May was a bit rocky but markets maintained their positive direction. The DJIA leads the averages with a +13.8% gain, followed by the S&P 500 +12.6% and +7.0% for the Nasdaq, all year to date.
Covid vaccines have now reached 50% of the US population. Earnings came through on a high note in Q1-2021 as the economy reopened. Earnings grew 52% Y/Y, the highest since Q1-2010 with 86% of companies exceeding estimates.
More companies cited inflation on their earnings calls then they have in 10 years, according to FactSet.
Inflation seems to be everywhere. We see it in food prices, used cars, wood, housing, gasoline, and many basic goods.
U.S. households are swimming in liquidity due to wage gains, unemployment benefits and the wealth effect from rising home and stock prices.
Happy days are here again, as the saying goes.
With more of the world economies recovering one can argue that things should get even better for U.S. firms as the global profit picture improves.
European stocks as measured by the Vanguard FTSE European index hit 52-week highs +15.58% outpacing U.S. indices for the first time in a very long time. Ten-year US Treasury bonds at 1.62% have moved up in yield from 0.91% in January. Gold or GLD is flat on the year. Copper is soaring and energy stocks, XLE the Energy Select Sector ETF is up 44% after being the worst sector in 2020.
What about inflation? According to a new CNBC poll 21 of 30 strategists believe inflation is temporary. Only 9 of the 30 predict a long term, sustained rise in consumer prices. In other words, they believe Fed Chairman Jay Powell can control this inflation spike and gradually scale back on stimuli to the economy. The Fed is still buying $120 billion per month of treasuries and mortgage-backed bonds, despite a housing price surge.
Why is this important? Inflation over the long-term hurts asset values and lowers price earnings ratios for stocks. Growth stocks suffer most. At the height of the inflationary period in the late 1970’s early 1980’s long dated treasury bonds were at 14%. Stocks competing with these securities sold at 7 times earnings versus 22 times now.
The Fed and other Central banks have repressed interest rates for years. Time will tell if policy makers can put this inflation cat safely back in the bag. President Biden wants even more fiscal stimulus for infrastructure, which could fan inflation concerns.
The President also indicated that April 28, 2021, will be the retroactive date to end long term capital gains rates for high end taxpayers. This is unwelcome news for capital formation and U.S. competitiveness across the world. We shall see if his proposals can pass in a closely divided Congress. As we watch and wait, we are concerned that Washington will enact other policies that have a negative impact on investments.
Wages are also on the rise. Is this a trend or a moment in time post the Covid lockdown?
We wish you all a super summer as we watch events.
Doug Coppola - Investment Committee Chairman Steve Lindgren - Chief Investment Officer