2020 – The Year The World Changed

This has been an emotional year for many of us.  Whether you lost a loved one, were made redundant or had to close your business and layoff staff.  We will all be glad to see the back of 2020!

From a markets and trading perspective, it has also been the type of year that can make or break a career.  We witnessed the fastest stock market crash in history triggered by COVID-19 escaping Chinese borders in late February and causing havoc all around the world.  The reaction of governments attempting to contain the spread by imposing strict lockdowns amounted to the largest simultaneous supply and demand shock to the global economy in 100 years.  Asset prices collapsed in tandem as a result, leaving nowhere to hide.  Even Gold and government bond markets, which historically protect investors from turbulence, were collapsing due to the large leveraged positions being liquidated in every asset class to raise cash levels to weather the storm.  The only thing that stopped the collapse was the FED stepping in with unlimited QE and backstopping the high yield credit and mortgage markets.  It was also apparent that fiscal support was absolutely necessary to allow main street to survive this unprecedented shock as millions lost their jobs and income.  Governments got their acts together quickly and passed stimulus relief bills amounting trillions of dollars to arrest the deflationary death spiral that the world was facing.  The sheer size of balance sheet expansion and government deficits we have seen this year should leave little doubt that we have passed the point of no return in terms of policy and a full adoption of Modern Monetary Theory (MMT) has begun, whether they admit it or not.

Whilst many are still struggling with the fallout from March, some companies and industries actually benefitted greatly.  Businesses that were geared to people working from home such as Zoom and Slack saw enormous growth, plus online shopping became the only alternative so Amazon, Wayfair and Shopify were other huge winners.  Basically all things tech had a massive acceleration in growth as market share that may have taken 5 years to acquire, pre-COVID, was delivered instantly.  The big FAANG stocks with their low debt, predictable cashflows and seemingly recession proof earnings became the modern day utilities, which in a zero yield world were valued like perpetual bonds and quickly rallied to new all time highs.  The Value vs Growth trade was well and truly on with cyclical financial, energy and small cap stocks being held down by the true state of the real economy, whilst the economy of bits (computer bits) was booming as we all began our virtual lives of online home schooling and Zoom parties.  Airlines, travel and hospitality stocks took the worst hit, needing bailouts to survive.  A true K-shaped recovery took hold as unemployment remained the worst in a century leaving the working class needing government handouts whilst the large corporations and their shareholders got richer.

This chart shows just how bad the labour market looks even after the so called recovery we have seen since April.  This employment recession was more than double the depth of any dating back to 1948, and after the bounce we are still lower than the lows of the 2007/8 recession.

Outside of stocks, commodity markets also saw huge swings over the course of the year.  In April, WTI crude oil prices briefly went negative, with futures contracts settling around minus $38.45/barrel, something many traders never knew was possible.  This was due to the fact that they were physically settled and there was a short term storage squeeze in Cushing Oklahoma, but it’s still evidence of the scale of demand shock that a shutdown in worldwide travel could cause.  After many oil wells being forced to shut-in and reduce production capacity, prices recovered along with economic activity through the summer and OPEC+ also played ball and kept production limits in place.  In fact, since the the start of Q3, the entire commodity complex really started gaining traction with increased appetite for industrial metals from China whose recovery looked on track and as markets started to price inflation expectations higher as they looked forward into 2021.  From Copper and Silver to Lumber and Grains, the entire space seems to be telling a story of inevitable inflation in the years to come.  After all, the disruptions of this year may have hurt demand, but they have also had serious consequences for supply chains and probably triggered some de-globalisation which should put upward pressure on prices in general.  Promises of infrastructure spending, a green new deal and the electrification of the auto industry should be good for metals like Silver and Copper if they actually materialise.  However, the reduction in US oil production capacity will also keep crude prices supported at least for the next decade as we transition away from fossil fuels, assuming we return back to some kind of normality post virus.

This chart shows some or the main commodity performers alongside the broad CRB Index since June.

Despite the many trillions of dollars in monetary and fiscal stimulus worldwide, we have not yet seen any real increase in inflation numbers as measured by things like CPI, only inflation in asset prices has been coming through as the transmission of QE printed money into bond markets feeds into stocks, real estate and commodities.  As we have all been locked away in our homes, there has not been as much opportunity to spend so savings rates have increased and velocity of money has been low.   Once vaccines have been rolled out fully, by maybe next summer, and if successful then it is likely there will be a large increase in velocity from the pent up consumer demand that has built over most of this year.  This should create somewhat of a boom in spending and economic activity which in turn should show up in inflation data, although it is unclear how short-lived this effect will be against a secular deflationary backdrop due to technology, debt and demographics.  Whether or not there is sustained inflation will answer the burning question in many investors minds, is the 40 year bond bull market really over?  Recent price actions suggests it might be.

Right now, both equity and commodity markets are looking past the current COVID situation sweeping through Europe and the US, taking hospitalisations to new highs and forcing more strict lockdowns which effectively cancelled Christmas.  Stocks are at all time highs and have recently been led by the value sectors such as financials and energy which exploded higher once the news on vaccines came out in early November.  What first looked like a rotation out of expensive growth stocks and back into the cheap, beaten up sectors like travel and leisure, has now turned into an “everything” rally.  The retail army that has risen through brokerage platforms such as Robinhood has been cheerleading the recovery all the way, especially in stocks like Tesla which recently got included into the S&P 500 and is up around 700% this year.  This increase in retail speculative trading has been evident in the massive call option volumes particularly in technology stocks this year, where in some cases option volumes have outstripped actual stock trading volumes creating volatility feedback loops and driving some of these mega cap stocks to even crazier valuations like we saw in early September.

Another major event this year was the US election which saw republican Donald Trump replaced by democrat Joe Biden.  Given the turmoil of this year, it wasn’t a surprise to see voters ask for change and a more socialist leadership, let’s see if they actually get what they asked for.  If the Democrats do win control of the senate after the Georgia runoffs in early January then we may actually get some real stimulus to kick start the economy rather than the slow “drip-like” life support that currently seems to be coming from congress.  A more progressive “Blue-wave” ticket will certainly sound good to a population where wealth inequality has been taken to new extremes.  Unfortunately, I think the rich will continue to get richer as they have done in previous democratic presidencies.  The volatility suppression and asset inflating tactics of the central bankers will result in more deterioration of the social fabric of society, increasing the likelihood of civil unrest and revolution of some kind.

Speaking of volatility, although they have been able to successfully prevent downside or left tail risk in asset markets after turning the taps on in March, we have clearly seen some rather large right tail breakouts in inflation hedge assets.  The Gold and Silver rallies in the summer gave us some flavour of what might be to come, but more recently the explosion in Bitcoin and crypto markets has made many real money managers stand up and take notice.  In a world where confidence and trust in governments to do the right thing and be responsible in shepherding the economy has been lost, people are looking for alternative stores of value.

The US dollar’s hegemony over the financial system has allowed them to erode the value of fiat money time and time again with little consequence, but recently it has been showing cracks and testing some major support levels.  A large part of the recent commodity rally has been due to the dollar slide and this bearish dollar outlook is fast becoming the most consensus view for next year.

Personally, I feel that the dollar’s reserve currency status will most likely take longer to break down than some pundits are predicting and also that GBP and EUR have their own problems.  I do however agree that fiat currency debasement will continue and the nominal price of all real and scarce assets can only go higher.  Bitcoin’s re-emergence this year after the March collapse cemented the asset class as a solid diversification asset, albeit volatile, with a potential mass adoption kicker.  Pitching itself as the digital version of Gold, attracting Millennial investors with a more technological mindset.  It has knocked every other asset class out of the park and with the institutional adoption that has taken place this year, governments may find it difficult to stop.  I also believe Ethereum and the De-Fi space has massive growth potential which will be realised over the next few years and so a small allocation of your crypto should also be in Ether, offering even greater diversification.

I don’t know if Bitcoin will go to 100k or zero over the next couple of years.  What I do know is that the price action and money flows into the space are showing that it offers right tail protection to some of the strong undercurrents in todays financial markets.  For all the haters who think is goes to zero, the fact that there is a liquid options market allows savvy investors to hedge that risk whilst still participating in the immense upside, at least that’s what I’m doing!

For those who follow the “Plan B” stock to flow model, the sky is the limit!

Have a happy new year

Investing in your own education to able to manage your money safely and effectively is an allocation that is often overlooked and one that I feel every investor big or small should be considering carefully going into 2021.


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