The stock market delivered a fairly wild ride in 2020, with a steep bear market arriving in record time followed by a strong and sustained rally that caught many investors by surprise. In my view, 2021 will represent the first full year of the new cycle, which almost always has tactical and strategic implications for equity investors. I have three insights and possible trends to watch in 2021.

Trend #1: Will Capital Keep Rotating from Growth to Value?

From the March 2020 bottom of the bear market, growth stocks were powered higher by low interest rates and catalyzed economic trends towards digitization, remote work, and technology’s role in providing new growth avenues. Companies across virtually all sectors and industries rushed to establish digital infrastructure, and the slow walk to “online everything” turned meteoric. High growth tech stocks led the way.

Leadership started to change in November, however, with positive vaccine news and diminishing uncertainty with regards to the election, value stocks took over, and I think we could see sustained leadership heading into the new year. Cyclical value stocks – which are closely tied to economic growth and currently enjoy low relative valuations – have not seen the type of rally that growth has delivered. This dynamic could change in the new year, as it is common to see leadership shift around early in a new cycle.

Long-time readers of my columns also know the emphasis that Zacks Investment Management places on earnings, which could also benefit value in 2021. Value stocks are likely to have an easier time delivering big year-over-year earnings growth, considering the dismal comparisons from the previous year (2020). As many ‘growth-y’ tech stocks enjoyed strong earnings even during the 2020 recession, the bar is already set high for 2021 – setting up the possibility for lower-than-expected earnings growth.1

Trend #2: More Frequent Pullbacks and Classic -10% to -20% Correction

The stock market defied many expectations in the second half of 2020. A sharp, “v-shaped” bounce off the bottom of a bear market is one thing. But to finish the year with a sustained rally even as election uncertainty crested and the pandemic accelerated into dangerous territory was a surprising outcome. I have written many times that the stock market looks ahead six or even twelve months, and I think the rally was pricing-in a strong recovery in the second half of 2021.

Even still, we saw the top five S&P 500 stocks generate 127% of index’s return in the first nine months of the year, signaling quite a bit of concentration. We also saw fairly wild investor enthusiasm for IPOs, and many signals that retail investors are pushing far out onto the risk curve (see cryptocurrency rally and surge in online trading on platforms like Robinhood).

Towards the end of the year, it felt as though the buzz around what stocks or cryptocurrencies to buy was growing quickly, telling me that sentiment was starting to drift into being far too optimistic and ‘risk-on.’ In my view, that’s a clear signal that a sharp correction is coming soon, and I also think pullbacks should be more routine as the market clears out some of the froth.

Trend #3: Go Global  

The United States is poised for breakout economic growth in the second half of 2021, in my view, but many other countries are already there. Australia, South Korea, New Zealand, and China have all but squashed out the Covid-19 pandemic, and their respective economies are firmly on the path back to sustained recovery. China looks to be leading the way so far.

When it comes to China, however, it appears the rivalry with the United States is here to stay. Nowhere will the competition become fiercer than in the realm of technology, as both countries seek self-sufficiency in critical industries of the future, like Artificial Intelligence, semiconductors, and 5G. Investors would be wise to look both ways when it comes to investing in growth trends, as the two economic superpowers chart their own courses.

In Europe, the European Central Bank has committed to more stimulus, and the bloc’s recovery is said to focus more on green infrastructure and digitization spending. In terms of going where the liquidity is, Europe will certainly be a place to look, in my view. Fading Brexit uncertainty should also provide a tailwind.

Bottom Line for Investors

I think there is a lot to look forward to in 2021, and investors should position portfolios towards equities – but only as far as your risk tolerance and long-term objectives allow. It is also, of course, important to remain diversified.

I do believe that investor optimism may be moving a bit too quickly, however, and the risk-taking I’m seeing is likely to give way to more frequent volatility and likely a correction that will feel like another bear market (sharp, sudden, scary). Staying patient, focused on the long-term, and biased towards quality and earnings should serve investors well in the new year.

Disclosure

1 Black Rock. December 17, 2020. https://www.blackrock.com/us/individual/insights/taking-stock-quarterly-outlook

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