Although many hoped that by this point COVID-19 would be in the past, the pandemic continues to create challenges in the U.S. and in many parts of the world. Because of that, the investment markets still must pay attention to its possible ramifications.
There was significant improvement in the first half of 2021 as the distribution of what have proven to be very effective vaccines picked up steam. That appeared to contribute to a dramatic reduction in COVID-19 infections in America and other regions across the globe where vaccines were being utilized.
Yet progress in vaccinating the remaining group of Americans who had not yet received at least one dose slowed by the second half of 2021. At the same time, cases of the Delta variant led to a reversal of what had been a favorable trend. Infection rates, hospitalizations and deaths from COVID-19 began to climb significantly. Those who are not yet vaccinated have been most susceptible to infection. Based on available data, this group also appears to be more at risk of serious illness or death.
How might this evolving environment impact the markets and economy? Investment leaders from U.S. Bank offer their assessment.
Vaccine implementation hits a ceiling
There’s significant anticipation for the time when the world overcomes the pandemic and can return to something approaching the “normal” state that existed before. Vaccinations are thought to play a key role in achieving this status.
However, the U.S. has still not yet achieved what is considered a level of immunization that could ultimately defeat the virus.
COVID-19 Full Vaccination Levels in U.S.1
% age fully vaccinated
Total U.S. population
Population 12+ years
Population 18+ years
While there has been modest improvement in these numbers over the summer, progress is slower than hoped for. A large group of Americans appear to be hesitant about receiving the vaccine or are ardently opposed to it. As a result, immunity on a societal scale remains elusive.
In mid-2021, the highly transmissible Delta variant of COVID-19 fueled a major uptick in infections and in certain parts of the country, put tremendous pressure on medical providers as hospitalization rates soared. The greatest impact is on the unvaccinated segment of the population.
Two additional factors have emerged as well. One is that some government entities and private employers have begun mandating vaccines for their employees. Such measures have drawn opposition and mandates are, in certain cases, being challenged in court, but the net result could be a higher percentage of the population receiving the vaccine.
The second is that the U.S. government has approved “booster” shots to those who are already fully vaccinated to enhance their immunity. As of October, only those 65 and older or younger people with specific health concerns or who are at increased risk of exposure qualify to receive booster shots. The acceptance of booster shots as a preferred approach is an indication that shots received earlier may have a diminishing impact in terms of providing protection against current and future variants of the coronavirus.
Not yet back to normal
Investors are anxious to see the economy return to something resembling its pre-pandemic status. “We’re not there yet,” says Tom Hainlin, national investment strategist at U.S. Bank. “The Delta variant is a reminder of that. It created material concerns about when we will return to normal.” Hainlin is encouraged by the performance of the available vaccines against this variant, but notes that some caution is warranted if a new variant emerges that the vaccines can’t address with the same reliability. “We’re watching to see if the strains force countries and states to restrict movement, close schools and businesses and so forth.” So far, shutdowns have mostly been avoided.
At the same time, the U.S. economy has demonstrated significant strength. Gross Domestic Product (GDP), the primary measure of the economy’s strength, grew by an annualized rate of 6.3 percent in the first quarter. It followed that up with annualized growth of 6.7 percent in the second quarter.2 It was encouraging news to investors, who, through much of the summer, propelled major stock market indices such as the Dow Jones Industrial Average and Standard & Poor’s 500 to record levels.
Worldwide, governments have had varied approaches on how to handle COVID-19. “Some are mandating more prevention measures such as social distancing and vaccinations,” notes Eric Freedman, chief investment officer at U.S. Bank. “The ‘pandemic’ mindset is still firmly entrenched, and if that continues, it could create some concerns for economic growth going forward.”
How markets are trending
While COVID-19 has had a tremendous impact globally, the stock market adjusted quickly. After stocks nosedived 33 percent over a five-week period in February and March of 2020, they rebounded dramatically. “The market rally began in an environment of rising infections in the U.S.,” notes Rob Haworth, senior investment strategy director at U.S. Bank. “Investors looked right through those troubles and focused on the promise of economic growth in 2021 and beyond.” He points out that the market’s recovery was zeroed in on expectations for continued improvement in corporate profits, which have been borne out.
“Investors also reacted to strong fiscal and monetary stimulus,” say Hainlin. This included trillions of dollars in direct stimulus to taxpayers and businesses from multiple COVID relief plans passed by Congress and significant monetary stimulus by the Federal Reserve.
Hainlin notes that investors continued to demonstrate confidence in the ability of companies to meet profit expectations, and to this point, they haven’t been disappointed. “We’re seeing a stronger than expected recovery reflected by corporate earnings, so it isn’t a surprise that markets have set new records in the process,” says Hainlin.
The direction of stocks going forward is a mixed bag. Hainlin notes that the stock market today can be divided into three buckets:
- Cyclical growth stocks that perform well when the economy recovers but tend to lag when growth slows. This includes energy, financials, materials and industrial stocks.
- Secular growth stocks representing industries that are able to grow regardless of the environment, such as technology, communications services and selected health care companies.
- Defensive stocks that outperform other parts of the market when the economy is slowing or in recession. These include utilities, consumer staples and some health care stocks.
Hainlin points out that given the strength of the economy, investors have rotated between the first two groups of stocks so far in 2021. Stocks continue to be well positioned compared to other asset classes given expectations of the economy continuing in a positive direction in the near term.
As for bonds, Hainlin doesn’t anticipate a significant upturn in interest rates as long as the pandemic remains a threat to the economy. The best opportunities for bond investors may be found in riskier segments of the market – non-agency mortgage-backed securities, bank loans and some high-yield bonds.
Risks to watch going forward
Hainlin believes there are several risks that warrant closer watching:
- The potential that future variants will arise and force more restrictions that slow the pace of economic growth.
- A potential policy mistake by the Federal Reserve as it weighs its options to keep inflation in check while avoiding steps that could slow the economic expansion. This could include raising interest rates too quickly and stifling the recovery, or waiting too long to raise rates, resulting in a spike in inflation.
- Federal government spending increases to a point that investors begin to view U.S. Treasury securities as carrying a greater risk, driving interest rates higher.
While these are potential negative scenarios that are not likely to occur, Hainlin says they are concerns worth monitoring.
In the meantime, patience will be needed as we continue to wait for the emergence of a “post-pandemic” state and a more normal economic cycle. According to Freedman, “we expect some changes within consumer spending habits and how businesses rethink their marketing strategies. We continue to monitor how these changes may yield investment opportunities.” It may take more time to fully delineate what stocks will be best positioned for a post-pandemic environment that remains elusive in the near term.
Talk with your U.S. Bank wealth professional to make sure your portfolio is positioned utilizing a long-term, well-diversified investment strategy that is consistent with your tolerance for risk.
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