Video Transcript
Midyear Outlook 2020: Recession, Recovery, and Resilience
Presenter: Paul Christopher, CFA, Head of Global Market Strategy, Wells Fargo Investment Institute
Title graphic: What are your expectations for a recovery out of this recession?
On-screen text: Paul Christopher, CFA, Head of Global Market Strategy, Wells Fargo Investment Institute
There have been a lot of questions about what the shape of the economic recovery will look like. Our best case is for a recovery that gets off to a fast start in the second half of 2020, but we believe that fast restart is likely to downshift into a more gradual pace through 2021, and for two main reasons.
First, fears of a new surge in COVID-19 infections may restrain interest in restaurants, movie theaters, gyms, sporting events, and other activities where many people mingle. Many stores already limit the number of shoppers who can enter at one time. And health experts from Harvard’s Center for Communicable Disease Dynamics expect higher infection rates as activity increases and as the fall weather begins. We do not expect another nationwide lockdown, but we do expect social distancing measures to continue, and these may temper the economic recovery.
A second problem is repairing the economic damage from the recession. The economy has already experienced a lot of bankruptcies and there are still over 40 million people unemployed. We expect these unfortunate totals to continue to increase. Even though the economy has restarted, the reopening is happening in stages, and new shoppers may not be enough to rescue some businesses that are close to the brink of failure. This is especially true for many small businesses that have limited access to borrowing.
So, while the economy enjoys a fast start in the second half of this year, equity prices may be expecting a much stronger economy for much longer. We expect that equity markets eventually will replace the euphoria of a fast start with a more staid but steady gradual pace, but there is likely to be some disappointment and lower prices as equity markets make this adjustment during the second half of the year.
Title graphic: How can investors position for the potential of additional volatility in the second half of 2020?
We offer three specific tactics to position for additional volatility:
On-screen text: Consider maintaining cash holdings of 6–18 months of expenses.
First, investors may consider maintaining cash holdings of 6-18 months of expenses—with the goal to avoid having to sell assets at inopportune times.
On-screen text: We favor U.S. over international equity exposure and U.S. large- and mid-cap equities over small caps.
Second, we favor U.S. over international equity exposure and U.S. large- and mid-cap equities over small-caps. In particular, larger U.S, companies that have stronger balance sheets and better earnings prospects in the Information Technology, Health Care, Communication Services, and Consumer Discretionary sectors.
On-screen text: Regularly rebalancing portfolios can be beneficial as market volatility surges.
Finally, we believe regularly rebalancing portfolios is always a good idea, but it can be especially beneficial as market volatility surges. Rebalancing trims positions that exceed target allocations and then reallocates the cash to where we see more attractive valuations. Regular rebalancing during a bear market can help position the portfolio for recovery.
On-screen text: For more information, download our special report
For more details on positioning your portfolio for the remainder of the year, and through 2021 and the economic recovery, please download our Wells Fargo Investment Institute 2020 Midyear Outlook: Recession, Recovery, and Resilience.
Risk Considerations
Forecasts are not guaranteed and based on certain assumptions and on views of market and economic conditions which are subject to change.
Equity securities are subject to market risk which means their value may fluctuate in response to general economic and market conditions and the perception of individual issuers. Investments in equity securities are generally more volatile than other types of securities.
The prices of small and mid-cap company stocks are generally more volatile than large company stocks. They often involve higher risks because smaller companies may lack the management expertise, financial resources, product diversification and competitive strengths to endure adverse economic conditions.
Communication services companies are vulnerable to their products and services becoming outdated because of technological advancement and the innovation of competitors. Companies in the communication services sector may also be affected by rapid technology changes; pricing competition, large equipment upgrades, substantial capital requirements and government regulation and approval of products and services. In addition, companies within the industry may invest heavily in research and development which is not guaranteed to lead to successful implementation of the proposed product. Risks associated with the Consumer Discretionary sector include, among others, apparel price deflation due to low-cost entries, high inventory levels and pressure from e-commerce players; reduction in traditional advertising dollars, increasing household debt levels that could limit consumer appetite for discretionary purchases, declining consumer acceptance of new product introductions, and geopolitical uncertainty that could affect consumer sentiment. Some of the risks associated with investment in the Health Care sector include competition on branded products, sales erosion due to cheaper alternatives, research and development risk, government regulations and government approval of products anticipated to enter the market. Risks associated with the Technology sector include increased competition from domestic and international companies, unexpected changes in demand, regulatory actions, technical problems with key products, and the departure of key members of management. Technology and Internet-related stocks, especially smaller, less-seasoned companies, tend to be more volatile than the overall market.
Investments in fixed-income securities are subject to interest rate, credit/default, liquidity, inflation and other risks. Bond prices fluctuate inversely to changes in interest rates. Therefore, a general rise in interest rates can result in the decline in the bond’s price. Credit risk is the risk that an issuer will default on payments of interest and principal. This risk is higher when investing in high yield bonds, also known as junk bonds, which have lower ratings and are subject to greater volatility. If sold prior to maturity, fixed income securities are subject to market risk. All fixed income investments may be worth less than their original cost upon redemption or maturity.
Municipal bonds offer interest payments exempt from federal taxes, and potentially state and local income taxes. Municipal bonds are subject to credit risk and potentially the Alternative Minimum Tax (AMT). Quality varies widely depending on the specific issuer. Municipal securities are also subject to legislative and regulatory risk which is the risk that a change in the tax code could affect the value of taxable or tax-exempt interest income.
Investing in foreign securities presents certain risks not associated with domestic investments, such as currency fluctuation, political and economic instability, and different accounting standards. This may result in greater share price volatility. These risks are heightened in emerging markets.
Definitions
Investment Grade bonds – A rating that indicates that a bond has a relatively low risk of default. Bond rating firms, such as Standard & Poor’s, use different designations consisting of upper- and lower-case letters ‘A’ and ‘B’ to identify a bond’s credit quality rating. ‘AAA’ and ‘AA’ (high credit quality) and ‘A’ and ‘BBB’ (medium credit quality) are considered investment grade. Credit ratings for bonds below these designations (‘BB’, ‘B’, ‘CCC’, etc.) are considered low credit quality, and are commonly referred to as “junk bonds”.
General disclosures
The opinions expressed reflect the judgment of the speaker as of the recording date and are subject to change without notice. The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Past performance is no guarantee of future results. Additional information is available upon request.
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