Given the current environment of peak coronavirus infections and challenges to vaccine rollout programs, it’s understandable that many investors are cautious as they look forward to 2021. It’s little wonder that recent economic data has resulted in steady downward revisions to estimated fourth quarter 2020 GDP growth (October – December 2020). However, all is not as gloomy as current conditions suggest.
Investment managers make extensive use of “consensus estimates.” These are forecasts of economic output or corporate earnings. Organizations such as Institutional Brokers Estimate System (IBES), Bloomberg and others gather economic and corporate earnings forecasts from contributors and provide users a single aggregate value. In essence, consensus estimates are simply an average of all the forecasts. These estimates are widely followed and changes to them can move markets. Why? Investors have long known that consensus estimates are generally more accurate than any single prognosticator’s. That’s not to imply that they are perfect. Since analysts sometimes suffer from groupthink, or some common bias that influences their outlook, consensus estimates can be flawed to such a degree that averaging numerous estimates fails to eliminate bias. Despite this limitation, the consensus estimate remains the best forecast available to us.
The consensus estimate for the United States has the economy growing 3.9% in 2021 and 3.1% in 2022 after declining an estimated 3.5% in 2020 (per Bloomberg). Estimates for the S&P 500’s earnings per share has it rising 23% this year after falling 16% in 2020 (per IBES).
For some, this optimism is hard to digest given the current crisis. However, it is critical that readers recognize that the current downturn lacks the usual structural or financial imbalances that characterized past recessions. This one is a health crisis, not a financial crisis. Prior to the pandemic, economic growth was stable and labor markets were tight with ultra-low unemployment rates pushing wages higher. That led to a positive credit environment with record high FICO scores (703 vs. 689 in 2010) and record high net worth for US households.
Several think tanks believe that the United States will achieve herd immunity in the Fall with some expecting the majority of Americans will be immunized by Spring 2022. In other words, the current environment will eventually change for the better.
In addition, central banks around the world have simultaneously deployed expansionary monetary policy by lowering interest rates and creating liquidity in credit markets (chart below). There has also been rapid deployment of fiscal spending to provide citizens the income support necessary to bridge the worst of the pandemic.
At the start of a downturn, the economic environment doesn’t feel much different. The economy is marching on, but with less intensity. At an economic trough, improvements to the economy can be hard to appreciate – especially given the typically widespread economic difficulties still being experienced by large portions of the population. So, at an economic trough when national output is starting to increase, it can still feel challenging, and that’s where we are now. While it’s hard to fight the shortsightedness when we’re in the trenches, it’s important to look to the horizon to see that better days are ahead.