Many analysts consider some data that unfolded during 2020 and particularly at the end of 2020. With the announcement that vaccine production has begun and the mass vaccination of the world’s population against Covid-19 has begun, it gave the early signal that the pandemic is over.
The governments of developed countries have already prepared in 2020 huge packages of funds for fiscal use to deal with the consequences of economic shutdowns on economies.
by Thanos S. Chonthrogiannis
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At the same time, borrowing rates and real interest rates in general, due to low inflation, are at an exceptionally low level, allowing investors to look at equity investments that are at remarkably high levels.
All these macroeconomic parameters show that both consumer demand and growth, following the lifting of lockdowns, combined with savings from consumers during lockdowns will boost demand and business profits.
But are there reasons that can stop these bullish expectations about stock prices?
More specifically:
1. The fact that share prices during 2020 have already discounted the investors’ expectations of an end to the pandemic through applied vaccinations of citizens.
This is an indisputable fact, and this is shown both in the respective US economic indicators but particularly in those of China which is the first economy to come out of the pandemic in Q12020 and will show growth in 2020.
But many EU member countries are in constant and repeated lockdowns, leaving the EU and UK economy in great recession respectively, with the end of Q32021 set to recover. This will damage the global economy in 2021 by acting as a brake on growth. The global economy is highly likely to follow a W-type growth during 2021.
2. The budgetary packages drawn up by both the US and the EU for the addressing the economic and social woes caused by the pandemic in 2020 are loans which, on the one hand, if used correctly, will add 1.7% and 1.5% growth to US and EU GDP respectively, while at the same time skyrocketing budget deficits in countries’ state budgets and public debts.
The bad scenario in this case is that on the one hand this resulting GDP growth may bring to the fore the nightmare of rising inflation and, on the other hand, during 2021 a large part of these funds for fiscal use may be withdrawn and not given away, resulting in any positive expectations of the investors that currently dominate turning negative and causing a massive sell-off.
3. Rising inflation is a scenario that should not be ignored when trying to see which direction share prices can go within a year.
Consumers in developed economies due to repeated economic shutdowns and social distance/exclusion have a large percentage of savings in their accounts which will trigger and fuel their consumer demand in 2021 when normality returns.
This consumer action alone and given that a large proportion of businesses have gone bankrupt (particularly small and medium-sized enterprises) by reducing the supply of services and products to all sectors of the economy, will trigger a sudden increase in inflation due to rising disproportionate prices from explosive demand.
This phenomenon may be transient, especially with the first appearance of the economic and labour regularity of trade and services. However, however this phenomenon occurs, it will force central banks to raise their lending rates.
To be sure, in terms of our inflation expectations we need to look carefully at the course of bond markets and more specifically the bonds whose yields are inflation-indexed-linked.
It is the specific government bonds that give us real yields after inflation expectations, and it is these bonds that are used as indicators for stock market valuations.
So, if we look at these data and find a magnitude of inflation that slightly exceeds the central bank’s inflation target from the outset, and this inflation is controlled and acceptable, the Central Bank will be given the opportunity to do nothing by leaving its interest rates and, of course, real interest rates untouched.
In such a scenario, inflation growth could be ignored at least in the first stage, pushing share prices soaring.
4. Another major risk that may move share prices down is the ever-increasing corporate debt that has been piles up during 2020 due to repeated lockdowns.
This debt is rooted in the fact that companies borrowed large sums to be able to respond to their revenue losses and cease production. But if things do not go well in terms of the profits that companies expect, their large debt will become a loop that will drown them in business, something that will be mirrored in their share prices.
In any case, central banks, in addition to their implemented policies to help their countries’ governments buy corporate bonds and even junk bonds by facilitating companies with liquidity injections. As a result, the financial costs of businesses remain low, creating the conditions for a low debt burden.
The bottom line is that share prices in 2020, a year when everything was negative, followed an upward trajectory compared to 2019. More specifically, the table below shows the progress of the indices of the world’s major stock exchanges.
| Index closed | ||||||
| STOCKS | Friday | |||||
| 30-31 December 2020 | Dec 31, 2019 | 1Y Change | ||||
| United States S&P 500 | 3733,25 | 3230,78 | 15,55% | |||
| United States NAScomp | 12866,15 | 8945,99 | 43,82% | |||
| China Shanghai Comp | 3473,07 | 3050,12 | 13,87% | |||
| China Shenzhen Comp | 2329,37 | 1722,94 | 35,20% | |||
| Japan Nikkei 225 | 27444,17 | 23656,62 | 16,01% | |||
| Japan Topix | 1804,68 | 1721,36 | 4,84% | |||
| Britain FTSE 100 | 6460,52 | 7542,44 | -14,34% | |||
| Canada S&P TSX | 17524,21 | 17098,56 | 2,49% | |||
| Euro area EURO STOXX 50 | 3552,64 | 3745,15 | -5,14% | |||
| France CAC 40 | 5551,41 | 5978,06 | -7,14% | |||
| Germany DAX | 13718,78 | 13249,01 | 3,55% | |||
| Italy FTSE/MB | 22232,90 | 23506,37 | -5,42% | |||
| Netherlands AEX | 624,61 | 604,58 | 3,31% | |||
| Spain IBEX 35 | 8073,70 | 9549,20 | -15,45% | |||
| Poland WIG | 57025,84 | 57832,88 | -1,40% | |||
| Russia RTS $ terms | 1387,46 | 1548,92 | -10,42% | |||
| Switzerland SM | 10703,51 | 10616,94 | 0,82% | |||
| Turkey BST | 1476,72 | 1144,24 | 29,06% | |||
| Australia Al Ord. | 6587,10 | 6647,70 | -0,91% | |||
| Hong Kong Hang Seng | 27231,13 | 28189,75 | -3,40% | |||
| India BSE | 47751,33 | 41253,74 | 15,75% | |||
| Indonesia IDX | 5979,07 | 6299,53 | -5,09% | |||
| Malaysia KLSE | 1627,21 | 1588,76 | 2,42% | |||
| Pakistan KSE | 43755,38 | 40735,08 | 7,41% | |||
| Singapore STI | 2843,81 | 3222,83 | -11,76% | |||
| South Korea KOSPI | 2873,47 | 2197,67 | 30,75% | |||
| Taiwan TWI | 14732,53 | 11997,14 | 22,80% | |||
| Thailand SET | 1449,35 | 1579,84 | -8,26% | |||
| Argentina MERV | 51226,49 | 41671,41 | 22,93% | |||
| Brazil BVSP | 119017,20 | 115645,30 | 2,92% | |||
| Mexico IPC | 44402,06 | 43541,02 | 1,98% | |||
| Egypt EGX 30 | 10845,26 | 13961,56 | -22,32% | |||
| Israel TA-125 | 1499,05 | 1683,29 | -10,95% | |||
| Saudi Arabia Tadawul | 8684,53 | 8389,23 | 3,52% | |||
| South Africa ISE AS | 59408,68 | 57084,10 | 4,07% | |||
| World, dev’d MSCI | 2686,06 | 2353,25 | 14,14% | |||
| Emerging markets MSO | 1292,43 | 1121,78 | 15,21% |
We note in the upper table that the stock markets of the developed markets US & China recorded a record rise, followed by the stock markets of South Korea, Taiwan, Japan, and Canada. This is because these economies were among the first to manage (China, South Korea, Taiwan, Japan, Canada) to quickly control the spread of the Covid-19 pandemic on their territory.
On the other hand, the US economy had started to grow rapidly by the second half of 2020 and with the announcement of the guarantee of the vaccine investors’ expectations were based on market growth.
UΚ and EU stock markets have paid for Brexit and the failed management of the pandemic with the necessarily repeated economic shutdowns.
Why not repeat this course of stock markets in 2021, which in theory many more economic parameters will be even more improved. The risks are enough but not to the point where they create insurmountable obstacles to a new rally in share prices.
As bond yields remain low due to low interest rates, more and more funds will be directed to stock markets fueling the rise in equities prices (for more analysis please read the analysis entitled «Why stocks are still cheaper in relation to Bonds? »).
