Did you notice it? The market landscape shifted in 2021.The early days of 2021 saw a continuation of the themes that had been in place since 2020.
The tech-heavy Nasdaq, which benefited from the “stay-at-home trade” and led the major US benchmarks throughout 2020, maintained its leadership through January, gaining just under 1.5%, while the S&P 500 (SPX) and the Dow (DJIA) finished the month in the red. Small caps, which had a resurgence in the fourth quarter of 2020, continued to outpace large caps, as the Russell 2000 (RUT) gained 5% during the first month of the year.
However, it didn’t take long for the market landscape to shift. US Treasury yields, which had been on the rise since late summer gained momentum in early 2021, with the 10-year US Treasury yield going from 1% at the beginning of the year to 1.6% by the end of February. The rapid rise in yields spurred concerns about growth stock valuations, especially in the technology sector, which led to a peak-to-trough pullback of more than 10% by the Nasdaq in the first quarter.
Here’s what’s Going on in Technology
It also resulted in the technology sector surrendering first place in the DALI sector rankings, a position it had held for more than three years and falling to fifth by the end of the quarter. Meanwhile, energy and financials, which had been in the basement of the DALI rankings climbed into the top three. Commodity prices, which had begun to rise in 2020, continued to gain steam in early ’21.
Crude oil was up more than 22%, helping to propel energy equities while rising rates were a tailwind for financials. The rise in commodity prices was not restricted to the energy complex as lumber and copper gained 16% and 14% during Q1, respectively. The rising-rate environment was also a major challenge for investment-grade bonds and US Treasuries, which had been among the strongest areas of the fixed income market in 2020.
After underperforming for much of the last several years, value came back into favor, significantly outperforming growth in both the large and small-cap categories in the first quarter of the year. The Nasdaq recovered from its intra-quarter sell-off to finish the quarter in positive territory.
What’s Strong in our Economy
However, in a juxtaposition of leadership, it was the Dow leading major the large-cap indices with a gain of nearly 8% for the quarter. Small-cap stocks continued to lead large caps, gaining more than 12%. The 10-year US Treasury finished the quarter at a yield of 1.75%, its highest level since before the COVID pandemic, which it is has not surpassed since.
The strength of US equities continued in the second quarter buoyed by strong economic growth as US GDP grew by 6.4% in Q1 (quarter-over-quarter annualized). The S&P 500 notched a return of just over 8%, bringing its gain through the first half of the year to 14.4%, which was its second-best start to the year since 1997.
After trailing in Q1, the Nasdaq led the major US indexes in Q2, gaining just under 9.5%, while the Dow trailed, gaining a little over 4.5%. The second quarter also saw continued strength from commodities as the S&P GSCI Commodities Index, which is composed of energy, precious & industrial metals, and agricultural commodities, gained nearly 15%, led by energy as crude oil gained more than 24%.
The broad strength of commodities pushed it past international equities into second place in the DALI asset class rankings. Commodities had briefly eclipsed international equities during the first quarter, the first time it held the number two spot in DALI since 2016. That move was short-lived, however, as international equities moved back into second after only a couple of weeks. Commodities has now held second place in DALI continuously since retaking it in Q2.After a meteoric rise in Q1, US Treasury yields cooled during the second quarter.
What’s Not So Strong
The 10-year Treasury yield fell to around 1.45%, providing some welcome relief for bond investors and helping the Bloomberg Barclays US Aggregate Bond Index to gain 1.8% over the quarter.
Heightened inflation raised questions about the timing of tightening from the Fed, as May CPI showed a 3.8% year-over-year increase in goods prices, the largest since 1992, and the “reflation” trade lost some steam, with growth stocks outpacing value. The SPDR S&P 500 Growth ETF (SPYG) gained nearly 12% during the quarter, more than doubling the performance of the SPDR S&P 500 Value ETF (SPYV) which was up just over 4.3%.
At the same time, small-cap equities trailed large caps for the first time since the third quarter of 2020 as the Russell 2000 returned just over 4%, less than half of the S&P’s gain for the quarter.
Despite its underperformance in Q2, value remained the top-performing factor in domestic equities through the first two quarters of the year while momentum lagged. This was a stark shift from 2020 when momentum had been the best performing factor domestically and value had lagged the pack.US equities began the third quarter on strong footing.
Thoughts on Major Bench Marks
Concerns over theCOVID-19 delta variant raised questions about future growth prospects, but the major US benchmarks all finished July in positive territory, with the S&P gaining over 2% for the month.
Growth concerns weighed more heavily on small caps and the Russell 2000 shed more than 3.5% on the month. Meanwhile, the continued decline of US interest rates was a headwind for financial stocks.
Internationally, a crackdown on tech and private education companies by the Chinese government led to heavy selling of Chinese equities, pushing the iShares MSCI Emerging Markets ETF (EEM) to a loss of nearly 6.5% in July.
The major US benchmarks again reached new highs in August as Fed Chair Powell struck a dovish tone and seemed to successfully decouple the tapering of asset purchases, which was widely expected to begin later in 2021, from interest rate hikes. The Senate also passed the $1 trillion infrastructure bill, adding to bullish sentiment. Financials rebounded in August, led by large banks, as most showed strong revenue growth.
After rising for much of the year, crude oil declined sharply in August to lose nearly 6.5%. Cases of the COVID-19 delta variant spiked in many countries, raising concerns about future demand.
The Stock Trader’s Almanac says, “September is when leaves and stocks tend to fall, on Wall Street, it’s the worst month of all.” and the month lived up to its unsavory reputation in 2021. US equities had posted strong gains through the first two months of the quarter; however, growth and inflation concerns led the S&P 500 to a drop of just under 5% for the month, marking its worth monthly performance since March 2020 and erasing the bulk of the progress it made in July and August.
As Predicted – A Rebound
The S&P ended the quarter up just 0.23%, while the Nasdaq and Dow Jones Industrial Average were down -0.38% and -1.91%, respectively.US Treasury yields, which had declined throughout most of the summer, rose rapidly in the final stretch of September after Fed officials said they expected to begin tapering asset purchases beginning in November. The 10-year yield rose from around 1.3% to 1.55% in the final two weeks of September, ending the quarter in virtually the same place it had begun.
While September was unfavorable for US equities, the S&P GSCI Commodity index posted a gain of over 5% for the month, led by crude oil which gained more than 8% as consumer demand for heating oil and gasoline rose.
US equities rebounded from their September sell-off in October, helped by mostly strong earnings releases. The S&P 500 and Nasdaq each gained around 7% for the month, with the Dow posting a gain of nearly 6%.US Treasury yields continued to rise, with the 10-year yield peaking around 1.675%, its highest level since April as the Fed did not waiver from plans to begin tapering asset purchases in November despite markedly lower US GDP growth in Q3 compared to Q2.
After a constructive October, US equities got off to a strong start in November with the S&P 500 reaching new all-time highs. However, the emergence of the omicron COVID-19 variant and concerns about the efficacy of existing vaccines sent stock prices and bond yields tumbling post-Thanksgiving.
Inflation Haunts Us But —
Investors were further unnerved by a more hawkish tone from Fed Chair Powell the following week, who said it was no longer appropriate to call inflation “transitory” and cited the strength of the US economy when saying that a faster tapering of asset purchases was under consideration.
The S&P 500 finished the month down slightly, posting a loss of -0.83%. Small-cap stocks were hit harder as the Russell 2000 lost nearly 4.3%. While news of the omicron variant helped to push equity prices lower, it had a much more dramatic effect on oil prices, which declined more than 10% the day after Thanksgiving, the largest one-day decline since April 2020, leading to a loss of more than 20% for the month.
US equities and crude oil have rebounded in the early days of December as news about the severity of the omicron variant and effectiveness of existing vaccines allayed some concerns, but both remain off their pre-Thanksgiving levels.
As we head into the final trading days of the year, US equities remain firmly planted in the top spot in the DALI asset class rankings, with commodities holding on to the second position. Meanwhile, technology has once again regained the number one spot in the sector rankings that it surrendered in January.
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