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As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300
December 31, 2020

In this strategy briefing…

As the year turns, many—if not most—of us are saying, “Good riddance to one of the worst years in recent history.” In my 35 years of observing markets, I can say I’ve never seen ... – The Wall Street DebriefRead more
... – Tom Lee's Equity StrategyRead more
After a historic rebound in 2020, the question investors are asking the most is are we heading into year-end correction? The short answer is I’m expecting equity markets to begin a correction, or at least ... – Technical StrategyRead more

FSInsight Investment Views

Near Term View: Stimulus, COVID-19 rollover, falling VIX point to rebound for Small-Caps
‘20 Target: 3,800 (YE P/E 19.7x · 2021 EPS $193)
Granny shots: GOOG, AAPL, CSCO, XLNX, GRMN, MSFT, MXIM, LEN, KLAC, MNST, OMC, GWW, INTC, LOW, AMZN, EBAY, TSLA, PYPL, AXP, BF/B, PM, NVDA, QCOM

The Wall Street Debrief

Vito J. Racanelli
Formerly a Senior Writer at Barron's, where he covered stocks, bonds, and financial markets.

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

As the year turns, many—if not most—of us are saying, “Good riddance to one of the worst years in recent history.” In my 35 years of observing markets, I can say I’ve never seen the like of it.

Put the market aside for a moment. Almost 20 million Americans have tested positive for the coronavirus (COVID-19), with over 340,000 dead. Around the world, the numbers are, respectively, 82 million and 1.8 million. Devastating. When is COVID going to release its grip on the world? Good question and look for some guidance below from Tom Lee, our head of research, who’s had an incredibly prescient track record.

And if you do look at the stock market, you have to remember the ulcerous stomach tension of March 2020, when the market fell 35% in a matter of days from the February high. America’s vaunted GDP crashed as many states, like New York and California, locked down their economies—more than once to stem the virus—to little avail. Then the US conducted a rancorous presidential election, with citizens much divided over both the response to COVID-19 and the economic way forward. The US is as riven as I have ever seen, and I voted for Gerald Ford way back when.

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

And yet, the stock market roared its way to a resilient and roughly 16% annual gain. The Standard & Poor’s 500 index was around 3738 with a few hours of trading left on Dec. 31, 2020, up from 3231 tsl12 months before. It hit an all-time high of 3756 Tuesday! Notable moments include the addition of Tesla (TSLA) to the SPX, after a huge run, from $84 to $715 per share, something few predicted.

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

The IPO market, after the WeWork IPO disaster in September of 2018, opened up again. Wow. If you are an investor lucky enough not to have contracted COVID then you have to be happy.

So now what? Tom Lee, our head of research, has recently published his equity roadmap for 2021. If you are a subscriber you can find the report and webinar replay on the website, but we will summarize below. Remember one thing, Tom nailed it in 2020. Don’t take our word for it. Nearby is a powerful tweet from a subscriber, Zack Guzman.

OK what about 2021? Tom Lee sees 2021 as a “Cycle reversion” year, much as 2020 was about “symmetry.” He expects reversions in the VIX, in profit margins, capital spending, and consumer demand, as well as in Value stocks vs. Growth stocks. The latter have outperformed the former for years. Lee expects the new year to be the start of a new economic expansion. Pent-up demand plus massive relief and celebration of an expected pandemic finale could lead to substantially stronger than expected GDP recovery. This is what the resilience of equities in 2020 seems to suggest.

As we have been saying, the Epicenter (aka Cyclical) profit margins will likely outperform consensus in 2021-2022 due to massive cost re-engineering this year. Moreover, real interest rates are -6.0% in 2021-2022, the lowest in more than 60 years. This looks like a massive tailwind for asset heavy companies and best time to outperform Growth. “You gotta be cyclical and the profit margins story will quell doubts,” Tom Lee says.

Volatility is seen declining in 2021-2023, with VIX sinking below 20, which history shows is a major risk-on signal for Cyclicals (aka Epicenter) with 84% win-ratio. One note of caution is that we expect “a pretty big speed bump” in the 1H21, that the S&P 500 index could stall between Feb.-April and correct ~10% to 3,500 before surging into YE 2021 and our target of 4300. That’s based on a PE of 20.5X-21.0X 2022 EPS of $204-$210. Our top 3 favorite sectors are: Industrials, Consumer Discretionary and Energy. Tom’s long shot sleeper is Energy because of capital scarcity.

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

Restructuring and cost cutting will improve margins, and an expected continuation in the U.S. dollar drop will boost earnings per share. We see $141-$145 SPX EPS in 2020 and $177 in 2021, though that could be conservative. This is a solid backdrop if rates and inflation stay low. The acceleration of growth is due to the anticipated recovery in PMIs both US and globally.

As is the case any time with financial markets, plenty can go wrong and here are a few of many that Tom Lee has singled out: COVID-19 could mutate; election turmoil redux; vaccine doesn’t work; USD crashes; interest rates surge; sudden Biden health issues; and an IPO bubble; among others.

Bring on 2021!

signature of Vito J. Racanelli
Vito J. Racanelli, Managing Director, Senior Editor and Market Intelligence Analyst

Tom Lee's Equity Strategy

Tom Lee
Previously Chief Equity Strategist at J.P. Morgan from 2007 to 2014, top-ranked by Institutional Investor every year since 1998.

Santa Claus Here: SPX Up 1% Despite COVID Relief Bill Impasse

(COVID-19 remains a global crisis and we realize that many people need to keep up with COVID-19 developments, particularly since we are moving into the more critical stage (“restart economy”), so feel free to share our commentary to anyone who has interest.)

It was a relatively quiet final 2020 week of pre-New Year’s Eve holiday trading, but the Standard & Poor’s 500 index still managed about a 1 % rise to about 3738. Still, all investor eyes are on Washington, D.C. where the Senate is holding up another round of $2,000 coronavirus relief checks. It’s unclear when this will be resolved. (For more, see page 11.)

The House had passed, by unanimous consent, this larger payment, but the Senate Majority Leader Mitch McConnell wants to take up three issues simultaneously: (i) stimulus checks, (ii) election fraud and (iii) section 230 protecting tech companies from liability. Congress is running against the clock as the year ends and a recess approaches.

Trends in COVID-19 are still largely improving with the hotspots remaining along the coastlines and the Northeast (winter). Positivity rates are holding flat, but the true trend case numbers remain hard to discern given holiday closures. In fact, Texas reported a +10,000 increase in cases (see Point #2), but this is due to many counties reporting 3-4 days case backlog on Tuesday.

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

Additionally, the UK COVID-19 variant showed up for the first time in the US. The patient has no known travel history, so it seems to be a case of community transmission. There are now 17 nations reporting cases of this UK variant. This bears watching to see if the “attack rate” or the rate of transmission of this variant is meaningfully higher. If yes, it raises the importance of the pace of vaccinations.

Small caps have been hard hit in the past few days. The Russell 2000 has underperformed the S&P 500 by ~500 basis points, a sizable drop. I think this is mostly profit-taking because the conditions for a small-cap rally are intact: Stimulus checks = economic positive; COVID-19 rolling = risk-on; Santa Claus rally = risk-on; and – VIX index is falling = risk-on. I see small caps beginning to rally fairly soon.

STRATEGY: 67 stocks in the ‘Top 3’ sectors. Our data science team, led by tireless Ken, has put together the trifecta list of stocks, coming from what we view as the ‘top 3 sectors: Consumer Discretionary, Industrials and Energy. These are stocks on which there is consensus among myself, Brian Rauscher, head of global portfolio strategy and Rob Sluymer, our head of technical strategy.

Consumer Discretionary (30 stocks): AN, GM, F, HOG, GRMN, LEG, TPX, PHM, TOL, NWL, HAS, MAT, PII, MGM, HLT, MAR, NCLH, RCL, WH, WYND, SIX, DRI, SBUX, FL, GPS, LB, CRI, VFC, GPC, BBY

Industrials (28 stocks): AGCO, OC, ACM, WAB, EMR, GNRC, NVT, CSL, GE, MMM, IEX, PNR, CFX, DOV, MIDD, SNA, XYL, FLS, DAL, JBLU, LUV, MIC, KEX, UNP, JBHT, R, UBER, UHAL

Energy (9 stocks): HP, NOV, SLB, EOG, PXD, HFC, MPC, PSX, XEC

POINT 1: As of Tuesday, the COVID-19 daily cases came in at 185,549, up +3,887 vs 7D days ago. Texas had a massive backlog and saw daily cases jump to 26,990 from 16,607 stemming from multiple counties backlog. (See Point 2.) So cases are still rolling over, but the holiday effect is going to cause distortions for several weeks. The 7-day delta turned positive, but ex-Texas, it would have been down ~7,000. CA remains the state with the highest daily count in cases.

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

POINT 2: We are starting to see “backlog” caused jumps in cases. As the Texas Health Dept. noted, this is due to a substantial backlog of cases being reported Dec. 29. Of course, Texas is not the only state experiencing this. This is the reason we can expect the holiday reporting to cause some distortions, or rather, contain distortions.

As I have noted, multiple counties did not report case data for the Christmas holiday weekend last Friday through Sunday. Those three days were reported Dec. 29 and this is the reason for the surge.

POINT 3: The New York Times published an article suggesting a surprising number of COVID-19 patients subsequently develop severe psychotic symptoms. The severity of these symptoms is what alarmed me. Moreover, there appear to be dark voices suggesting these recovered patients murder or harm others. In some ways, this could be another reason why “Violence in 2021” could become more pertinent. https://www.nytimes.com/2020/12/28/health/covid-psychosis-mental.html

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

However, the article does not address whether this is not similarly found from those receiving vaccinations. A British study (same article) found that among 153 patients, 10, or ~8% had new-onset psychosis. This is a shockingly high statistic. One of the patients described having voices tell her to murder her children. I am really astonished and alarmed by these reports.

The obvious question is why this is happening. And while there is no clear explanation, scientists think this is possibly from neurotoxins being released as a result of the immune reaction.

Bottom Line: Have a safe and wonderful New Year! I pray that 2021 is a year where the world can heal and that each of you have a blessed holiday.

Figure: Way forward What changes after COVID-19
Per FSInsight

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

Figure: FSInsight Portfolio Strategy Summary – Relative to S&P 500
** Performance is calculated since strategy introduction, 1/10/2019

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300
signature of Tom Lee
Tom Lee, Head of Research

Technical Strategy

Robert Sluymer
Former Managing Director leading RBC’s U.S. Technical Research team with over 26 years of expertise in investment research and technical analysis.

The Perspective on a Potential 1Q20 Equity Market Pullback

After a historic rebound in 2020, the question investors are asking the most is are we heading into year-end correction? The short answer is I’m expecting equity markets to begin a correction, or at least a pause, in the early part of 1Q21. However, I caution investors from overreacting to a pending pullback.

As I have mentioned from time to time, Peter Lynch, Fidelity’s star manager of the Magellan Fund between 1977-1990, had excellent advice for investors when he stated “Far more money has been lost by investors preparing for corrections than has been lost in the corrections themselves”.

The important technical point is to build a longer-term perspective to understand the ongoing volatility that develops every year. I rely on three main investment horizons in my investment roadmap. 1) Consider the long-term, secular backdrop. 2) Markets in their current 3-4 year cycle that responds to liquidity controlled by the federal reserve and to economic growth. And 3) what is the tactical, multi-month outlook that tends to respond to the earnings cycle, investor sentiment, and technicals, such as overbought and oversold readings?

1) From a secular trend and cycle perspective, equity markets have ebbed and flowed, rallied and consolidated, around a 17-year cycle. That may seem a bit odd at first glance but these long-term cycles fit well with the demographic and life cycle of each generation. My analysis suggests equity markets are likely in a period of expansion that could last into the early-mid 2030s. If the secular trend that began in 2000 continues, a move to S&P 14,000 is not unreasonable from a technical perspective. Now that’s food for thought…and debate!

2) While the technical backdrop suggests equity markets are in a secular uptrend, those long-term trends tend to ebb and flow around a 4-year cycle. Liquidity and economic growth are the two main catalysts driving these multi-.year cycles and there is a reasonable debate that the US election cycle is an additional catalyst. Regardless, since 1945, a 4-year cycle is sufficiently evident that it would be prudent to incorporate as a factor too. For example, a 4-year market cycles defined the cycle lows during the secular uptrends of the 1950s-1960s and 1980s-1990s and appears to be doing so in the 2010s-2020s. I view the March 2020 low as another cycle low following Q1 2016 low that should carry markets higher through 2021 and likely into 2022. If history is a guide, then the average 4-year cycle rally in a secular bull market of 100-110% which suggests the S&P could reach 4400-4600 by 2022.

3) If my roadmap is correct, a pullback in 1Q1 is likely to be temporary, the proverbial pause that refreshes, and not a major cycle peak. Equity markets have rallied strongly and are starting to move toward overbought levels based on the weekly momentum data.

The first few days and weeks of January are notoriously volatile so I would caution readers from overreacting to headlines too quickly at the beginning of the year. It’s possible equity markets pivot lower early in January but my expectation is for an additional move higher into late January-early February before our weekly momentum data peaks signaling a tactical top.

Sectors: Tech has bounced back from the lower end of its 2-3 month consolidation and is in a broad, 4-month relative performance trading range. The discretionary sector is also bouncing back following its recent near-term pullback with its longer-term uptrend. Cyclicals remain in emerging uptrends with financials above their 50-day relative moving averages, while industrials, materials and energy are pulling back or pausing near their respective rising 50-day relative moving averages. In contrast, safety sectors, such as staples, healthcare and utilities remain in relative downtrends, while materials bounced back after a brief pullback.

Bottom Line: Use pending strength in January to prepare for a more volatile first quarter. If you are highly leveraged trader, reduce risk in anticipation of a bumpier ride in Q1. For longer-term investors, keep some buying powder dry to take advantage of pullbacks into Q2 to increase exposure to cyclical stocks.

Happy New Year and thank you for all your support in 2020!

Figure: Weekly Sector Review
Source: Fundstrat, FactSet

  • Technology has bounced back from the lower end of its 2-3 month consolidation and has recaptured its 50-day moving averages of relative performance leaving it in the middle of a broad, 4-month relative performance trading range.
  • The discretionary sector is also bouncing back following its recent near-term pullback with its longer-term uptrend.
  • Cyclicals have ebbed and flowed lately but remain in emerging uptrends with financials above their 50-day relative moving averages while industrials, materials and energy pull back or pause near their rising 50-day relative moving averages.
  • In contrast, safety sectors, such as staples, healthcare and utilities remain in relative downtrends while materials bounced back after a brief pullback.
As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

Figure: Best and worst performance sectors over past 3 months

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300
signature of Robert Sluymer
Robert Sluymer, Managing Director and Technical Strategist

GRANNY SHOTS: Best bets in 2020

GRANNY SHOTS: Best bets in 2020 - Week 53

Below we’ve highlighted stocks that we recommend across at least two of our investment strategies for 2021. These companies could benefit from multiple themes and secular tailwinds – clear picks in our view.

Figure: Granny Shots are the “best of the best”
Stocks which appear in multiple themes. Source: FSInsight

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

Figure: Granny Shots Portfolio Performance
Monthly. Source: FSInsight. FactSet as of 12/30/20

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

Figure: Intersection of investment recommendations by strategy
As of 12/30/20, Source: FSInsight, FactSet

As Wild Year Ends, We See 15% SPX Gain Yearend 2021, to 4300

The stocks in the Granny Shots portfolio collectively outperformed the S&P 500 by 5040 bps since its inception (S&P 500 is up 43.7% during the same period).

US Policy

L . Thomas Block
Formerly Global Head of Government Relations at J.P. Morgan for 21 years, and previously served as Legislative Assistant and Chief of Staff in the House, and Legislative Staff Director in the Senate.

Momentous Week Ahead; January 3, 5 and 6 Are Key Dates

While the calendar may have December 31 as the end of the old year; in Washington 2020 culminates with three big days next week.

Sunday, January 3: A little parliamentary lesson: A Congress lasts two years, and then a new Congress begins. The current Congress is the 116th and on Sunday at exactly noon, January 3, by law the new Congress – the 117th – begins. Any bill not passed and signed by the President by noon on Sunday dies and must begin the legislative process all over again. This is why the clock is on Senator McConnell’s side to stop the $2000 payment. It also explains why he wants to override the President’s veto of the National Defense Authorization Act no later than Saturday. The President’s veto will stand if not overridden by the current Congress.

Tuesday, January 5: Georgia holds its decisive Senate runoff with control of the Senate hanging in the balance. While press reports focus on high Democratic early turnout we saw in November that Republicans turn out on Election Day in big numbers. Incumbent Republican Senators in Iowa, Maine, NC, and SC were all in trouble with weak polling numbers; but all won and helped to hold the Republican’s majority. The Senate lineup before Georgia is 50 Republicans and 48 Democrats, so a sweep by Dems on Tuesday would give control of the Senate to Democrats, with big implications for Biden nominees and legislation.

One interesting scenario would be a Democratic sweep on Tuesday and then if President Trump is willing to work with Speaker of the House Nancy Pelosi and Charles Schumer, leader of the Senate Democrats, he could get the $2000 stimulus payments approved in the final days of his Administration. A big win on stimulus checks would be a great legacy-building action and an accomplishment to kick off his 2024 campaign.

Wednesday, January 6: This is the day set by law for the Congress to make the final count of the Electoral College. Some Republicans have indicated that in a seldom used procedure they will move to block the Electoral College results from several swing states won by President-elect Joseph Biden. The rules state that there can be an objection of each state.

An objection must be made by at least one Member of the House and Senate and then each body considers the objection and reports back to a joint session. Since the House is controlled by Democrats there is no chance that an objection would be accepted. Plus, several Republicans have indicated they too will not object and hence it is unlikely the Senate will throw out the results from any state.

This vote will be a tough vote for some Republicans where they will need to balance overturning an election certified by their state or show a lack of loyalty to their President. The decision is likely to follow them for the remainder of their political careers.

signature of L . Thomas Block
L . Thomas Block, Washington Policy Strategist

Fed Watch

Fed Lending Power Dispute Resolved; Other Issues Reemerge

The Federal Reserve had a challenging close to a year in which it was often and regularly celebrated for its crisis response. Yet it found itself exactly where it desires to be the least: the middle of a heated and extremely consequential political fight. Certainly, the Fed would have preferred to be encouraging the adoption of more fiscal support instead of being the final reason holding it up.

The dispute between the US Treasury and the Fed over the year-end termination of the Fed’s emergency lending facilities, in which the Fed wrote a rare rebuke of Treasury Secretary Steve Mnuchin’s decision evolved when Senator Pat Toomey (R-PA) introduced language forbidding the Fed to restart any lending programs that were similar to those in the CARES Act. According to the potential future Senate Banking Chairman, (if any of the Georgia Senate seats go to the GOP) he thought the Democrats would use the emergency powers to turn the Fed ‘from a lender of last resort to a lender of first resort.’

Democrats accused the GOP of trying to neuter its economic toolkit, and national preparedness, for political purposes. Aside from the partisan squabbling, the episode undoubtedly has highlighted what will likely be a key issue around the Fed in the coming months and years; just how exactly it will interact and cooperate with Fiscal authorities.

The Fed’s independence is at the very core of its mission and even the new dynamic of having a former Fed Chairman as Treasury Secretary threatens to blur the traditional duty lines in American central banking. You’ll be hearing a lot more about this issue in 2021. Ultimately, a compromise was reached which allowed the Fed more flexibility in its emergency lending powers but prohibited the expiring CARES Act programs from being resurrected by the Dems. It also repurposed hundreds of billions in funds from the programs.

The Fed closes 2020 with a vow to keep rates low and to let inflation run higher than it has in the past. This promise may be tested in 2021 if the strength of the recovery and inflation harbingers become significantly above consensus expectations. In an additional sign of bullishness from the Fed, it kept the Countercyclical Capital Buffer at 0% for the banks it supervises.

Asset purchases continued at a pace of $40 billion a month for MBS and $80 billion a month for Treasuries. The benchmark yield on the 10 year is0.91% down from last week 0.92%.

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