Key Takeaways
The massive fiscal and monetary response to the onset of Covid-19 in early 2020 laid the groundwork for a surge in growth stocks and drove relative valuations between growth and value indexes to record levels.
Markets grew more nuanced going in 2021, with style leadership alternating between growth and value. Real interest rates appear to have been the primary driver of relative performance, with higher rates prompting a rotation into value-oriented stocks and sectors, and lower rates favoring growth.
Increased hawkishness among central banks in response to persistently elevated inflation has pushed nominal interest rates back to pre-pandemic levels. The resulting higher discount rates and other potential headwinds suggest richly valued areas of the market may represent unfavorable risk-reward tradeoffs going forward.
- Though markets appear to have grown more complicated, particularly with Russia’s recent invasion of Ukraine, First Eagle remains focused on the construction of all-weather portfolios that seek to create resilient wealth and mitigate the permanent impairment of capital in the face of complexity and uncertainty.
The fiscal and monetary response to the Covid-19 pandemic was unprecedented. While this extraordinary accommodation buoyed businesses and individuals as economic activity ground to a near-complete halt in many areas, it also promoted market distortions and areas of speculative excess that call to mind previous market bubbles.
Historically low interest rates heightened the appeal of long-duration growth stocks and their promise of future cash flows. Relative market valuations—both growth versus value stocks and US versus international names—ballooned, and the resulting concentrations in global indexes suggest portfolios benchmarked to them may have heightened exposures to geography, sector and individual stock risk.
A more nuanced dynamic emerged in 2021, however. With inflation pressures once considered “transitory” proving far more persistent than many—including the US Federal Reserve—anticipated, interest rates grew more volatile as bond markets sought to read the tea leaves of policy response. Equity market leadership rotated between growth and value stocks—and to a lesser extent, between US and international stocks—in step with the direction of real interest rates.
Continued volatility would not be surprising, especially given Russia’s recent invasion of Ukraine. Further, without the safety net of highly accommodative policy, the tailwinds that drove the outperformance of certain areas of the equity markets for most of the past 13 years may begin to recede—and perhaps become outright headwinds.
Market Distortions Persist
While the emergence of the novel coronavirus in early 2020 quickly brought an end to the longest bull market in US history and triggered the deepest global recession since World War II, the massive fiscal and monetary policy response to it sparked a furious comeback in risk assets. The initial beneficiaries of this policy largesse were growth stocks—and a narrow cohort of very large tech-related US companies in particular.
Continue reading here.
