10 Lessons from 2020

Our Ten Lessons are a similar, but different take on Byron Wien’s (Vice Chairman of Blackstone) Ten Surprises. This annual exercise has undoubtedly helped Byron grow as an investor, while sharing valuable insights and wisdom to his readers for 36 years and running. In our version, we will share ten lessons about investing, markets or the economy that we believe were either solidified, reinforced, or flat out new to us from our experience investing throughout the prior year. Some of these lessons may become principles that guide portfolio management at Fire Capital for many years to come. Others may end up being short term anomalies that get discarded over time. Regardless, we hope these lessons build on themselves year over year with the hope of giving back some wisdom to those who are curious enough to listen.

1. ANYTHING IS POSSIBLE

If you run the simulation enough times, the improbable becomes possible. In the last 100 years, the world has experienced two global pandemics that stopped the world in its tracks. Yet we continue to use the word “unprecedented” to describe the reality we are currently living. This past year was a good reminder as to why true portfolio diversification is so important.

2. ALL BEAR MARKETS ARE NOT CREATED EQUALLY.

Goldman Sachs published a research report in early March classifying historical Bear Markets into three subcategories: Structural, Cyclical, and Event Driven. While each resulted in similar issues such as rising unemployment and falling corporate profits, the depth, severity, and stock market reaction of each varies widely. The Event Driven variety (like the one we experienced in 2020) are triggered by a shock to the system but are by far the shortest in duration and recovery time. Cyclical bear markets are what economists consider to be “natural”, mostly caused by the ebbs and flows of the business cycle. Structural bear markets are the scary ones caused by systemic issues such as banking failures like the Great Depression and the 2008 Financial Crisis.

3. EVERYTHING IS RELATIVE.

People generally need a baseline to help compare one option with another. This applies to everything, from shopping on Amazon for a new espresso maker to evaluating how “expensive” the stock market is at any given point in time. We enter 2021 with the S&P 500 trading at over 30x trailing earnings and 23x forward earnings. A correction is inevitable at some point, but in our view any such event would be a great buying opportunity. Simply put, capital needs to flow somewhere and the traditional alternatives (i.e. cash and bonds) appear to be even more expensive than the equity markets.

4. INTEREST RATES ARE KING.

While there are clearly many other factors that affect asset prices, interest rates are one of the foundational elements of financial theory. Low interest rates since the Financial Crisis have undoubtedly affected markets and have even been called into question as a potential driver of widening inequality. If an investment fortune teller granted me only one question, it would be to know the path of interest rates over the course of my career.

5. THE GLASS IS HALF FULL. I REPEAT, THE GLASS IS HALF FULL..

Sometimes having a positive outlook can be hard, particularly after a year like 2020. Despite the globally recognized challenges of this past year, markets gave us something to smile about with strong returns across most major asset classes. Looking at S&P 500 data going back to 1926 (at the time it was the “S&P 90”), only 25 out of 95 years ended with negative total returns. For all other years, you made money if you were invested in “the market”.

6. WALL STREET IS NOT MAIN STREET (AND IT MAY NEVER BE AGAIN).

The disparity between the stock market and the real economy was on full display in 2020. Unemployment in the U.S. ticked up to Great Depression levels, while the S&P 500 hit record highs once again. Astonishingly, 69% of the index’s total return was attributed to one sector – Information Technology. The trend toward technology is nothing new, but it is a reminder that we are not going back to the way things used to be. For comparisons sake, Facebook’s market cap is 10x that of General Motors, but employs 3x fewer people.

7. IF YOU REALLY ARE A LONG-TERM INVESTOR, THINK LONG-TERM.

As long-term investors we tend to focus on, well…the long-term. This mindset helps to filter out the signal from the noise; and in 2020 there was a lot of noise. This may not seem like a novel concept, but in the investment management industry so many smart people focus so much of their energy on what could happen in the short-term.

8. CHINA DESERVES MORE ATTENTION IN INVESTMENT PORTFOLIOS.

A couple decades ago a global pandemic that slowed down international trade would have crippled the Chinese economy due to their reliance of exports. That is clearly no longer the case. By most accounts, their economy has rebounded sharply compared to that of developed nations. Emerging markets may only represent on average about 5% of a client’s asset allocation and China represents about 40% of the MSCI Emerging Markets Index. That equates to a less than 2.5% allocation to the world’s second largest economy. While the return opportunities (and risk) are well documented, perhaps most underappreciated is the diversification benefits that modern China brings to a portfolio.

9. ESG DATA IS MORE VALUABLE THAN MOST REALIZE.

We are still in early days as it pertains to the use of ESG data for investment decision-making purposes. However, 2020 was a good litmus test for the movement to more sustainable investing practices. In a year full of turmoil, ESG funds experienced record inflows. In a world that is increasingly being driven by social and environmental standards, getting a better grasp of each, and how they affect businesses, seems like not only the right thing to do, but a smart thing to do.

10. PEOPLE ARE RESILIENT.

Not much more to say here except to never underestimate humanity or a motivated individual. There is always a way…

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