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GW&K Global Equity Strategies Investment Commentary – 4Q 2020

Global developed markets continued their rally all through the fourth quarter and into year end. The MSCI World ex USA and the MSCI World ex USA Small Cap Indexes finished the quarter up +15.9% and +17.6%, respectively. Both indexes followed remarkable paths during the year; for example, the MSCI World ex USA Small Cap Index fell almost 30% in the first quarter only to rally by nearly 60% to end the year at all-time highs. Meanwhile, the U.S. dollar continued its decline in the quarter, falling another –4.2% on a trade weighted basis.

Markets were again up across every region and sector. In fact, not a single country was down. Geographically, Asia was the laggard (+11.6%), while North America (+20.6%), Europe (+21.7%), and the Middle East (+26.6%) had exceptional returns. Ireland (+47.4%) and Norway (+32.7%) had the best returns, while Japan (+8.0%) and Singapore (+10.1%) had the worst. On a sector basis, Energy (+33.8%) rebounded sharply as the top performer, followed by Industrials (+21.4%) and Materials (+21.3%). Consumer Staples (+5.1%), Health Care (+7.2%) and Communication Services (+14.7%) all lagged. These sector returns highlight the sharp leadership change that occurred in early November with the U.S. election, and vaccine approvals changing the market focus to the post COVID-19 recovery.

Global stocks endured at least four distinct markets in 2020. The year started with markets stretched and global growth starting to slow. We were expecting a difficult year, but the global pandemic was a surprise, which started to impact non-U.S. markets in February, leading to a sharp, but brief selloff that reached a nadir in late March. Unprecedented financial and fiscal stimulus ignited a relief rally that began to peter out in October only to receive another boost from positive vaccine results in early November. With the end of the virus within sight (if still a ways off), and the stimulus continuing, the markets ended 2020 at all-time highs.

We believe the year marks a significant change, a regime shift, where the drivers of the last decade give way to a new set of variables. Some of these were initiated or accelerated by COVID-19, but will continue to drive markets long after the virus has passed. Japan’s equity market is poised on the cusp of breaking out of a 30-year trading range. The European Union (EU) took a major step in mutualizing debt with its COVID-19 stimulus package, providing a precedent for a common fiscal policy. The UK completed Brexit, which will end up being a coda to the previous phase of the EU, and allowing closer integration among the remaining nations. The size of government stimulus and, more importantly, the switch from a decade of central bank driven monetary stimulus to directly distributed and politically controlled fiscal spending may mark the end of the 40-year inflation moderation. The weakness in the U.S. dollar and strength in commodity indexes are potentially early signs that something has already changed. Finally, the demographic trends that have been approaching for decades are almost here.

This year has also seen some amazing successes and positive trends in key technologies that could unlock long moribund productivity growth. The fastest vaccine development in history highlights the changes within life sciences that will likely be applied to other diseases. The commercialization of space has begun. Advances in non-carbon energy (renewables, fusion, and hydrogen) may make solutions to previous intractable problems possible. In addition, applications of new computer technology, such as quantum computing, will potentially disrupt many stagnant industries providing investors both opportunities and risk.

Near term, there is a risk that the market has high expectations for a return to normal in the second half of 2021. Any disappointment in vaccine efficacy, tightening of central bank policy (or premature ending of fiscal stimulus), or just a disappointment in the strength of a post COVID-19 economic recovery would lead to a negative repricing of market risk. But, as 2020 has clearly reminded us, forecasting the future is difficult. We were able to successfully navigate a treacherous year by sticking to our time-honored process and do not see any reason for that to change. Our approach to global equity remains: own attractively priced, quality businesses with robust balance sheets, run by capable and trustworthy managers, and the future will take care of itself.

This represents the views and opinions of GW&K Investment Management and does not constitute investment advice, nor should it be considered predictive of any future market performance. Data is from what we believe to be reliable sources, but it cannot be guaranteed. Opinions expressed are subject to change. Past performance is not indicative of future results.

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