Q1 2021 has been a pretty exciting time with the accelerated pace of vaccinations pulling forward the timetable on when things will reopen.
Many states have reopened vaccinations to all adults and companies are pulling back on remote working (Google, one of the first companies to send people home last year, recently announced that they will begin opening offices in a limited capacity and is expecting a broad reopening in September).
While things aren’t likely to go back 100% to a pre-COVID world anytime soon, it’s a large step in the right direction.
Q1 Market Performance
All of this excitement was certainly not lost on the market, where the S&P 500 is up ~7% this year continuing its astronomical climb from the crash last March. The reopening excitement is supported by the data as well, with the economy adding ~916,000 jobs in March, airline activity climbing to pandemic highs, and the spot price of oil rising ~27% (woooo, finally sold all the oil I bought at the height of the pandemic and have fully transitioned those holdings to clean energy).
In addition, real estate has been on an absolute tear this year. Housing prices were up ~11% in January as a result of low inventory of homes. We’ll get into the driving forces later.
One thing to note is this growth was not uniform across industries. Tech stocks, which significantly outperformed the rest of the market last year, underperformed in Q1 2021. The primary reason is that as the economy reopens and spending increases (potentially spurring inflation), investors expect the federal reserve will raise interest rates. Tech stocks, which are primarily valued for future earnings, are particularly sensitive to this.
This dynamic with inflation and interest rates is going to be very important to pay attention to this year. Inflation is not inherently bad. When an economy is in full swing prices naturally rise as consumers have more money and demand more goods. It is unexpectedly high or low inflation that is a problem.
Pre-pandemic we had a pretty anemic inflationary environment (which was actually a problem), however, the combination of significant cash having flooded the economy over the last year (with nowhere to spend it), along with pent up demand has many investors wary of a spike in inflation (I don’t know about you by my willingness to spend on things like concerts and sporting events is at an all time high). This would spur the federal reserve to increase interest rates, which impacts all financial assets (especially growth stocks like tech).
This is by no means a sure thing however, and the Fed doesn’t seem particularly concerned with this possibility having promised to keep rates low for the foreseeable future. Let’s hope they are right.
My Portfolio Performance
My overall performance has slightly lagged the S&P, as I am slightly overweight growth stocks. The below chart from Personal Capital, shows my total returns (blue) vs. the S&P (orange). This excludes the oil exposure I sold and my real estate, which would decrease that gap a bit.
The only change I am looking at this quarter is slightly increasing my exposure to real estate rental income as I like rental income through a rising rate environment.
My allocation
Cash: 5%
Real estate: 5%
US passive equity: 85%
Other: 5%
My Market Expectations
Note: I am not a CFA, and these are my guesses. My investing rarely changes based on market fluctuations.
I expect the economic data to continue to support a strong economic recovery through the end of year, pushing the S&P even higher (it crossed the 4000 mark for the first time on Friday).
While real estate price growth will likely slow through the end of the year as more inventory becomes available and resolutions of supply chain issues regulate things like lumber prices, I continue to expect growth in that market as millennials / gen Zers begin buying homes in larger quantities.
I am skeptical that the Fed will hold rates this low for as long as they have stated, but as long as the rate increase timeline is not too soon and is backed up by strong economic data, it should have a relatively muted impact.
Given the hypersensitivity of the recovery to interest rates / inflation, I would expect choppy growth this year, which could provide some good buying opportunities if there is a dip.
The things I am keeping my eye on this quarter:
- The rate of interest rate hikes: for reasons stated above
- Geopolitical tension between the US and China: This has been at the top of my list for a couple of years now as it has the potential to turn the world upside down. I feel like all global leaders need to be sent back to kindergarten to learn to play nice…but what do I know
- Infrastructure spending and corporate tax rates: The US sorely needs an infrastructure makeover, and the latest infrastructure spending bill, if passed, would have a major impact on this (as well as on clean energy, which has a good bit of allocated funding in the bill). The proposed funding source is partially from an increase in the corporate tax rate, which would meaningfully impact stock prices and is something to pay attention to
- The resergence in big-city living: Whether remote work trends are here to stay and whether companies continue to build officies outside traditional hubs like NY / SF will have major implications for the course of real estate in the US going forward
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