It’s finally here! Inauguration Day 2021. With over 20,000 National Guard troops on duty, it looks to be a peaceful day, although an eerie one compared to past pageantry, given the ongoing threats of Covid-19. Nonetheless, with violence now less likely, and fourth quarter earnings reports now underway, stocks moved higher yesterday.
So far, earnings reports appear to be solid, although investor reaction has been mixed. The few large banks that have reported so far have reported in line or better results. However, the surge in bank stock prices in recent weeks has clearly priced in the good news. Most have sold off on the earnings news. Last night Netflix knocked the socks off of expectations and shares rose over 10% overnight. There are few signs Americans are ready to move away from their TV sets anytime soon. Netflix’s huge release schedules of new films and series sets a high bar for competitive streaming services. Wall Street awarded the company for its efforts.
A more prosaic company would be Procter & Gamble which also reported results this morning. An 8% rise in sales and a shift toward premium products that offer greater convenience sparked an early morning rally. But Procter’s stock remains below its 52-week high. For now, like the banks, the good news appears to be priced in.
Indeed, that could be a theme for this earnings season. Expectations are high. Most businesses have built on momentum tied to the economic reopening that began last spring. The surge in Covid-19 will provide some headwinds to a few industries. But the fall surge appears to be peaking. That isn’t solace to the 400,000+ Americans who have lost their lives to date. However, as I note often, the stock market doesn’t have a conscience. It reacts to earnings and interest rates. Earnings are improving and should be expected to accelerate in 2021 as the pandemic wanes. But that isn’t a certainty. So far, investors have assumed that the end is near. But if new strains gain strength while the pace of vaccine inoculation continues to slow, there is some risk of yet another resurgence should a mutation surge that the vaccines in place don’t protect. At the moment, it appears that risk is low. The best protection is for as many Americans to get inoculated as soon as possible. End of my public service message.
As noted, the path for stock prices is governed by earnings and interest rates. We have discussed earnings. Interest rates were climbing sharply until the top two heads of the FOMC downplayed any talk of tapering aggressive monetary policy any time soon. That quickly stopped the rise in its tracks. Rates may still go higher if inflation expectations rise. But given the recent Covid-19 surge, rising demand will likely be deferred, alleviating some pricing pressure. To be sure, commodity prices remain elevated and home prices continue to rise. But the pace of increases has leveled off a bit. Inflation fears, therefore, are not today’s issue. One can only speculate when they will surge to the point where they materially impact the stock market. Logic suggests they won’t make bonds meaningfully competitive until real interest rates turn positive. That means the 10-year Treasury would have to be close to 2%. Currently it is barely over 1.1%. So, it has a way to go. But as it drifts or climbs closer, the threat will get larger. That is one reason I expect the first half of 2021 to be better than the second half.
I want to drift back again to the world outside the stock market and make one brief remark related to what we saw two weeks ago in Washington. As noted, more than 70 million people voted for Donald Trump. Many, if not most, felt dissatisfied with traditional Washington leadership. If you step aside and separate the violence of Wednesday two weeks ago and President Trump’s role related to the uprising, we are reminded that we seem to live in a nation deeply divided. The haves have good jobs, live in houses whose values are rising, and are beneficiaries of the surge in stock prices. Over 60% of those making $100,000 or more have the luxury of working from home. The have-nots don’t have good jobs. Or they have no jobs at all. They don’t own their home; they just keep paying higher rents. They don’t own stocks to any great extent and their savings, mostly meager, earn next to nothing. Only 10% of those earning $40,000 or less can opt to work from home.
Covid-19 has widened the spread between the haves and have-nots. Federal Reserve policy widens the spread. The violence we saw two weeks ago isn’t likely to recur today and it might not recur any time soon. It’s out of my realm to predict. But I note two points to suggest that the frustration of the have-nots is bubbling to the surface. Next week, workers at an Amazon distribution facility will begin to vote to unionize. Some Amazon workers in Europe are already unionized. This, however, if successful, will be a first in the U.S. Google workers earlier this month voted to unionize at one location. Unions have been on the wane in the U.S. in the private sector for decades. Amazon workers may vote not to unionize. But these first steps send a message. Workers want to participate more in the growth of our economy.
Sometimes reactions are violent. The scene in Washington two weeks ago sent a strong message that America isn’t immune to what we see often overseas. But violence isn’t necessary if the haves listen to the have-nots. Perhaps we will hear from President Biden later today about bringing everyone together. Today, the message is words. What, if anything, gets done is up to Congress. But 70 million voters were disenfranchised. Trump’s attempts to personalize that message ended up doing more harm than good. But the message is still there. Economically, companies need to listen. One of the hot topics in the investment world is ESG investing. E stands for environment. S stands for social, i.e., both working conditions for employees and a company’s overall presence in society. G stands for governance. This all ties into what I have been discussing. Corporate America is beginning to understand that to be a great company means more than maximizing short- term profits. Not all companies embrace ESG the same. But all are going to be scored going forward. The biggest mutual fund companies are embracing ESG in portfolio construction. If corporations can take the lead, and help refranchise the 70 million, we will all end up in a better place. With Congress split, for Washington to embrace the needed changes, bipartisanship is necessary. Hopefully, the right messaging will start today and the violence we saw two weeks ago can be avoided in the future.
Today, Kellyanne Conway is 54. Astronaut Buzz Aldrin turns 91.
James M. Meyer, CFA 610-260-2220