow 2.5% in 2023.

Since the beginning of 1980, the “60/40” portfolio consisting of 60% U.S. equities and 40% Treasuries, has had a great run, producing an annualized 10.51% return during that period. A big contributor to that fantastic performance has been the 7.34% total return for 10-Treasuries. In addition to the fantastic returns, Treasuries are a safe haven and provide safety to offset the inherent risk of equities, particularity during market downturns. However, there has been a lot of discussion regarding the demise of the 60/40 portfolio. The primary reason behind this thought process is due to Treasuries no longer being able to contribute downside protection and solid total returns moving forward. Historically, investors have been able to anchor their investment portfolios with 10-year Treasuries, as they reduce risk and typically produced a 5% yield at the minimum prior to the Great Financial Crisis. Times have changed and now 10-Treasuries are offering a negative real-yield of 0.97% and duration risk has increased due to the lofty valuations.

The question remains, why have Treasuries lost this dual benefit and how can the outlook for 60/40 portfolios change? One can look at the Fed and say it’s lowering of key short-term interest rates to near zero for the past decade is the reason for low yields. Additionally, a larger detriment to long-term yields has been the absence of inflation, which has been a head scratcher for many due to the Fed’s very accommodative monetary policy this decade. The Fed has signaled they will continue the be accommodative for the foreseeable future, which will continue to keep rates low. And there has been no proof that inflation will climb anytime soon. Additionally, it may be many years before we see 5% yields, and with Treasury valuations already lofty, there isn’t much reason to think prices will climb much higher. Despite the drawbacks to Treasuries, there are benefits to including them in portfolios – diversification. Throughout history, 10-year Treasuries have been negatively correlated to equities, and that still holds true today, despite an increase in correlation during the height of the pandemic crisis, the 12-month correlation between equities (S&P 500 index) and 10-Year Treasuries (FTSE 10-Year Treasury index) is -0.67. Do I think 60/40 portfolios are dead? No, I think they are aging, quite quickly. Yes, Treasuries no longer offer the dual benefits that they once did, however, they still offer diversification for equity portfolios, which is a very sought-after trait during these uncertain times.

Commentary

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Sources: Zephyr StyleADVISOR, Macrobond, PSN Enterprise, Bloomberg. 1-week data as of 9/18/20, unless otherwise stated, time periods over 1 week as of 8/31/20. Equity Style Performance represented by: Large Value – Russell 1000 Value, Large Blend – Russell 1000, Large Growth – Russell 1000 Growth, Mid Value – Russell MidCap Value, Mid Blend – Russell MidCap, Mid Growth –Russell MidCap Growth, Small Value – Russell 2000 Value, Small Blend – Russell 2000, Small Growth – Russell 2000 Growth. Fund flow data (EPFR Global) 9/10/20 –9/16/20, S&P 500 (Large Cap Blend flows), Russell 3000 (all U.S. equity flows), Russell 1000 (all Large Cap flows), Russell Mid Cap (all Mid Cap flows), Russell 2000 (all Small Cap flows), MSCI EAFE (Western Europe DM, Asia Pacific DM flows) MSCI EM (All Emerging Market flows), MSCI World (All Developed Markets flows)

Global Asset Class Performance

Index 1 Week 3-Mos YTD 1 Year 3 Year Flows (mil)S&P 500 -0.60% 15.48% 9.74% 21.94% 14.52% $10,363

Russell 3000 -0.03% 15.93% 9.39% 21.44% 13.95% $23,747

Russell 1000 -0.19% 16.14% 10.43% 22.50% 14.58% $13,047

Russell MidCap 1.10% 11.57% -0.41% 8.73% 8.83% $3,500

Russell 2000 2.68% 12.40% -5.53% 6.02% 5.03% $4,725

MSCI EAFE 0.79% 11.33% -4.28% 6.60% 2.84% $683

MSCI EM 1.59% 19.71% 0.68% 14.88% 3.21% ($2,503)

MSCI World 0.03% 14.87% 5.73% 17.41% 10.42% $28,824

1 Mos Value Blend GrowthLarge 4.13% 7.34% 10.32%

Mid 3.96% 3.52% 2.72%

Small 5.39% 5.63% 5.87%

YTD Value Blend Growth

Large -9.35% 10.43% 30.47%

Mid -10.82% -0.41% 15.54%

Small -17.71% -5.53% 6.15%

Factor Index 3 Mos YTD 1 YR Risk-Adj %

MSCI USA Small Cap 12.24% -5.03% 5.07%

MSCI USA Value 7.12% -9.50% 0.76%MSCI USA Minimum Volatility 6.37% 0.53% 4.75%

MSCI USA Momentum 22.28% 23.26% 28.99%

MSCI USA Quality 14.37% 15.05% 34.25%

MSCI USA Dividend Tilt 9.82% 0.16% 12.15%

Index 1 Week 3-Mos YTD 1 Year 3 Year YieldBloomberg Barclays US Aggregate -0.09 1.31% 6.85% 6.47% 5.09% 1.19

Bloomberg Barclays US High Yield 0.10 6.72% 1.67% 4.71% 4.88% 5.91Bloomberg Barclays Municipals 10 Yr 0.10 1.88% 3.73% 3.53% 4.23% 1.13

Major Equity Asset Class Performance Equity Style Performance Equity Factor Performance

9/18/20 9/11/20 6/30/20 12/31/19 9/18/19 9/18/172-yr U.S. Treasuries 0.14 0.13 0.16 1.58 1.77 1.4010-yr U.S. Treasuries 0.70 0.67 0.66 1.92 1.80 2.2330-yr U.S. Treasuries 1.45 1.42 1.41 2.39 2.25 2.8010-yr German -0.51 -0.48 -0.50 -0.19 -0.51 0.4410-yr Japan 0.01 0.02 0.03 -0.03 -0.19 0.0110-yr U.K. 0.18 0.18 0.21 0.74 0.57 1.30

Major Fixed Income Asset Class Performance

Rates

Chart of the Week: Solid 40-Yr Run For 60/40 PorfolioZephyr StyleADVISOR Zephyr Associates

60% S&P 500/40% FTSE 10-Yr Treasury Performance Rebalanced AnnuallyJanuary 1980 - August 2020 (Single Computation)

0

1000

2000

3000

4000

5000

6000

Dec 1979 Dec 1984 Dec 1989 Dec 1994 Dec 1999 Dec 2004 Dec 2009 Dec 2014 Aug 2020

60% S&P 500 / 40% FTSE 10-Year Treasury

COVID-19 Dashboard: The # Of Coronavirus Cases In The U.S. Rises Above 6.5 Million

Source: Macrobond, World Health Organization 4

Source: Macrobond, Centers for Disease Control & Prevention 5

COVID-19 Dashboard: New Cases Have Started To Climb Again After Slowing

6Source: Macrobond, World Health Organization, Citi

COVID-19 Dashboard: Citi Macro Risk Index Has Fallen As COVID-19 Cases Have Declined

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Markets: 60/40 Portfolio Has Been On a Solid 40 Year Run

Zephyr StyleADVISOR Zephyr Associates

60% S&P 500/40% FTSE 10-Yr Treasury Performance Rebalanced AnnuallyJanuary 1980 - August 2020 (Single Computation)

0

1000

2000

3000

4000

5000

6000

Dec 1979 Dec 1984 Dec 1989 Dec 1994 Dec 1999 Dec 2004 Dec 2009 Dec 2014 Aug 2020

60% S&P 500 / 40% FTSE 10-Year Treasury

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Markets: Both Equities & Treasuries Have Experienced Solid 40-Yr Performance

Zephyr StyleADVISOR Zephyr Associates

January 1980 - August 2020 (not annualized if less than 1 year)

S&P 500

FTSE 10-Year Treasury Benchmark

60% S&P 500 / 40% FTSE 10-Year Treasury

YTD 1 year 3 years 5 years 10 years 15 years 20 years 25 years AnalysisPeriod

9.74% 21.94% 14.52% 14.46% 15.16% 9.54% 6.34% 9.66% 11.86%

12.29% 8.73% 6.24% 4.50% 3.97% 4.74% 5.30% 5.39% 7.34%

10.76% 16.94% 11.41% 10.58% 10.83% 8.28% 6.62% 8.59% 10.51%

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Markets: Negative Correlations Between Stocks & Treasuries Make The Pair A Good Match For Portfolios

Zephyr StyleADVISOR Zephyr Associates

Correlation: S&P 500 vs FTSE 10-Year Treasury BenchmarkJanuary 1980 - August 2020 (36-Month Moving Windows, Computed Monthly)

Cor

rela

tion

vs. S

&P 5

00

-0.8

-0.6

-0.4

-0.2

0

0.2

0.4

0.6

0.8

TimeDec 1982 Dec 1989 Dec 1994 Dec 1999 Dec 2004 Dec 2009 Dec 2014 Aug 2020

FTSE 10-Year Treasury Benchmark

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Markets: Despite The Recent Volatility, Technology Stocks Remain +22% YTD

Zephyr StyleADVISOR Zephyr Associates

Thursday, January 2, 2020 - Friday, September 18, 2020 (not annualized if less than 1 year)

Ret

urn

-40

-30

-20

-10

0

10

20

30

AnalysisPeriod

S&P 500 Information Technology (Sector)S&P 500 Consumer Discretionary (Sector)S&P 500 Materials (Sector)S&P 500 Communication Services (Sector)S&P 500 Health Care (Sector)S&P 500 Consumer Staples (Sector)S&P 500 Industrials (Sector)S&P 500 Real Estate (Sector)S&P 500 Utilities (Sector)S&P 500 Financials (Sector)S&P 500 Energy (Sector)S&P 500

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Markets: Since March 23, 4 Sectors Have Returned +50%, 2 Have Returned +60%, & Consumer Discretionary Has Returned +65%

Zephyr StyleADVISOR Zephyr Associates

Monday, March 23, 2020 - Friday, September 18, 2020 (not annualized if less than 1 year)

Ret

urn

0

10

20

30

40

50

60

70

AnalysisPeriod

S&P 500 Consumer Discretionary (Sector)S&P 500 Materials (Sector)S&P 500 Information Technology (Sector)S&P 500 Industrials (Sector)S&P 500 Communication Services (Sector)S&P 500 Health Care (Sector)S&P 500 Energy (Sector)S&P 500 Real Estate (Sector)S&P 500 Financials (Sector)S&P 500 Consumer Staples (Sector)S&P 500 Utilities (Sector)S&P 500

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Markets: Chinese Equities Are +17.5% YTD While S&P 500 is +4%

Zephyr StyleADVISOR Zephyr Associates

Thursday, January 2, 2020 - Friday, September 18, 2020 (not annualized if less than 1 year)

Return

-40 -30 -20 -10 0 10 20

YTD

MSCI ChinaMSCI SwitzerlandMSCI KoreaMSCI GermanyMSCI JapanMSCI CanadaMSCI AustraliaMSCI ItalyMSCI SpainMSCI United KingdomMSCI RussiaMSCI MexicoMSCI BrazilS&P 500

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Markets: High Yield Bonds Have Posted A 24% Return Since March 23

Zephyr StyleADVISOR Zephyr Associates

Monday, March 23, 2020 - Friday, September 18, 2020 (not annualized if less than 1 year)

Ret

urn

0

5

10

15

20

25

AnalysisPeriod

Barclays U.S. Corporate High YieldBarclays U.S. Corporate Investment GradeBarclays Municipal BondBarclays Global x US BondBarclays U.S. AggregateBarclays U.S. Treasury: 7-10 YearBarclays U.S. Treasury: 1-3 Year

Source: Macrobond, U.S. Department of Labor 14

Economy: Despite Falling, The Pace Of Declining Initial Jobless Claims Has Slowed

Source: Macrobond, 15

Economy: Real Treasury Yields Have Declined For 20 Years, & Are Currently Negative

Source: Macrobond, National Association of Home Builders, Natural Resources Canada 16

Economy: Despite The Spike In Lumber Prices, Home Builder Confidence Is At All Time Highs

Source: Macrobond, U.S. Census Bureau 17

Economy: Despite Increasing Four Straight Months, The Pace Of Retail Sales Has Slowed

Source: Macrobond, BLS 18

Economy: Despite Three Straight Months Of Increasing CPI, Inflation Remains Low

Source: Macrobond, U.S. Census Bureau 19

Economy: Retail Sales Are Above Pandemic Levels

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All Eyes On……..

Day Event/Earnings

Monday, September 21

U.S. Chicago National Activity Index (August), Household Debt (Q2)

Tuesday, September 22

U.S. Existing Home Sales (August)

Wednesday, September 23

U.S. Markit Manufacturing PMI (September), Markit Services PMI (September)

Thursday, September 24

U.S. Initial Jobless Claims (September 19), New Home Sales (August)

Friday, September 25

U.S. Durable Goods Orders (August), Core Capitals Goods Orders (August)

Data from the red-hot housing market continues during the upcoming week with the release of existing and new home sales. Both numbers should be strong, particularly new homes, as we found out this week the confidence for home builders is at record highs due to the increase in demand for new homes, as limited existing home inventory has pushed buyers to build. Additionally, the manufacturing and services PMIs for September will be released on Wednesday. After rising above the breakpoint level of 50, which signals expansionary conditions, the question remains will both PMIs continue to signal expansion.

About Ryan Nauman

As Market Strategist, Ryan Nauman’s primary focus is providing value added market and investment insight along with educating buy-side participants on investment analytics and portfolio management concepts.

Ryan provides analysis and research on market trends across asset classes, sectors, and regions to help empower better decisions for creating asset allocation strategies. His insight is disseminated through white papers, articles, training, and interviews with a target audience of financial advisors, portfolio managers, and investment analysts.

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