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MARKET INSIGHTS
The Investment Outlook for 2021
Investing in the 2020s: Take two
AUTHORS
IN BRIEF
• Following a winter slowdown, widespread vaccination should • A commitment to maintain very low short-term rates until the
allow U.S. growth to surge later in 2021, precipitating a relatively economy reaches “maximum employment” could lead to a
fast rebound from a deep recession. However, the recoveries for steepening of the yield curve in the year ahead, requiring an
GDP, jobs and inflation are on different timetables with important active and diversified approach to fixed income allocations.
policy implications.
• Earnings should rebound but overall U.S. equity returns may be
• A 50-50 Senate or Republican control of the Senate implies less constrained by high valuations. A cyclical rebound should produce
fiscal stimulus than under a “Blue Wave.” However, federal debt at least a temporary rotation from growth to value.
will likely continue to grow sharply, threatening greater fiscal
• International equities should benefit from a falling dollar and
stress by the middle of the decade.
lower valuations relative to the U.S., with the more cyclically
• International growth will depend on regional pandemic trends geared regions outperforming.
early in the year but should broadly accelerate once vaccines are
• With returns constrained in traditional asset classes, alternative
distributed. In addition, a more predictable trade policy from the
assets can provide opportunities for income, diversification and
incoming Biden administration and stronger international
downside protection.
economic growth should push the U.S. dollar lower.
THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
INTRODUCTION THE U.S. ECONOMIC OUTLOOK: THE PANDEMIC
If ever there was a year that reinforced the importance of AND THE RECOVERY
humility among economic and market prognosticators, 2020 Earlier this year, as the pandemic led to a widespread
has been that year. A year ago, as we outlined our views for shutdown in economic activity, it seemed that the most likely
2020 in an article titled Investment Strategies for a Late Cycle shape of the U.S. recession and recovery would be a plunge, a
Environment, we made no mention of the possibility that a bounce, a crawl and a surge. The logic behind this was that
pandemic would plunge the global economy into the deepest while a good chunk of economic activity could recover even in
recession since World War II and trigger a massive response in a pandemic environment, a large swath would have to await
terms of fiscal and monetary stimulus. As the year draws to an the distribution of a vaccine. However, once that vaccine was
end, there is light at the end of the tunnel in the form of distributed, economic activity could be expected to boom as
multiple successful vaccine trials. If 2020 was the year of the America and the world rushed to enjoy all the activities that
pandemic, 2021 is likely to be the year of the vaccines, allowing had been suspended by the pandemic.
the economy and society to return to normal.
As this year draws to an end, this pattern appears even more
The brave new decade of the 2020s essentially face-planted likely to play out. The economy has already seen a plunge and
out of the blocks and as it restarts in 2021, it will be a new a bounce, with real GDP falling by 5% annualized in the first
normal, with higher government debt, lower interest rates, quarter and 31.4% annualized in the second before vaulting
significant economic slack and higher valuations. by 33.1% in the third. Unfortunately, with the pandemic
Superimposed on all of this will be new political leadership in rapidly worsening, we expect growth to average just 3.5%
the United States. In the pages that follow, we trace out what annualized in the fourth quarter of 2020 and the first half
we believe this will mean for the U.S. and global economies, of 2021.
fiscal and monetary policies and asset class performance. We
However, with early trial results showing remarkable
also try to underscore the particular importance of tried and
effectiveness, the distribution of these vaccines should
true investment principles as we all emerge from the strange
conclusively end the pandemic later in 2021. Clearly, a key
and unpleasant world of COVID-19.
question is how quickly the population can be inoculated. In
our forecasts, we assume that this is largely achieved by the
end of the summer. As a practical matter, this should allow the
pace of social activity to pick up over the summer and then
return to normal levels by the fall. Moreover, a pent-up
demand for vacations, family get-togethers, live sports and
other recreational activities as well as medical and dental visits
could lead to above-normal levels of consumption in these
areas in late 2021 and early 2022.
These activities could also be supplemented by the impact of
fiscal stimulus and, potentially, an infrastructure bill in 2021,
depending on the ability of the incoming administration to get
its policy priorities through Congress. It should, however, be
noted that even divided government in Washington would likely
result in very significant budget deficits in 2021 and 2022.
Employment should generally follow the pattern of GDP, with
small job gains over the next six months and then accelerating
payroll increases in the most affected industries over the rest
of 2021 (Exhibit 1a). We expect that total payroll employment
will regain its pre-pandemic peak by the third quarter of 2022
(Exhibit 1b). Very low net migration combined with baby-boom
retirements should slow the rebound in the labor force, and we
expect the unemployment rate to fall below 5% by early 2022
and to the Fed’s long-run projection of 4.1% by early in 2023
(Exhibit 1c).
2 T H E IN V ES T MEN T O UTL O O K F O R 2 02 1
THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
The pace of the recovery should differ across GDP growth, jobs and inflation.
Exhibit 1a: Real GDP Exhibit 1c: Unemployment rate
BILLIONS PERCENT
$20,500 14%
$20,000 12%
$19,500 Peak 10%
$19,000
8%
$18,500
6%
$18,000
Peak
4%
$17,500
$17,000 2%
$16,500 0%
Mar '19 Sep '19 Mar '20 Sep '20 Mar '21 Sep '21 Mar '22 Sep '22 Mar '19 Sep '19 Mar '20 Sep '20 Mar '21 Sep '21 Mar '22 Sep '22
Source: Bureau of Economic Analysis, J.P. Morgan Asset Management. 4Q20-4Q22 Source: Bureau of Labor Statistics, J.P. Morgan Asset Management. 4Q20-4Q22 are
are J.P. Morgan Asset Management forecasts. Data are as of November 30, 2020. J.P. Morgan Asset Management forecasts. Data are as of November 30, 2020.
Exhibit 1b: Payroll employment Exhibit 1d: PCE inflation
THOUSANDS PERCENT
155,000 3.0%
Peak
2.5%
150,000
Peak
2.0%
145,000
1.5%
140,000
1.0%
135,000
0.5%
130,000 0.0%
Mar '19 Sep '19 Mar '20 Sep '20 Mar '21 Sep '21 Mar '22 Sep '22 Mar '19 Sep '19 Mar '20 Sep '20 Mar '21 Sep '21 Mar '22 Sep '22
Source: Bureau of Labor Statistics, J.P. Morgan Asset Management. 4Q20-4Q22 are Source: Bureau of Economic Analysis, J.P. Morgan Asset Management. 4Q20-4Q22
J.P. Morgan Asset Management forecasts. Data are as of November 30, 2020. are J.P. Morgan Asset Management forecasts. Data are as of November 30, 2020.
Inflation should also recover in line with the economy. Wage Washington policy makers will be satisfied with such an
growth should be slow over the next few months but then outcome or whether, by pursuing additional efforts to stimulate
accelerate in the second half of 2022. This, combined with a demand in an economy with structural supply issues, they
shortage of airline seats, hotel beds, restaurant tables and, finally achieve their desired higher inflation rate. It should be
eventually, apartments to rent, could push inflation (as noted, however, that while such an outcome would have been
measured by the consumption deflator) above 2% in the a blessing in a recessionary economy, it could be a curse in an
second half of 2021 and keep it there in 2022 (Exhibit 1d). economy close to full employment. Higher inflation, and the
After a post-pandemic services consumption surge, economic higher interest rates that would follow in its wake, could make
growth should, once again, slow later in 2022, and economic it very difficult to service the enormous debt accumulated
conditions may well begin to look remarkably similar to those during the pandemic or support the more elevated asset prices
that prevailed in 2019: slow growth, relatively low inflation and that prevail today.
low interest rates. A key question is, at that point, whether
J.P. MORGAN ASSE T MA N A G E ME N T 3
THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
WASHINGTON POLICY: THE IMPLICATIONS OF Although divided government provokes thoughts of gridlock
DIVIDED GOVERNMENT and acrimony, it should be remembered that historically it is
the most common configuration of government. Indeed, the
Although politics was a focal point for markets in 2020, policy U.S. has seen divided government approximately 62% of the
will be more important in 2021. While control of the Senate time since World War II. It should also be noted that over time
depends on two runoff elections in Georgia, a best-case the economy has continued to grow and the stock market has
scenario for the Democrats would be a 50-50 tie with the vice reached new heights, regardless of political configuration.
president providing tie-breaking votes. This suggests less fiscal
stimulus than would have been the case in a “Blue Wave”
scenario.
The most eagerly anticipated policy item is a new fiscal
INTERNATIONAL ECONOMY: A SHOT AT A
package to bolster the economic recovery. Although both NEW BEGINNING
parties have been at an impasse for months, with the election Outside of the U.S., 2020 was also a year of endings and
behind us, the two sides should be able to compromise on a tentative new beginnings. The pandemic-induced social
roughly $1 trillion package by the first quarter, with an distancing measures ended a 10-year global expansion. While
emphasis on supporting unemployed workers and small a recovery began in the third quarter, it has been uneven by
businesses through the rest of the pandemic and helping sectors and regions so far. This will likely persist into the first
facilitate the distribution of a vaccine. quarter of 2021, as the world remains hostage to the twists and
Even with less fiscal largesse in 2021, the budget deficit could turns of the pandemic. The pandemic will continue to pressure
well exceed $2 trillion following a deficit of over $3.1 trillion spending on services more than goods and hurt countries
in fiscal 2020. In addition, a 50-50 Senate or Republican outside of North Asia more than ones within the region, given
control of the Senate would likely preclude tax increases on less successful public health policies elsewhere.
corporations or individuals in 2022, as would likely have However, as 2021 progresses the global economy has a shot
occurred with full Democratic control. This does increase the at a true new beginning, with a more comprehensive recovery
risk of a fiscal crisis toward the middle of the decade as the across sectors and regions than has been the case in 2020.
federal government struggles to finance a now much-larger As COVID-19 vaccines are distributed throughout the year,
debt in the face of higher interest rates. the global recovery should broaden and gain strength. In
Beyond this, a divided government likely tempers the ability particular, economic growth should surge in the second half
of the new administration to implement campaign proposals. of the year, as pent-up demand is unleashed, particularly
Any infrastructure package will rely on compromise between benefiting the services sector and regions outside of North
Democrats and Republicans, and the price tag could be Asia. In addition, a Biden administration implies greater foreign
smaller. Anti-trust legislation against the largest technology policy visibility going forward, putting less downward pressure
companies has been a bipartisan issue, so Congress may on global trade than was the case during the last two years of
continue to pursue that. Significant changes to the Affordable the 2010s expansion. This should benefit exporters around the
Care Act are unlikely. world such as Asia, Europe and Latin America. As a result,
all major regions should see above-average growth in 2021
Without the full cooperation of Congress, President-elect Biden
(Exhibit 2).
may have to lean more heavily on executive orders instead.
The Executive Branch can wield more power in both regulation As services demand picks up throughout the year, services
and foreign policy, which may mean re-regulation in the prices and overall inflation should normalize from still-
energy sector, rejoining the Paris Climate accord and possibly depressed levels. However, this should occur gradually,
more financial re-regulation. In foreign policy, a tough but permitting major central banks around the world to keep policy
more predictable stance on China is likely, as well as accommodative. As 2021 comes to a close, we may see some
re-engagement on trade and international issues with the emerging market (EM) central banks begin to raise rates, but
U.S.’s allies. developed countries like Europe and Japan will likely maintain
short-term rates at or below zero for years to come. With
regard to fiscal policy, we may see more differentiation in 2021
between countries that have limited fiscal space and those that
have deep pockets. Indebted EM countries may start
4 T H E IN V ES T MEN T OUTL O O K F O R 2 02 1
THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
implementing fiscal austerity measures in order to prevent Exhibit 3: With a stronger international economy, the
a revolt from investors, restraining the recovery in a region like U.S. dollar should weaken
LATAM. On the other hand, Europe and Japan have the REAL GDP GROWTH: U.S.-INTERNATIONAL (5-YEAR MOVING AVERAGE);
U.S. DOLLAR: 100 = 1995
opportunity to take advantage of low rates to provide more
fiscal support. In fact, eurozone countries have already 1.5% 130
U.S. - International GDP Growth (LHS)
suspended their fiscal constraints for 2021, leaving the door 1.0% U.S. Dollar (RHS) 125
open to as much support as needed.
0.5% 120
Exhibit 2: All major regions should experience above- 0.0% 115
average growth in 2021
REAL GDP, YEAR-OVER-YEAR % CHANGE -0.5% 110
-1.0% 105
10% Last cycle 2019 2020 2021
8%
8% 7% -1.5% 100
6% 5% 5% 5% -2.0% 95
4% 4% 4%
3% 2% -2.5% 90
2% 2% 2%
2% 1% 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020
1%
0%
0% Source: J.P. Morgan Global Economic Research, J.P. Morgan Asset Management. U.S.
-2% dollar: J.P. Morgan Global Economic Research real broad effective exchange rate
-2%
(CPI). Data are as of November 30, 2020.
-4%
-4%
-6% -5%
-8% -8%
-8%
-10%
Global EM Asia Europe LATAM Japan
FIXED INCOME: RATES IN REFLATION
Source: IMF, J.P. Morgan Asset Management. Last cycle defined as the average of As market volatility spiked due to the pandemic-induced social
the period from 2010 to 2019. Europe refers to the European Union. Data are as of distancing recession, the Federal Reserve (Fed) provided
November 30, 2020.
extensive monetary support through interest rate cuts, new
Thinking beyond the aftermath of COVID-19, the global liquidity facilities and large-scale asset purchases. Equally
economy has a shot at a more diversified new cycle ahead. effective, fiscal relief in the form of the CARES Act provided
The last one was characterized by U.S. growth outperformance much needed financial support to millions of Americans and
versus the rest of the world, as the U.S. economy resolved the businesses experiencing financial hardship. Together, monetary
imbalances that led to the Global Financial Crisis (GFC) and and fiscal policy helped deliver substantial aid to a very weak
moved on. Other regions, meanwhile, had additional economy in the first half of 2020 and sustain the early stages
imbalances to deal with post-GFC, like the sovereign debt of the recovery through the second half of the year.
crisis in Europe and the deflating of the commodity bubble in Looking to 2021, we believe that fiscal policy will need to do
emerging markets. This time around, the world is entering this the heavy lifting in supporting growth given the limited scope
new cycle on more even footing. In fact, there was a silver of further monetary policy action. It should be emphasized,
lining of the pandemic for Europe: a closer fiscal union with however, that asset purchases provide Congress with
the agreement on a European Recovery Fund. In addition, meaningful room to provide further stimulus. As shown in
emerging markets are now less susceptible to booms and busts Exhibit 4, the Federal Reserve increased its Treasury holdings
related to China, as the country continues to transition to by $2.3 trillion in fiscal year 2020, effectively absorbing 55% of
higher quality, less leverage-driven growth. the total growth in public debt outstanding last year. Moreover,
As a result, this new cycle should be characterized by a lower steady Treasury purchases of roughly $80 billion per month
U.S. dollar (Exhibit 3), a process that has begun as 2020 comes could lead to close to another $1 trillion in Treasury financing
to a close, but that has further room to run in the year ahead in 2021, footing some of the bill for additional stimulus early
and beyond. This dynamic should be beneficial for U.S.-based next year.
investors investing in international assets.
J.P. MORGAN ASSE T MA N A G E ME N T 5
THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
Exhibit 4: Change in federal debt held by the public and while maximizing portfolio yield. As shown in Exhibit 5, while
Federal Reserve holdings of U.S. Treasury debt spreads have narrowed to near historical tights across core
USD BILLIONS, FISCAL YEARS sectors, yields remain attractive across emerging markets and
$4,500 4,218
high yield, and further room for spread compression can help
$4,000
Change in debt held by the public bolster price returns in these sectors next year.
Change in public debt ex-Fed
$3,500 Change in Fed TSY holdings
Exhibit 5: Spread to worst across fixed income sectors
$3,000 2,661*
BASIS POINTS, PAST 15 YEARS, WEEKLY
$2,500 1trn in fiscal
$2,000 1,742 stimulus 1200 Axis 2500
1,474 15-year range
$1,500 — 2020 YTD peak
1,109 1,153 1,051 1,084 1,051
Current
768 1000
$1,000 702 797 2000
498
$500 237 206 337
800
$0 673 1500
-$500 619
600 538
-$1,000 1037
'06 '07 '08 '09 '10 '11 '12 '13 '14 '15 '16 '17 '18 '19 '20 '21 400 1000
375 378
400 351
Source: Congressional Budget Office (CBO), Federal Reserve, U.S. Treasury, J.P. 325 301
Morgan Asset Management. Fiscal years begin October 1 and end September 30. 437 500
200 176 180
*FY2021 estimate includes an additional estimate of $1 trillion in fiscal stimulus. 117 103 101
Baseline forecasts are from CBO and project change in debt held by the public of 56 37
$1.6 trillion in FY2021. Federal Reserve U.S. Treasury holdings are as of September 0 0
30 of each year and include bills. Data are as of November 30, 2020. Treasuries Municipals IG Corps MBS ABS EMD ($) EMD (LCL) EM Corp. High Yield
Source: Bloomberg Barclay’s, FactSet, J.P. Morgan Credit Research, J.P. Morgan
However, the Fed will have to adapt its strategy both to Asset Management. Indices used are Barclay’s except for emerging market debt:
the degree of further fiscal support and the possibility of a EMD ($): J.P. Morgan EMIGLOBAL Diversified Index; EMD (LCL): J.P. Morgan GBI-EM
Global Diversified Index; EM Corp.: J.P. Morgan CEMBI Broad Diversified. Spread to
successful vaccine rollout in the first half of 2021, as these worst indicated is the difference between the yield-to-worst of a bond and yield-to-
forces combined could prove both more stimulative and more worst of a U.S. Treasury security with a similar duration. All sectors shown are
spread to worst except for Treasuries and Municipals, which are based on yield-to-
inflationary than expected, complicating Fed policy decisions. worst. EMD (LCL) spread to worst is calculated using the index yield less the YTM on
the 5-year U.S. Treasury bellwether index. Data are as of November 30, 2020.
In August, the Fed adopted a new “average inflation targeting”
strategy, stating an intention to allow inflation to run above 2%
Broadly, we still think core bonds provide a degree of equity
(as measured by the personal consumption deflator) for some
diversification and therefore should remain a core allocation
time to compensate for recent undershoots. In the forward
within portfolios. As a complement to that core position,
guidance delivered at the September meeting, the Fed stated
investors should look to gradually shorten portfolio duration
that it expected to maintain a near-zero federal funds rate until
while identifying companies and countries with strong credit
such time as inflation had reached 2% and the economy had
fundamentals, balancing a gradual improvement in the
attained “maximum employment.”
economy and inflation while still generating income.
While the Fed has not explicitly said what “maximum
employment” entails, it is reasonable to infer that it
encompasses its 4.1% long-term expectation for the
unemployment rate. Since we do not expect this to be achieved U.S. EQUITIES: VALUATION CHALLENGES AND
until early in 2023, the Fed appears to have tied its own hands VALUE OPPORTUNITIES
with regard to short-term interest rates. However, if inflation 2020 has been a remarkable year for the U.S. equity market.
does run hotter than expected, it could well taper its Treasury After plunging by 34% from peak to trough in the first quarter,
purchases, steepening the yield curve by pushing long-term the market staged its fastest rebound in history, hitting a series
yields higher. of new all-time highs during the second half of this year. A large
For fixed income investors, very low bond yields in the short part of this had to do with the fiscal and monetary policy
run will make it difficult to generate income, while rising response, but also a willingness on the part of investors to look
long-term rates are likely to inflict capital losses. Given this, through the pandemic and any associated weakness in the
investors will need to consider greater exposure to spread economy and corporate profits. However, with the S&P 500 up
products like credit, particularly upper tier high yield, and 14% year-to-date through the end of November, investor
emerging market debt (EMD) in order to minimize duration risk attention has begun to focus on what might be in store for 2021.
6 T H E IN V ES T MEN T OUTL O O K F O R 2 0 2 1
THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
From an earnings perspective, a strong bounce seems likely. Exhibit 7: P/E ratios could fall from elevated levels as
Consensus estimates for 2021 S&P 500 earnings currently interest rates rise
stand at $166 per share, which implies 38% growth for the S&P 500 INDEX: FORWARD P/E RATIO
year as a whole. This does not seem completely unreasonable, Valuation measure Description Latest 25-year avg.*
Std. dev. over-/
under-valued
and as a result, profits could very well hit a new all-time high P/E Forward P/E 21.80x 16.54x 1.64
CAPE Shiller's P/E 32.93 27.45 0.90
by the end of next year. A large part of this view on the level of Div. Yield Dividend yield 1.66% 2.05% 1.17
P/B Price to book 3.68 2.99 0.94
2021 earnings is driven by stronger than expected economic P/CF Price to cash flow 15.52 10.78 2.36
EY Spread EY minus Baa yield 1.39% 0.05% -0.67
growth in 4Q20, as this should translate into a higher dollar
26x
value of earnings at the start of 2021 than we had previously
24x
forecast. That said, we are a bit more pessimistic than
consensus on the pace of earnings growth, as better than 22x Nov. 30, 2020: 21.80x
expected earnings during the back half of 2020 may limit the 20x
+1 Std. dev.: 19.75x
magnitude of profit growth going forward (Exhibit 6). 18x
Exhibit 6: Earnings should bounce strongly in 2021 16x 25-year average: 16.54x
S&P 500 EARNINGS PER SHARE, INDEX ANNUAL OPERATING EARNINGS 14x
-1 Std. dev.: 13.33x
12x
$200
Consensus analyst estimates
$180 Earnings recessions 10x
$160 8x
'95 '97 '99 '01 '03 '05 '07 '09 '11 '13 '15 '17 '19
$140
Source: FactSet, FRB, Robert Shiller, Standard & Poor’s, Thomson Reuters, J.P.
$120
Morgan Asset Management. Price to earnings is price divided by consensus analyst
$100 estimates of earnings per share for the next 12 months as provided by IBES since
December 1995, and FactSet for November 30, 2020. Current next 12-months
$80
consensus earnings estimates are $166. Average P/E and standard deviations are
$60 calculated using 25 years of IBES history. Shiller’s P/E uses trailing 10-years of
inflation-adjusted earnings as reported by companies. Dividend yield is calculated as
$40
the next 12-months consensus dividend divided by most recent price. Price to book
$20 ratio is the price divided by book value per share. Price to cash flow is price divided
by NTM cash flow. EY minus Baa yield is the forward earnings yield (consensus
$0 analyst estimates of EPS over the next 12 months divided by price) minus the
'88 '91 '94 '97 '00 '03 '06 '09 '12 '15 '18 '21
Moody’s Baa seasoned corporate bond yield. Std. dev. over-/under-valued is
Source: Compustat, FactSet, Standard & Poor’s, J.P. Morgan Asset Management. calculated using the average and standard deviation over 25 years for each
Historical EPS levels are based on annual operating earnings per share. Earnings measure. Data are as of November 30, 2020.
estimates are based on estimates from FactSet Market Aggregates. Past
performance is not indicative of future returns. Data are as of November 30, 2020. We have received lots of questions about whether the recent
outperformance of value relative to growth is the beginning of
Turning to valuations, it would be surprising to see further a broader rotation in the market. While the coming year will
multiple expansion. Rather, next year looks set to be likely be characterized by an ebb and flow between growth and
characterized by multiples that gradually decline on the back value, it seems reasonable to argue that more cyclical assets
of stronger earnings. We agree with the idea that lower will outperform. Another round of fiscal stimulus, coupled
interest rates do support higher multiples — as lower discount with accommodative monetary policy and the potential for
rates increase the value of future earnings — but as the world widespread vaccine distribution in the second half of 2021,
returns to normal we expect long-term interest rates will move all support the narrative of accelerating economic activity
higher and exert modest downward pressure on equity and rising inflation next year. While this may translate into
valuations (Exhibit 7). There is also a sectoral argument: will mid-single digit gains at the index level, there will likely be a
investors continue to pay such elevated multiples for mega-cap greater opportunity beneath the surface. We still like growth
growth stocks that have benefited from the pandemic, even as stocks in the long run, but the clouds do seem to be breaking
that pandemic draws to a very welcome close? The answer is over cyclicals and small caps as we round the bend into 2021.
probably not, and with these names commanding such a large
share of the indices, the path of least resistance for valuations
is lower.
J.P. MORGAN ASSE T MA N A G E ME N T 7
THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
INTERNATIONAL MARKETS: REAL WORLD CATCHING results, but has much further room to run once a timeline for
UP TO THE VIRTUAL WORLD global vaccine distribution becomes clearer. Thinking beyond
the COVID-19 aftermath, international equity markets also offer
Like the economy, global earnings began a tentative and exposure to the next decade’s big growth stories. This includes
uneven recovery in the third quarter of 2020. Earnings growth the emergence of the EM middle class, which benefits a
has been strong in technology, communication services and broad swath of sectors that can take advantage of shifting
e-commerce — all companies benefiting from the shift to the consumption patterns, as well as EM technological innovation,
virtual world. On the other hand, cyclical sectors like energy, both of which benefit markets in EM Asia in particular.
financials, industrials and materials have seen the biggest Companies in Europe also offer access to the EM consumer
earnings contractions. As the global recovery gains steam theme through leading consumer discretionary companies.
throughout 2021, it is precisely the “real world”-geared sectors In addition, European markets can offer investors access to
that should see the biggest bounce-back in earnings growth. growing themes like a focus on climate change policy and
These nuances between sectors help to explain regional health care innovation.
differences in equity performance shown in Exhibit 8. Cyclical The COVID-19 shock has created a better entry point for
sectors have the largest representation in EMEA, Latin investing in the global recovery and positioning for the next
America, Japan and Europe, which are precisely the regions cycle’s global themes. The MSCI ACWI ex-U.S. discount to the
that have only recovered part of their COVID-19-related losses. U.S. now sits at 23% versus the 20-year average discount of
EM Asia has significantly outperformed, given its faster 13% (measured by the forward price-to earnings ratio) and
domestic recovery, as well as its heavier weighting toward provides a 2.8% dividend yield compared to 1.7% for the S&P
technology, which has generally benefited from the pandemic 500. In addition, the expected depreciation of the U.S. dollar
and which accounts for 21% of the EM Asia equity index. should provide an additional currency boost to total returns.
Exhibit 8: Cyclical regions have lagged in the pandemic year,
but are likely to lead in the recovery
CYCLICALS AS % OF INDEX MARKET CAPITALIZATION, RETURNS ARE
TOTAL RETURNS IN USD
ALTERNATIVES: ADDING INCOME AND
DIVERSIFICATION TO CHALLENGED PORTFOLIOS
110% Cyclicals 2020 YTD 2009 104%
Many investors are hungry for income but are hesitant to take
90%
79% 80% on the required equity risk. At the same time, expected returns
74%
70% 63%
68% 68% for risk assets continue to be pressured lower, yet return
56%
49%
54% 54% targets remain unchanged. As investing in traditional asset
50%
35%
42%
37% classes becomes an increasingly challenging way of generating
30% 26%
20%
robust returns and income, alternative asset classes have
14%
10%
6%
11% emerged as a potential solution.
10% 5%
1%
Real estate and infrastructure are effective ways of generating
-10%
-12% income and diversifying portfolios. Within real estate, industrial
-30% -23% properties look set to benefit from the continued growth and
S&P ACWI EM Asia Europe Japan EM EM EM
500 ex-U.S. LATAM EMEA adoption of e-commerce, while the success of retail properties
will depend on the reopening of the economy, as well as tenant
Source: FactSet, MSCI, Standard & Poor’s, J.P. Morgan Asset Management. All return
values are MSCI Gross Index (official) data, except the U.S., which is the S&P 500. mix. Turning to infrastructure, there is a clear need for an
Cyclicals include the following sectors: Consumer Discretionary, Financials, uptick in investment spending, as shown in Exhibit 9.
Industrials, Energy and Materials. Data are as of November 30, 2020.
Furthermore, we expect an infrastructure bill will be part of a
Going forward, investors should ask themselves: 1) Which broader stimulus package next year, but believe it will focus
markets will be more geared toward 2021’s global recovery? on more traditional assets like roads, rails and other forms
and 2) Which markets may be more geared toward the next of transportation.
cycle’s themes? Alternative financial assets like private equity and private
Once investors feel more confident about the global recovery, credit can help address the return challenge faced by many
cyclical regions should outperform more defensive ones. This investors. In the world of private equity, financing is far more
suggests strong performance ahead for Europe, Japan and readily available than was the case in the aftermath of the GFC,
non-North Asia emerging markets. This catch-up began in suggesting that funds have access to the capital needed to get
November as investors digested the very first vaccine trial deals done. Part of this is a function of the continued growth in
8 T H E IN V ES T MEN T OUTL O O K F O R 2 0 2 1THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
the private debt markets, as these lenders have emerged as a least in part, of these broad trends: cyclical sectors would
viable substitute for traditional bank lending. That said, private outperform, bond yields would rise and the dollar would
markets continue to struggle with some of the same issues as weaken. Now, with a number of highly viable vaccines
the public markets, as high-quality assets look expensive and potentially arriving much sooner than many initially
cyclical assets look cheap. anticipated, it appears that this shift has started to occur. The
ultimate question investors must ask, therefore, is: how long
Exhibit 9: Average annual infrastructure need does it typically take for this shift to occur, and is this most
USD TRILLIONS, CONSTANT 2017 DOLLARS
recent rotation durable or another head-fake?
$4.0
$3.6
During the three pre-pandemic economic cycles of the last 30
$3.5
$0.5 years — in this case, measured as spikes in the unemployment
$3.0 rate — it is possible to glean some general ideas about
$0.5
$2.5
performance of major market indicators around periods of
stress. The stock market is generally forward-looking, for
$2.0 $1.1
example, and typically bottoms out before the unemployment
$0.1
$0.1
$1.5 rate peaks; but value stocks typically bottom roughly a month
$1.0 $0.4 before growth stocks (four months versus three), with
$0.5
financials and energy typically hitting their lows five months
$0.9
before a peak, compared to technology’s three months and
$0.0
Annual
Roads Rail Ports Airports Power Water Telecom Total health care’s two. For investors looking at overseas assets,
spending,
% of GDP
1.0 0.4 0.1 0.1 1.3 0.5 0.6 4.0 the dollar has historically strengthened for roughly six months
Source: McKinsey Global Institute, J.P. Morgan Asset Management. Data is based on
following a spike in the unemployment rate. For investors
availability as of November 30, 2020. looking at the bond market, both 10-year and 30-year yields
took eight months after a peak to begin a move higher.
Two of the biggest challenges when it comes to alternatives
All of these things help to inform the asset allocation view for
have to do with access and liquidity. While these headwinds are
the duration of 2021. Assuming that a vaccine is indeed close
beginning to abate, every investor will not have access to the
at hand, investors can begin to think about where to rotate,
full suite of opportunities described. As such, we recognize the
and when.
importance of being able to access these themes of
diversification, income and return enhancement through a For equities, investors would likely do well to begin a rotation
number of channels. On the more liquid side, equity strategies into cyclical assets as soon as possible, with a particular
that use option overlays and absolute return fixed income focus on financials, though with an expectation of broad
strategies are two ways of effectively managing stock market outperformance alongside the cyclical upswing. Depending
volatility and interest rate risk, while things like REITs can on risk tolerance, investors may also consider rotating into
provide inflation protection and more robust streams of international assets, though it should be said that until the
income. At the end of the day, however, any alternatives pandemic is over, the U.S. dollar could maintain its strength.
allocation should be outcome oriented; investors first need to When looking overseas, European and Japanese markets should
identify the problem they are trying to solve, and then benefit from the cyclical upswing, while emerging markets,
determine what type of investment is appropriate. especially in Asia, will contribute to long-term portfolio growth.
Finally, within bonds, investors should continue to position
themselves in higher-quality, higher-duration assets for a
ballast in portfolios, but should recognize that longer-end
ASSET ALLOCATION: FINDING THE WINNERS AS THE yields will begin to drift higher once the remaining slack in the
PANDEMIC FOG CLEARS economy is removed, leading to a reversal in this sentiment,
For the better part of 2020, asset allocation decisions have perhaps as soon as the back half of next year.
focused on the sectoral impact of the pandemic and the race All told, the investing landscape is both complex and changing.
to produce a vaccine to end it. Until vaccines are both With the exact timing of vaccines still in flux, investors must be
manufactured and widely distributed, the worst impacted parts positioned for a fundamental shift in sentiment, and therefore
of the economy — travel, leisure, hospitality and retail — will target allocation, at nearly any moment. For this reason, the
lag, and in the face of uncertainty, bond yields will stay low and best way to approach asset allocation is to broadly diversify
the dollar remain strong. However, the distribution of a safe and work with active managers.
and effective vaccine should be a catalyst for a reversal, at
J.P. MORGAN ASSE T MA N A G E ME N T 9THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
INVESTING PRINCIPLES: REFOCUSING ON THE With that in mind, we note what can be added to an investor’s
LONG RUN choice set to build stronger portfolios through valuation
opportunities, alpha generation and differing income streams.
Times of stress often lead investors to focus too intently on the
short run. Consequently, we believe it is particularly important To start, high quality fixed income will still act as a ballast in
at the end of the most-stressful year to revisit investing portfolios, even with low rates. Next, a healthy allocation to
principles that hold across market environments. equities is as relevant as ever, though a focus on valuations is
necessary. While U.S. equities are home base for many
Getting invested is still key. While cash returns are extremely investors, looking to cheaper parts of the market such as value
low, an extraordinarily high quantity of cash — almost $13 and cyclical sectors makes sense as the economy continues to
trillion — sits on the sidelines. While significant cash holdings recover. The valuation opportunities abroad are also
often feel comfortable to investors since they are not subject compelling. International equities are cheaper and have
to losses in nominal value, we know that inflation erodes potential for higher returns than their U.S. counterparts. Some
purchasing power of cash holdings every year (Exhibit 10). of the most exciting growth and alpha-generating opportunities
More importantly, sizable cash allocations, by definition, will come from emerging markets. In particular, Asia and other
reduce the potential for growth from the historically superior selective EM countries may have the ability to generate
returns from long-term assets. substantial alpha through strong active management. Lastly,
Exhibit 10: Returns on cash are low and are expected to income will continue to be top of mind as rates stay low. For
stay that way many investors, the pivot to alternatives will provide new
INCOME EARNED ON $100,000 IN A SAVINGS ACCOUNT* sources of income and added diversification benefits.
$7,000 Lastly, a trend we expect to continue is the adoption of
Income generated in a savings account
Income needed to beat inflation sustainable investing methods. This has become a truly multi-
$6,000 Income needed to beat education inflation
Income needed to beat medical care inflation faceted space allowing investors to contribute to goals beyond
$5,000 2006: $4,510 just maximizing returns and controlling risk. In addition, a
commitment to sustainable investing methods can allow
$4,000 investors to get ahead of trends in both innovation and
Current:
$3,000
$2,888 regulation, which will be important in determining winners
and losers in the decade ahead.
$2,000
Despite generally positive market returns, few will lament the
Current: $1,626
$1,000 Current: $1,329
Current:
end of the pandemic year of 2020. 2021 should be the year of
$210
the vaccines and, as such, will give all of us a new start on a
$0
'94 '96 '98 '00 '02 '04 '06 '08 '10 '12 '14 '16 '18 '20 hopefully long economic expansion. However, for investors,
Source: Bankrate.com, BLS, FactSet, Federal Reserve System, J.P. Morgan Asset
generating strong returns in the decade ahead will require
Management, *Savings account is based on the national average annual percentage a renewed commitment to basic investment principles,
rate (APR) on money-market accounts from Bankrate.com from 2010 onward.
Prior to 2010, money market yield is based on taxable money market funds return
particularly given an altered economic landscape, elevated
data from the Federal Reserve. Annual income is for illustrative purposes and valuations and the policy changes that have emanated from
is calculated based on the average money market yield during each year and the year of the pandemic.
$100,000 invested. Current inflation is based on September 2020 Core CPI,
education inflation and medical care inflation. Current savings account is based on
the October 2020 national average annual percentage rate (APR) on money-market
accounts. Past performance is not indicative of comparable future results. Guide to
the Markets – U.S. Data are as of November 30, 2020.
Staying diversified is a second principle that applies with even
greater relevance in 2021. With the post-COVID-19 world yet to
emerge, a well-balanced, diversified approach to investing is
warranted and, over time, has shown to be a winning strategy
for long-run investors.
10 T H E IN V ES T MEN T O UTL O O K F O R 2 02 1THE INVESTMENT OUTLOOK FOR 2021: INVESTING IN THE 2020s: TAKE TWO
AUTHORS
Dr. David Kelly, CFA David Lebovitz
Managing Director Executive Director
Chief Global Strategist Global Market Strategist
Gabriela Santos Samantha Azzarello
Executive Director Executive Director
Global Market Strategist Global Market Strategist
Jordan Jackson Jack Manley
Associate Vice President
Market Analyst Global Market Strategist
Meera Pandit, CFA
Vice President
Market Analyst
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