The global economy will recover

Economies have recovered faster than was initially anticipated, driven by strong Government support and the extremely rapid development of vaccines. 

A number of the hard lessons from 2008 and 2009 have been learned and take on board by both Governments and Central Banks.  Stimulus measures and low interest rates have meant that in some parts of the world consumers have more disposable income than in normal times, despite the higher unemployment.  The recovery is unlikely to be evenly phased through the world, with Asia likely to lead by having the fastest economic recovery.

The economy is expected to recover back to Pre-Covid levels by the end of the year, though will still remain behind where the global economy would have been without Covid.  Interestingly, economists continue to upgrade their forecasts and continue to be surprised at the strength of the global economy.

Governments expanded their balance sheets in 2020 as they looked to support their economies with stimulus measures like nothing has been seen before. 

This increase in borrowing was facilitated by Central Banks' assistance who have purchased significant amounts of Government Bonds to keep yields (and the cost of borrowing) low for both companies and Governments.

Previously held economic rules around Government debt and printing money seem to have dissapeared from both politicians and economists consciousness.

We are unlikely to see a change in Government spending in 2021 with Governments continuing to see the need to support their economies.   The OECD is forecast to run a 7% fiscal deficit in 2021. This compares to a 1% deficit recorded in 2019.  No single country is immune as every OECD country is forecast to have a deficit.

The big question on everyone's mind is what happens in the next crisis, with interest rates already close to zero (or below) and very high debt levels, will Government's have the capacity to support economies through another crisis.

During the pandemic investment in the new climate-friendly economy proved remarkably resilient.  A record $400 billion was invested in green energy projects in 2020, and this is expected to rise further in 2021. 

A significant change which accelerated this growth was the election of Joe Biden, who pledged to make the US carbon neutral as President of the US and China’s unexpected commitment to carbon neutrality by 2060. 

In addition to the transformation of electrical grids, Tesla has led the way to EVs becoming the norm. Some countries have announced they will ban the sale of petrol-only cars from later in the decade.

Europe led the way in 2020 with the use of their stimulus package to drive a green economy, it is now Joe Biden and America's turn to show us how they can contribute to a greener and healthier climate.

Tensions between the US and China are unlikely to abate with a Biden presidency. Diplomacy may return, entering us into a less volatile and more normal world. Though unfortunately, the US and China's tension is unlikely to go anywhere due to underlying problems with American society, and American's want someone to blame.

Over the past decade, the US has seen significant increases in inequality. The “American Dream” that all people are equal, and every person has an equal chance of success is no longer seen as possible.  Americans have seen their manufacturing jobs move offshore and cities and towns have been stuck in depression for decades.  This has all happened while China has been going through one of the greatest economic growth phases of all time and is likely to overtake the USA as the world's largest economy by 2025. 

Whilst also growing economically, China is reasserting itself globally and wants to be recognised as the military and political superpower fitting for the world's largest country and economy.  China no longer want to be subservient to the “declining” US superpower.

All of this makes China an easy avenue for anger and blame.  No matter how hard he tries, Joe Biden will be unable to change the general populations views on China and being the good politician he is, he will therefore need to retain Donald Trumps tough on China policies.

Corporate earnings are expected to recover rapidly because of low-interest rates, strong economic growth and increasing market exposure to the super-profitable technology sector. All of these factors will push listed company earnings to higher levels than 2019.

As expected, the rebound in corporate earnings will be aligned to economic growth which means that Emerging Markets (who have come out of Covid in more robust shape) will have faster recoveries and higher earnings.

At times like this it is important to remember the difference between Main Street and Wall Street.  Listed companies are larger and more exposed to growth industries than the broader economy which is an important reason why their earnings will recover much faster than the economy and unemployment.

Equity valuations are currently at recent highs, the S&P 500 is currently valued at almost 23x earnings compared with a long-run average of 16x.  Though it is important to look at this in the context of interest rates, which are also at all-time lows. 

The yield earned by companies is currently at a 3.5% premium to the US treasury bonds, exactly in line with the current market average. 

You can argue that this is a discount when you look at the breakdown of the index. The S&P 500 is now made up almost 30% of tech stocks which have a significantly higher margin and return on equity than other sectors which should drive a valuation premium to some of the more traditional sectors.

Looking at the market in this context we can easily argue that the market is potentially cheap rather than being over priced as a number of people believe.