The November Effect

November has been by far one interesting month since the spike in volatility that hit all of us last February. By now, many of you who follow financial markets in general would have realised the impact the recent sequence of events – US Presidential election and vaccine announcements – have had on the markets’ performances and one’s investment portfolio. The impact overall has been positive, witnessing some strong positive momentum week-on-week. However, in the next few paragraphs, I shall delve into more detail as to how the various asset classes, sectors and bond yields were specifically impacted – with a focus on the US and European regions.

The two broad equity indices, in the US and Europe, both recorded double-digit gains since the end of October, albeit the US lagging Europe by circa 3.3 percentage points at the time of writing. More specifically, the S&P 500 index appreciated by 11%, while the Eurostoxx 600 index was up by circa 14.3%. In my previous articles I had already discussed the substantial divergence in performance between the two regions over the past decade as well as since the beginning of 2020. In fact, despite Europe’s outperformance in November, the gap since the beginning of the year is still substantial – Europe down 6% while the US up by just under 13% or so, or a 19% gap. The S&P 500 index has by far a larger weighting in companies which benefitted from the stay-at-home trade such as Amazon, Facebook, Alphabet (Google) or Netflix. On the other hand, the weighting of such companies in the European index is rather subdued, with Health Care, Industrial Goods and Services and Food, Beverage and Tobacco accounting for over a third of the index weighting – not to mention that over a fifth of the index is exposed to Great Britain.

One might therefore expect to witness a stronger recovery in companies and sectors which were worst impacted because of the COVID-19 pandemic. In particular, companies with exposure, directly or indirectly, to the Entertainment and Leisure industries, and small-to-mid sized companies overall. Companies with a small market capitalisation includes those with a market capitalisation of less than $2 billion dollars, and which tend to experience a higher level of volatility due to inherent risk of the asset class itself. Thus, such companies, or indices tracking such companies will usually experience larger downside swings at times of heightened economic uncertainty / crises.

In fact, the rotation effect that we’ve started seeing since last August was boosted in November, particularly as Pfizer and Biontech, Moderna, and more recently AstraZeneca’s vaccine announcements fuelled investors’ sentiment. This was vividly reflected in November, with much stronger gains recorded across small-cap and value stocks which were the primary laggards in the midst of the pandemic.

Making reference to the US Russell 2000 Index, which measures the performance of circa 2,000 smallest-cap American companies is quickly catching up the large-cap S&P 500 index, following a staggering 20% rally since the turn of the month – leaving it only two percentage points behind its big-brother index since the beginning of 2020. Despite the outperformance recorded against both the S&P 500 index as well as against the Tech-Heavy NASDAQ 100 index (+9.6% since October 31), the latter is still the overall winner this year, up by close to 39%.

In Europe, the situation remains relatively bleak on a year-to-date basis. November was likewise stronger for the small-cap end of the equity spectrum, with the FTSE Europe Small Cap index recording an astonishing 19% appreciation. This does not only translate into an outperformance over the month but outpacing the Stoxx 600 index since the beginning of the year by over 5%, to recover almost all of the declines recorded earlier on.

One particular segment of the market, which perhaps attracts interest to a number of traditionally dividend-seeking investors is banks. It is interesting to point out that European banks’ recorded a 34%+ return since the beginning of the month, and yet still they are still down by around 22% since the beginning the year. The block’s central bank, in its latest financial stability review last Wednesday did state that pre-pandemic level profits will not be seen before 2022.

A similar trajectory can be observed on the fixed income front across the two economies. Starting off with the high yielding side of the fixed income spectrum, the asset class in Europe recorded gains just north of 4%, as per the Markit iBoxx Euro Liquid High Yield Index, whereas the ICE BofA US High Yield Constrained Index is lagging by some 0.5% over the month, having appreciated by around 3.8%. Nevertheless, on a year-to-date basis, the US index is still ahead of the European counterpart, with the latter just breaking-even on a total return basis.

Shifting onto the higher-quality end of the fixed-income spectrum, gains were likewise observed, but undoubtedly of a much smaller magnitude. The EU and US broad investment grade corporate bond indices recorded an appreciation of circa 1% and 2% respectively. The relative outperformance on the US front was not just recorded in November, but likewise since the beginning of the year – with the ICE BofA US Corporate Index up by over 8% since the beginning of the year as opposed to a gain of just under 3% recorded in the Markit iBoxx EUR Liquid Corporates Large Cap Index

Therefore, one will note that the positive sentiment brought about across financial markets over the past few weeks lifted all sorts of investment asset classes. As expected, the risk-on mode triggered at the beginning of the month initially led to a jump in government yields, with the US 10-year treasury yield up close to 1% on November 9. Meanwhile, the German 10-year bund initially increased to a negative 0.48% before reversing most of the shift as the ECB head, Christine Lagarde, hinted at further monetary stimulus before year end.

As a concluding remark, ensuring the right balance in one’s portfolio between fixed-income and equity assets is essential in determining and managing risk and return expectations. Even so important is that one should ensure that enough diversification is present within a portfolio’s underlying asset classes. Specific sectors and asset classes might have benefitted the most during parts of an economic downturn or rebound, but others might end up benefitting more during different stages of the economic cycle. As such, it is futile to stay chasing the best performing asset class during any one particular period or to perfectly try to time entry and exit points. In my view, the most effective strategies are the ones which focus on the long-term strategic balance which best fit one’s risk profile, needs and objectives, and less so on the tactical side focused on the short-term market and economic scenario.

Colin Vella, CFA, is the Head of Wealth Management at Jesmond Mizzi Financial Advisors Limited. This article does not intend to give investment advice and the contents therein should not be construed as such. The Company is licensed to conduct investment services by the MFSA and is a Member of the Malta Stock Exchange and a member of the Atlas Group. The directors or related parties, including the company, and their clients are likely to have an interest in securities mentioned in this article. Investors should remember that past performance is no guide to future performance and that the value of investments may go down as well as up. For further information contact Jesmond Mizzi Financial Advisors Limited of 67, Level 3, South Street, Valletta, on Tel: 2122 4410, or email [email protected]