Leon Mehl

The election month for a new president and congress is finally here,  and  the  new  administration  will  definitely  step  in  with  a  tall  order  to  fill.  Uphill  challenges  will  obviously  be  met  as  conditions for human disease prevention and economic policy are still in need of help. The economy is at least already moving in the right direction, but more fiscal support may be in order to sustain the recovery.

The economy has shown a swift turnaround since the economic shutdowns went in effect. The latest reading on the economy showed  that  third-quarter  annualized  growth  was  able  to  recapture a significant portion of what was lost in the second quarter. Almost every component of GDP fired on all cylinders in the third quarter. Expenditures grew in consumer spending, housing,  and  in  businesses  as  inventories  and  investments  were  rebuilt.  Those  component  gains  check  all  of  the  right  boxes for robust economic activity. The recession may be close to an end, if the latest report can turn into a trend.

In  total,  the  change  to  real  GDP  is  now  running  at  a  small  single  digit  loss  on  a  year-over-year  basis.  The  economic  gap  between now and the fourth quarter of last year is a bit more than a half of a trillion dollars.  A recent estimate provided by the Congressional Budget Office (CBO), estimated that at least one  trillion  dollars  of  potential  GDP  has  been  lost  due  to  the  pandemic. The CBO estimate could grow if sound fiscal policy is unmet in subsequent quarters.

Government   stimulus   has   so   far   been   able   to   push   on   consumption   by   sending   out   transfer   payments.   Personal   income has gained more in 2020 compared to past years as a result of the transfer payments that went out in April. Household incomes  and  savings  are  largely  up  this  year  and  have  made  for five consecutive months of consumption gains. In fact, the change  in  personal  consumption  is  close  to  showing  no  net  loss over the past twelve months. But with an ongoing trend of one  million  new  unemployment  claims  per  week,  a  slowdown  in personal expenditures is at risk without another government injection.

The  government  is  indeed  preparing  for  another  stimulus  package, likely in the magnitude of one trillion dollars or more. Additionally,  the  Federal  Reserve  still  has  the  green  light  for  fiscal  stimulus  given  that  asset  purchases  of  treasury  bills  and  agency debt have accelerated as of late. Now with the election results  in,  officials  in  Washington  DC  will  likely  sprint  toward  passing  another  piece  of  legislation.  A  new  administration  coming  into  the  presidential  office  may  change  what  special  agendas might be included inside of any new laws.

The  budget  deficit  is  likely  to  come  under  fire  by  fiscal  austerities  in  the  future  since  amassing  around  three  trillion  dollars of debt this year. For context, a half of a trillion dollars in  deficit  spending  is  more  normal  around  this  time  of  any  given  year.  The  government  continues  to  spend  in  wartime  proportions by issuing new treasury debt. There is no shortage of government debt that is available on the marketplace. The fiscal  conservatives  will  one  day  feel  the  pressure  to  confront  the  risk  of  price  instability  and  interest  rate  change  that  can  come  out  of  high  fiscal  deficits.  But  as  of  right  now,  those  economic  risks  are  being  treated  as  a  minute  point  since  the  economy is being considered at war with the coronavirus.

The other delicate piece of the equation is the stock market.  There is pressure to keep the years of investment savings that Americans have built propped up for future consumption. With so  many  baby  boomers  now  in  or  close  to  retirement,  their  future spending habits are necessary for moving this economy forward. This was a reason for the Fed to step in early in the year with a rescue package for savings. Despite the long-term fiscal challenges,  it  has  been  seemingly  successful  and  the  overall  value attached to bond and stock indexes has recovered along with the economy.

US  Stocks  were  able  to  inch  by  with  a  small  positive  return  in  October,  although  the  recently  strong  performing  large-cap  category  was  of  no  help  in  the  month.  The    large-cap    category    average    slid    -2.2%  this  past  month.  This  time  around,  strength came out of assets that have not performed  nearly  as  well  as  large-caps  over the recent past, namely, the small-cap category  average.  The  small-cap  return  was  2.2%  in  October  to  give  it  a  solid  month of outperformance. Still, the small-cap return holds a -11.7% loss in all of 2020.  

Foreign  Bonds  improved  in  October  with  a   small   marginal   return.   The   monthly   return   on   world   bonds   and   emerging   market  bonds  were  approximately  0.2%.  The  return  on  the  emerging  market  bond  category average is almost fully recovered this   year.   World   bonds   have   acted   as   another source of stability seeing how they have  maintained  a  positive  year-to-date  gain of roughly 3.9%.

Foreign  Stocks  were  unable  to  produce  a  positive  return  in  October.  Weakness  crept in on large-cap and small-cap returns in   the   neighborhood   of   -3.0%   for   the   prior  month.  Both  of  the  same  category  averages   also   hold   year-to-date   losses   that approximate around -8.4%. Emerging market stocks have been a bright spot for the month. The emerging market category average  drew  in  a  1.4%  return  in  October  leading  to  a  near  breakeven  year-to-date  return.

Hard   Assets   took   another   turn   down   in   October,   which   made   the   year-to-date  return  dip  lower  into  loss  territory.  Precious  metal  returns  contracted  in  the  prior  month  to  record  a  -3.5%  loss.  The  metal category average, however, is still in possession of strong year-to-date gains of 28.4%.  The  energy  category,  on  the  other  hand, saw some demand come its way. The energy category average advanced 1.9% in October,  but  its  large  year-to-date  loss  is  still in need of a recovery.

US  Bonds  experienced  a  slight  setback  in  October.  Returns  on  investment  grade  bonds  lost  on  the  month  while  high-risk  bond   returns   improved.   The   high-yield   category  average  made  a  modest  gain  of  0.25%  in  the  prior  month.  The  year-to-date  return  on  the  high-yield  average  is  now  around  -0.8%.  Yet,  investment  grade  bonds   have   been   a   better   source   for   capital  preservation  this  year  given  the  positive year-to-date returns experienced.

Hybrids moved forward in the month with gains. Preferred stock led in October with a  0.5%  return.  That  narrowed  the  year-to-date loss in the preferred category average to  -2.1%.  Convertibles  lost  momentum  in  October  finishing  the  month  with  a  -0.2%  return    loss.    The    convertible    category    average   is   still   the   outlier   of   the   year   with   its   exceptional   year-to-date   return   of  approximately  17.6%.  The  demand  for  the  growth  optionality  in  convertibles  has  surely  made  this  an  amazing  year  for  the  asset.