March 29, 2021

ARE WE ON THE BRINK OF AN INFLATION CRISIS?

Barry Gilbert, PhD, CFA, Asset Allocation Strategist, LPL Financial

Nick Pergakis, Analyst, LPL Financial

There is a growing debate over whether an expanding economy, in conjunction with historic fiscal and monetary stimulus, may cause inflation to overheat. Adding to the intense debate, the Federal Reserve (Fed) has shifted its policy framework, potentially allowing inflation to run a little hotter than it has in the past. Despite vocal calls for runaway inflation, we believe that any uptick in inflation will ultimately prove transitory due to slack in the labor market and other structural forces.

WHAT’S DRIVING THE INFLATION DEBATE

Concerns over an inflation scare are rising as investors question whether an accelerating US economy supported by pent-up demand will overheat amid a backdrop of historic fiscal and monetary stimulus. With roughly $3 trillion worth of fiscal stimulus set to take effect in 2021 and a Federal Reserve (Fed) that has expressed its commitment to maintain extraordinary monetary support until its objective of maximum employment is achieved, the concerns are reasonable. Adding to inflation fears, the Fed’s strategy to allow inflation to modestly overshoot its 2% target raises the concern that it may end up scrambling to raise interest rates to control inflation—potentially tightening financial conditions in the process. While we do believe inflation may run hotter than it has in recent years, we believe worries of runaway inflation are overdone and that the upside risk for core inflation will be capped at around 3% for the full year in 2021—and likely will run meaningfully lower.

NEAR-TERM PRESSURES APPEAR WELL CONTAINED

The US economy has come a long way, but it will take synchronized global growth before economic risks truly begin to abate, and this should limit inflationary pressure as well. Europe, Japan, and other regions have not been able to make the same progress on vaccination efforts, and mixed success in their prolonged battles against COVID-19 has led to slower economic activity relative to the US. We’ve also discussed how some areas of the economy have not participated in the recovery to the same degree, and the bifurcation between goods and services in the US is a perfect example. It’s no secret that service industries have borne the brunt of the economic impact of the pandemic, and this relationship is well illustrated by the changes in the core consumer price indexes (CPI) for goods and services [Figure 1].

February 22, 2021

SUSTAINABLE INVESTING YEAR IN REVIEW

Jason Hoody, CFA, Head of Investment Manager Research, LPL Financial

Jeffrey Buchbinder, CFA, Equity Strategist, LPL Financial

Increasingly more people realize that their sustainability concerns can be address through their investments. As more investors embark on the sustainable investing journey—learn what it is, why one pursues it and how to do it—assets into sustainable funds will continue and investors will have more choices from which to construct sustainable investing portfolios.

Individuals and institutions are increasingly concerned about sustainability issues. A World Economic Forum survey from the fall of 2020 concluded that 79% of American respondents agreed with the following statement: “I want the world to change significantly and become more sustainable and equitable rather than returning to how it was before the COVID-19 crisis.” We take a look at the growth of investor interest in sustainable investing while answering some common questions about it.

WHAT IS SUSTAINABLE INVESTING

You may have heard various terms used to describe sustainable investing—socially responsible investing, ethical investing, impact investing, among others. Although each of these terms is relevant to specific financial industry actors, types of clients, investment strategies, or subsectors of activity, they fundamentally describe the same thing:

Investments made with the intention of generating a positive environmental, social, and governance (ESG) impact alongside a financial return.

Investors commonly use sustainable investing to pursue two overarching goals:

•To protect and enhance long-term financial value through addressing ESG risks or investing in solutions to solve environmental and social challenges.

•To protect, enhance, or otherwise positively impact the long-term health of the environment or society through expressing ESG values.

Some examples of ESG issues that may be considered in an investment strategy:

Environmental: Greenhouse gas emissions, energy management, and water and wastewater management.

Social: Access and affordability, labor relations, and diversity and inclusion.

Governance: Compensation and benefits, data security, and supply chain management.

March 8,  2021

RISING RATES AND STOCK MARKET PERFORMANCE

Barry Gilbert, Ph.D., CFA, Asset Allocation Strategist, LPL Financial

Lawrence Gillum, CFA, Fixed income Strategist, LPL Financial

The 10-year Treasury yield continues to climb higher, but remains low by historical standards. Still, the size of the move since July 2020—and the more recent acceleration—has some market participants worried about the potential impact on stock markets if rates continue to rise. Historically, the S&P 500 Index has endured extended periods of rising rates well. If an improving growth outlook is part of what’s driving rates higher, it should also support corporate profits, creating a positive fundamental backdrop for stocks.

RISING RATES ARE USUALLY BULLISH FOR STOCKS

Bond yields have been on the move lately, but stock prices have also been rising. And while some market participants are expressing increased concern that rising bond yields may begin to weigh on stock returns, stocks have usually been resilient in rising rate environments.

LPL Research looked at major extended periods of rising rates dating back to the early 1960s [Figure 1]. We found 13 periods in which the 10-year Treasury yield rose by at least 1.5%, a move the current increase hasn’t even reached yet. These rising-rate periods lasted between six months and almost five years, with the average a little over two years. In nearly 80% (10 of 13) of the prior periods, the S&P 500 Index posted gains as rates rose, as it has so far in the current rising-rate period. In fact, the average yearly gain for the index during the previous rising-rate periods, at 6.4%, is just a little lower than the historical average over the entire period of 7.1%, while rising rates have been particularly bullish for stocks since the mid-1990s. Not all rising-rate periods are the same, though, and we believe stocks may tolerate the current rising-rate period well.

March 1, 2021

HERE COMES THE EARNINGS BOOM

Jeffrey Buchbinder, CFA, Equity Strategist, LPL Financial

Ryan Detrick, CMT, Chief Market Strategist, LPL Financial

Fourth-quarter earnings season is in the home stretch, and it’s been a good one. After raising our 2021 earnings forecast for the S&P 500 Index in our Weekly Market Commentary on February 8, our upgraded forecast may now be too low, based on what we have learned from corporate America during the three weeks since. In this commentary, we recap earnings season and share our latest thoughts on just how strong the earnings rebound could be in 2021 and beyond.

OUTSTANDING NUMBERS IN THE FOURTH QUARTER

Coming into fourth-quarter earnings season, investors had plenty of reasons to expect that companies would deliver better-than-expected results. The US economy grew at a solid 4% annualized pace in the fourth quarter (source: Bureau of Economic Analysis GDP data). Strong manufacturing surveys signaled better earnings ahead. Analysts’ earnings estimates rose during the quarter, as companies issuing fourth-quarter guidance mostly raised expectations.

Now that all the numbers are pretty much in the books (93% of S&P 500 companies have reported results), it’s clear that optimism was warranted as earnings impressively grew during the quarter [Figure 1].

In our earnings preview on January 19, 2021, we wrote:

Consider that the bar has been raised substantially over the past two quarters, making it tougher to clear. That probably takes  positive earnings growth off the table, but a low-to-mid single digit decline in earnings would be a positive outcome, especially if forward estimates hold up as fresh guidance is provided.

After the bar had been raised, with the prior two quarters following similarly strong results compared to expectations, it made a lot of sense to expect more limited upside as estimates catch up to reality. But it turned out another quarter of huge upside—and earnings growth—was in the cards as corporate America again blew by expectations. S&P 500 companies delivered more earnings during the still-pandemic plagued Q4 2020 than in (pre-pandemic) Q4 2019.

Here are the impressive numbers:

•Fourth-quarter earnings growth for the S&P 500 is tracking to 3.5%, more than 12 percentage points above the consensus estimate at quarter-end (December 31, 2020).

•A near-record 79% of S&P 500 companies have exceeded earnings estimates, above the five-year average of 74%.

•Five sectors grew their earnings by double-digits: communication services, financials, healthcare, materials, and information technology.

•Sales for S&P 500 companies in aggregate impressively rose more than 3% year over year.

•During earnings season, the consensus earnings estimate for the next 12 months rose 4%, compared with the average 2-3% reduction historically.

All earnings data is sourced from Fact Set

These results were particularly impressive given the wave of COVID-19 that brought some new targeted restrictions late last year.

February ,  2021

THE SEARCH FOR INCOME

Jeffrey Buchbinder, CFA, Equity Strategist, LPL Financial

Lawrence Gillum, CFA, Fixed Income Strategist, LPL Financial

Interest rates have risen steadily over the past six months but remain low by historical standards. That means the traditional high-quality bonds that many of us owned for decades are not doing the job for investors looking for income, while the potential for interest rates have risen steadily in recent months brings more risk in the bond market than has been evident historically. Here we look at some income ideas that may help with these challenges.

When investors think about income, or yield, they would normally think bonds first. More on that below. Next they might think about getting extra yield from their stock portfolios, maybe with a dividend strategy that might be heavy on real estate investment trusts (REITs) and utilities. While we don’t have anything against using those types of strategies for a portion of a portfolio to get some yield, they can also carry unwanted interest rate sensitivity if rates rise. We highlight some equity income ideas that we would expect to perform well in a rising rate environment for you to consider when building your portfolio.

INCOME IDEA #1: ENERGY

The first idea is energy stocks. You may be surprised to learn that the energy sector currently yields about 5% based on dividends paid in 2020, topping all S&P 500 sectors [Figure 1]. In this month’s Global Portfolio Strategy report, we upgraded our view of the energy sector to neutral. Our increased optimism was driven primarily by three factors. First, as we get closer to a fully reopened economy and travel activity picks up—potentially in the second half of this year—energy is likely to be a big beneficiary. Second, our technical analysis work revealed attractive upside potential based on recent price appreciation after an extended period of weakness. Third, we see the sector as attractively valued, especially when considering the income potential.

February 8, 2021

RAISING GDP AND STOCK MARKET FORECASTS

Jeffrey Buchbinder, CFA, Equity Strategist, LPL Financial

Ryan Detrick, CMT, Chief Market Strategist, LPL Financial

Nick Pergakis, Analyst, LPL Financial

The resilience of the US economy continues to exceed our expectations. With encouraging progress toward ending the pandemic, and massive fiscal stimulus in place—and more likely coming soon, our prior economic growth forecasts may prove overly conservative. In addition, we believe a strong fourth quarter earnings season supports an increase in our earnings forecasts for 2021 and, in turn, our fair value S&P 500 target.

ECONOMIC GROWTH POISED TO ACCELERATE IN 2021

We are upgrading our 2021 forecasts for US gross domestic product (GDP) growth from 4–4.5% to 5–5.5% [Figure 1]. When we first issued our GDP forecast for 2021 in Outlook 2021: Powering Forward back in December of 2020, we did not expect additional fiscal stimulus to pass until this year (it came in the form of a roughly $900 billion package passed on December 29), nor did we anticipate another $1 trillion or more to come this spring, which is now very likely given the Democrats have control of Congress. Our ETA for another package at this point is late March, with the Democrats pursuing reconciliation requiring just 51 votes in the Senate (including Vice President Kamala Harris and 50 Democratic Senators).

Stimulus is the primary reason for the increase in our economic growth forecasts, though we are encouraged by the progress made toward ending the pandemic in recent weeks. The holiday surge in COVID-19 cases has largely passed, and new daily COVID-19 cases in the United States have fallen roughly 60% from the January 8 peak. Meanwhile, the total number of patients currently hospitalized with COVID-19 has fallen below 100,000 for the first time since early December. The vaccine rollout in the US has picked up speed—we are now averaging more than 1.3 million doses per day, according to the Centers for Disease Control and Prevention (CDC)—and additional vaccine candidates are likely coming soon that can help boost supply—in particular the Johnson & Johnson vaccine that is easier to transport and store.

401(k) vs. IRA: The Basics

Saving for retirement can be scary with so many different options.

February 1, 2021

MARKETS SHRUG OFF DEBT LEVELS

Barry Gilbert, PhD, CFA, Asset Allocation Strategist, LPL Financial

Ryan Detrick, CMT, Chief Market Strategist, LPL Financial

The level of US debt, already elevated before COVID-19 hit, skyrocketed as Congress put into place much needed fiscal stimulus in response to the pandemic, and it may jump again as the Biden administration targets its stimulus goals. Markets have seemed unfazed by fiscal stimulus measures, and they’ll likely stay that way at least through 2021, but there will likely be economic consequences in the long term.

DEBT LEVELS SOARING

US Federal government debt is likely to pass 100% of gross domestic product (GDP) in 2021, a level only seen during the massive World War II war effort [Figure 1]. Markets have seemed largely unfazed by skyrocketing government debt levels. To the contrary, they have seemed to embrace the improved economic outlook that comes with stimulus. At the same time, concern over debt levels has become more widespread.

January 25, 2021

SMALL CAPS STILL SOLID

Jeffrey Buchbinder, CFA,Equity Strategist, LPL Financial

Ryan Detrick, CMT, Chief Market Strategist, LPL Financial

Nicholas Pergakis, Analyst, LPL Financial

Small caps have had an incredible run since the Russell 2000 Index bottomed on March 18, 2020, returning 119% compared to the S&P 500 Index’s 60% return over the period. Will small cap outperformance continue in 2021? The early stages of this business cycle may help determine the direction for small caps as well as earnings per share, stock valuations, and technical trends.

FAVORABLE PART OF THE CYCLE

Small cap stocks historically have performed well early in economic cycles. Given that the US economy likely came out of recession late last summer or early fall of 2020, 2021 certainly qualifies as early in this cycle. The tremendous performance by small cap stocks over the past 10 months suggests that a lasting economic expansion has begun in earnest and seems to validate the historical cycle pattern of small caps beating large caps early in cycles.

FIGURE 1 illustrates how the Russell 2000 Index historically has performed relative to the large cap S&P 500 Index during the early stages of prior economic expansions. Almost every time coming out of recession, small caps outperformed large caps over the subsequent 12 and 24 months; they outperformed by an average of 10.1% over the first year and 12.5% over the subsequent two years (on an annualized basis). We think this historical trend bodes well for small caps in 2021, though we acknowledge some excess returns probably have been pulled forward and already achieved with the recent stellar small cap run.