The year 2020 will be a year that no one will soon forget. The two events that continue to play out in front of us dominated the headlines and the economy over the last 12 months. The pandemic shuttered the global economy and inflicted a deadly toll, while the circus of a US election played out and continues to bring uncertainty to the world’s largest economy. COVID-19 showed just how linked we are across the globe, in terms of health and in terms of our markets and supply chains. Dysfunctional politics has shown how a crisis is exacerbated by populist leaders. Despite all this, markets have rebounded off their March lows and finished the year with a strong fourth quarter. This dichotomy can be attributed principally to the overwhelming fiscal and monetary response from governments, and, of course, finally some light at the end of the tunnel with the approval of multiple vaccines.

To over-simplify, the predominant theme of the year, COVID-19, was an exogenous shock - not related to failings in our economy or market mechanisms as in 2008. While the pandemic exposed some weaknesses in global health care systems and supply chains, it was not directly attributable to over-exuberance in economies or markets. This pandemic spread across borders with little regard to political views or economic beliefs. The response was swift and proportionate with massive stimulus that effectively said, “we will pay for this shutdown for however long it will take”.

The pandemic will only leave some businesses relatively unscathed. Small businesses and the service industry will be disproportionately hurt, while larger corporations will largely weather the storm. This inequity will need to be addressed, but in the fog of war, central banks have used interest rates and “money printing” as their most blunt instrument along with stimulus cheques from governments. Because of central banks’ efforts to shelter any downside in markets, inherent risk-taking to the upside was effectively encouraged. This is where Act 2 may come to pass. Without the benefit of a crystal ball, it is our view that the next downturn will be less “exogenous” and more of our own making. To be specific, ultra loose monetary policy will come home to roost. Excessive risk-taking with little concern for potential consequences or losses (sometimes described as moral hazard) cannot continue unpunished. Asset pricing must once again reflect the actions of the morally hazardous or the market economy ceases to make sense.

There has been a long history of market bubbles dating all the way back to the Tulip craze in Denmark during the 1600’s. More recently, we have seen the Roaring ‘20’s lead to the Great Depression, the crash of the “Nifty Fifty” in the early ‘70’s, the technology boom of the ‘90’s and, of course, the financial crisis in 2008. Each of these had unique circumstances surrounding them, but ultimately all were a function of over-exuberance in an asset class and in a group of securities. What we are currently witnessing is unique, given the environment of ultra low (and in some cases negative) rates. However, the similarities to the late ‘90’s are too hard to ignore - specifically, the rush to technology stocks which are now roughly 40% of the S&P500. Even more astonishing, a group of 5 technology stocks make up more than 20% of the $32 Trillion S&P500. Valuations are at levels similar to what we saw 20 years ago and to ignore history would be foolhardy at this point.

Now, predicting the timing of a burst in a bubble is a difficult task. Alan Greenspan warned of irrational exuberance in 1996. In 1998 the market had a shock of its own with the emerging market debt crisis, along with Russia defaulting on its debt. Central banks responded with a series of rate cuts at that time and eventually markets not only recovered but continued to soar for the next two years. Knowing when to “get out” is a game best left to gamblers. The best way to manage this “bubble risk” is to focus on what you own; understand the predictability of cash flows and the soundness of business models; and look to strong management teams that are not overly focused on their share prices. Underpinning all of this is the necessity of ensuring that valuations are reasonable, given all of the above. Clearly, there are many stocks right now where the reality of the business does not connect with the exuberance of the price.

The news of multiple vaccines provided all of us with a huge sigh of relief, especially for protecting those most at risk. With that said, it appears we will have to endure, at minimum, a quiet winter before things begin to normalize in the spring and summer. The victory of Joe Biden will also hopefully lower the temperature of politics in the U.S. Regardless of Democrat or Republican control, the market ultimately craves predictability. The level of uncertainty is high and while it is easy to get caught up in the frenzy of the moment, rest assured we are making decisions looking out over the next 5 years, not the next 5 months. We believe that this is the responsible way to both grow and protect your wealth, and we take this responsibility very seriously.

As we enter a new year, we would like to thank you for the trust you have placed in us and we look forward to working with you to achieve all your personal and financial goals. We wish you and your families a safe and happy 2021.