Q4 Market Commentary – January 9, 2021

If a fortune teller had predicted on New Year’s Day 2020 that in the coming year we would have the worst global pandemic since the Spanish flu of 1918, that the economy would fall sharply, and that unemployment would reach 15%, the average investor might have decided to put their money under the mattress for the year.  If, on top of all that, the fortune teller said they knew for certain that Democrats would win the presidency and control of Congress, the average investor would have been convinced that we were in for a decline in stocks.  (In fact, in a poll of 645 investors conducted in late 2019 by Morgan Stanley, an overwhelming 78% said they would expect equities to decline if a Democrat won the presidency).

The fortune teller would have been right, but the average investor would have been wrong.  Despite a sharp drop in the markets in February/March, the global stock markets quickly rebounded and were up double digits in 2020.  All asset classes increased for the year – stocks, bonds, even gold.  And after Biden was elected, the S&P 500 index of US stocks jumped 11% in November.  The stock market has continued to rise in the days following the vote in Georgia that gave Democrats control of the Senate in January.

One of the main reasons for the rapid market rebound in 2020 was that policymakers seem to have gotten it right.  The Federal Reserve immediately stepped in and promised almost unlimited monetary support.  Then Congress provided stimulus that included checks to consumers and forgivable loans to small businesses.  Personal disposable income actually rose over $1 trillion from March through November 2020 compared to the same period in 2019, despite the higher unemployment rate, because of the government stimulus measures.  Markets were calmed and reacted favorably as the economy climbed back toward run-rate growth levels. 

One of the few asset classes that declined for the year was real estate (measured by REITs).  The Dow Jones US Select REIT Index was down 11% for the year.  Especially hard hit were commercial real estate sectors such as retail and offices.  We would advise continued caution about REITs – especially in the office sector – despite current low prices and high dividend yields.  Many companies are already firming up plans to shrink their office footprints as working from home has become a viable option for many.  This impact can take some time to materialize due the long-term nature of office leases, and we suspect a prolonged decline in the office real estate sector is not out of the question.[1] 


In the fourth quarter, stock markets continued their steady climb upward off March lows.  During the quarter, large scale vaccine trials showed them to be highly effective, developed governments added more stimulus, and economies showed continued improvement. 

Small cap stocks surged this quarter as confidence grew that the broad economy would stage a strong comeback in 2021.  The Russell 2000 index of small cap stocks had total returns of over 30% in the fourth quarter, quickly reversing losses from earlier in the year and outperforming the Russell 1000 index of large cap stocks by over 17% to end the year with comparable full year total returns.  Emerging markets were another bright spot, as the MSCI Emerging Market index gained almost 20% in the quarter.

International stock returns were similar to US stock returns for the fourth quarter, but still significantly lagged for the full year, with the MSCI EAFE international index total return just 8% in 2020 compared to 18% for the US stock’s S&P 500 index.


Bonds provided steady returns in 2020 as rates declined.  Most of the significant returns from bonds occurred during the first half of the year, when the broad-based Bloomberg Barclays US Aggregate Bond Index was up 6.1%.  After interest rates had fallen, and stock markets began their long rebound, bonds gained only an additional 1.3% in the second half of the year.  Inflation-protected bonds (as measured by the Bloomberg Barclays TIPS Index) saw strong gains throughout the year, gaining 6% in the first half and 4.7% in the second half as inflation concerns increased. 

Looking ahead, rates have gotten so low that investors are receiving very little yield, and further gains from rate declines are likely limited at this stage.  Government bond interest rates declined sharply in the first quarter and then remained largely unchanged, with the 10-year Treasury holding steady at around 0.9%. 

Corporate bonds continued to indicate a calming trend since the crisis.  The riskiest high yield bonds started the year trading at just 3.5% higher than government treasuries and then spiked up to more than 10% higher in late March, but now have come back down to less than 4% higher than treasuries.


Our risk-hedging position in gold did quite well this year (up 25%) for a combination of factors including people seeking a safe haven, the dollar declining (making gold, which is denominated in dollars, cheaper in foreign markets), and low yields (making it relatively less expensive to hold gold). 

Other commodities have done much less well.  The broad-based S&P GSCI Commodity Index was still down over 24% year to date through September 30th, despite strong gains in the fourth quarter.  Oil prices, as measured by the spot price of Brent Crude Oil, saw modest recovery in the fourth quarter, rising from $42 per barrel on September 30th to $52 on December 31st.  However, it started the year at over $66 per barrel.

Looking Ahead

Last quarter, we said that we expected the trend of large cap stocks outperforming small cap stocks to regress to the mean, and indeed large cap stocks underperformed this quarter.  The speed of the small cap comeback was a surprise, however, as the relative outperformance of large cap stocks was made up in a single quarter.  Value stocks have continued to lag higher growth stocks, a trend that may not reverse as quickly, although as the economy comes back to normal they should also rebound.

With both houses of Congress now in Democratic hands, the market is confident that more stimulus is on the way.  Also, bipartisan priorities like infrastructure investment may finally be accomplished with President Biden’s support, which will positively stimulate the economy.  Both parties are in support of spending on roads, bridges, ports, airports, broadband capacity and other infrastructure projects, but that legislation was not prioritized while President Trump was in the White House and Mitch McConnell led the Senate. 

Other priorities we are likely to see realized under the current political leadership are support for states and municipalities, and retirement savings legislation.  Retirement rules will likely see an increase of the age for Required Minimum Distributions to 75, an increase in the “catch-up” contribution on 401(k)s for individuals over 60, and other incentives to help people save for retirement.

Still, with only the slight edge of having the Vice President as the tie-breaking vote in a 50%/50% senate that requires 60% for major legislation, some of the most ambitious Democratic plans are unlikely to be realized, including any significant tax legislation.  The US stock market seems to be regarding that as a “Goldilocks” (just right) scenario.

2020 proved once again how humbling the stock market can be.  Despite 2020 being a difficult year for the economy and a highly volatile one in the markets, it ended with most major asset classes gaining substantial ground – against all the odds.  If ever there was a year that showed the difficulty of market timing and the importance of staying with a long-term allocation, 2020 was it.  We don’t know what 2021 will bring, but as always we believe a carefully diversified portfolio, properly positioned to manage a full range of potential market risks, will help keep your financial plan on track regardless of what comes.


[1] This will not reflect an active allocation decision for Plum Street portfolios – we do not include any REIT-specific funds in our portfolios.