The Road to Recovery
With the release of the final estimate of second quarter GDP, the severity of the pandemic-induced lockdown of the U.S. economy became quantifiably manifest. Although the reading of -31.4% differed little from the prior estimate of -31.7%, the result finalized its status as the weakest quarter ever recorded since World War II.
With the tremendous amount of monetary and fiscal stimulus implemented to mitigate the impact of coronavirus on the economy, it is forecast that the quarter just concluded will show a meaningful recovery from the depths experienced in the second quarter. Across the spectrum of GDP projections for the third quarter, the range of outcomes is wide but have a commonality in that all point to significant improvement. The consensus of economists surveyed by Bloomberg projects GDP growth of 25.3% for the third quarter. While this level of movement to the upside does not fully meet the definition of the often discussed V shaped recovery, it does signify a material step forward to move the economy back to pre-pandemic levels.
There are numerous indicators pointing to an improving economic environment. With low mortgage rates resulting from the efforts of monetary policy officials, housing has been a bright spot as the National Association of Home Builders Index hit a record high in its most recent reading. Also, the manufacturing and service sector surveys from the Institute of Supply Management indicate future growth as both registered readings over 50, which is the line of demarcation between economic growth and contraction. One final indicator to reference regarding economic recovery is retail sales. Given the significant role the consumer plays in the U.S. economy, the improvement seen in retail sales over the past several months has been a key contributor in moving it closer to pre-pandemic levels. In fact, retail sales is one segment of the economy that achieved a V-shaped recovery with sales 2.5% higher at the end of August than in the pre-shutdown month of February.
Also, during the third quarter equity investors continued to benefit from the policy largesse put in place earlier this year from both monetary and fiscal policy perspectives. With interest rates maintaining extremely low levels and signs of economic recovery materializing, equities continued their march higher, which began in the second quarter. Domestically, equities returned 9.2% as measured by the Russell 3000 Index. While less than half the return of the prior quarter, the performance generated in the third quarter was more than sufficient to push large cap indices into positive territory on a year to date basis. And, to further put the recovery of equity markets in perspective, the index has returned 54.2% since its low on March 23.
The Grade Gets Steeper from Here
As discussed above, the economy and financial markets have responded sharply to monetary and fiscal policy initiatives implemented to overcome pandemic induced weakness resulting from economic lockdown. Moving forward we anticipate ongoing growth and a positive backdrop for equity markets, but the momentum of future progress will not be as fast paced as the past several months.
One area that may see some moderation in its growth is the housing industry. Low interest rates will continue for the foreseeable future translating into modest mortgage expense. With the recent strength, however, is a prospective reduction in affordability resulting from increased home prices. Illustrating this point is the recent report of the S&P CoreLogic Case-Shiller U.S. National Home Price Index which rose 4.8% in July following an increase of 4.3% in June.
The economy may also see a moderate contribution from the consumer in the coming months. Growth in spending may start to slow unless additional fiscal stimulus is injected into the economy. The $600 weekly unemployment payments provided by the federal government concluded at the end of July. While negotiations continue on the prospect of additional stimulus, there is no guarantee it will occur and, if enacted, how sizable it will be.
While we anticipate the recovery pace will slow, we do not expect a decline to levels experienced earlier this year. Obviously, numerous factors will play a role in how robust the economy will be in the future. Included in this roster of factors is the chance the rate of coronavirus infections, and potentially heightened levels of severity, increase over the next few months. Another prospective factor would be the discovery of a highly efficacious vaccine that is quickly distributed throughout the population.
Uncertainty is an ever-present variable in the investment equation. We are confident our investment process will allow us to successfully navigate over the long-term horizon, which is one of the tenets of our investment philosophy.
Asset Allocation Review and Outlook
With positive returns from fixed income, and domestic and international equity markets, each of BTC Capital’s five investment objectives generated positive returns for the third quarter. Our overweight position in U.S. equities for balanced and growth-oriented objectives enhanced performance as domestic markets generated the highest returns for the period.
We continue to maintain our current allocation mixes across the equity and fixed income markets. Within our allocations, for those that maintain exposures to both fixed income and equity markets, we continue to overweight stocks relative to bonds. While both asset classes have benefited from the stimulative policies implemented by monetary and fiscal policy officials, we remain confident equity returns will continue to outpace those generated in the bond markets over the longer term. And, more granularly, we continue to favor domestic equities relative to their international counterparts.
We continue to monitor a host of variables that could potentially impact our decisions regarding the optimal allocation across asset classes. Commensurate with this thought we feel it is wise for investors to review their respective investment objectives to ensure they continue to accurately reflect their goals, risk tolerances and investment time horizon.
Source: BTC Capital Management, Bloomberg LP, Ibbotson Associates, FactSet.
The information provided has been obtained from sources deemed reliable, but BTC Capital Management and its affiliates cannot guarantee accuracy. Past performance is not a guarantee of future returns. Performance over periods exceeding 12 months has been annualized.
The information within this document is for information purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security. Statements in this report are based on the views of BTC Capital Management and on information available at the time this report was prepared. Rates are subject to change based on market and/or other conditions without notice. This commentary contains no investment recommendations and you should not interpret the statement in this report as investment, tax, legal, and/or financial planning advice. All investments involve risk, including the possible loss of principal. Investments are not FDIC insured and may lose value.