Four topics to discuss with you today, in our holiday-period shorter format:
#1: We have a deep dive into which stocks have driven the Dow Jones Industrial Average to a healthy double-digit return year-to-date (+16.8 pct). Even though it’s not Wall Street’s go-to US equity performance benchmark and is imperfect due to its price-weighted composition, the Dow remains the predominant way Americans track the US stock market. For example:
- There have been over 4x as many US Google searches for “Dow Jones” than “S&P 500” since January 2020 (pre-pandemic). There are even slightly more queries (1.1x) for “Dow Jones” than “stock market”.
- These terms tend to get the most attention when US stocks have a major pullback, such as in March 2020 as shown by the large spikes to the left of the graph below.
- The most recent data shows a pickup in “Dow Jones” searches over the last month to its highest levels of 2021 amid more volatility in US equities.
The bottom line here is that the Dow’s performance is important when assessing Americans’ perception of US equities. The Average is a direct transmission mechanism for the wealth and confidence effect between the stock market and Main Street, which is why we regularly analyze what is making it tick.
With all that in mind, we calculated the point contribution for the Dow’s 30 components since the end of last year to see which specific stocks have allowed it to post double digit gains for 2021 YTD. Here is the data:
#1: As a background point, just a third (10) of the Dow’s 30 names account for over half (54.6 pct) of the index:
- UnitedHealth: 9.1 pct of the Average
- Home Depot: 7.3 pct
- Goldman Sachs: 7.1 pct
- Microsoft: 6.1 pct
- McDonalds: 4.9 pct
- Salesforce: 4.7 pct
- Amgen: 4.1 pct
- Visa: 4.0 pct
- Honeywell: 3.7 pct
- Boeing: 3.7 pct
Takeaway: this first point is a reminder that the Dow is highly concentrated. Even with 30 names, only about ten (and even fewer this year) tend to have a meaningful impact on its performance.
#2: The Dow is up 5,147 points since 12/31/20, and just its top 3 names by weight make up over half (60 pct) of this gain (data adjusted for rounding):
- UnitedHealth (21 pct of the Dow’s point gain), worth +1,099 points
- Home Depot (20 pct), +1053 points
- Goldman Sachs (18 pct), +938 points
Add the next two highest weighted names, and only 5 companies make up 84 pct of the Dow’s YTD gain:
- Microsoft (17 pct): +893 points
- McDonalds (6 pct): +319 points
Takeaway: almost all the Dow’s 2021 double-digit positive return comes down to just 5 names (UNH, HD, GS, MSFT and MCD). Put another way, less than a fifth (17 pct) of names in the Dow accounts for just over a third (34.4 pct) of the index by weight and drove well over two-thirds (84 pct) of its YTD gains. These 5 stocks have an average YTD return of +41.6 pct, so they worked well for the index this year. That said, the Dow’s price-weighted composition can also heavily skew the index in the other direction depending on the individual performance of highly weighted names.
#3: The Dow is down 1.9 pct from its record high on November 8th, a shortfall of 678 points. Here are the names most responsible for holding the Dow back from that level:
- Four names’ year-to-date point contributions make up two-thirds of the point differential between the Dow’s closing price today and its record close on November 8th: Disney (down 172 points YTD, or 25 pct of the point difference), Boeing (-99 points, 15 pct), Honeywell (-92 points, 14 pct) and Amgen (-79 points, 12 pct).
The balance of the point gap from the record close includes: Verizon (down 64 points YTD, 9 pct of point differential), Merck (-63 points, 9 pct), Walmart (-58 points, 8 pct) and 3M (-46 points, 7 pct).
- In total, 13 out of the Dow’s 30 names are down YTD, or almost half (43 pct) of the index’s components. The remaining 5 on top of the 8 we listed in the first bullet includes: Dow (-41 points), Visa (-38 points), Intel (-27 points), Coca-Cola (-14 points) and IBM (-11 points).
Takeaway: the Dow has just six trading sessions to make a new record high before the year ends, and a better performance in these remaining days from just a handful of names could go a long way. DIS, BA, HON and AMGN make up over ten percent (14.3 pct) of the Dow by weight, but are down 7.7 pct on average YTD. Perhaps the winding down of tax loss selling could help. Either way, they are worth keeping an eye on in terms of gauging the Dow’s performance potential in Q1.
Bottom line: a variety of themes have powered the Dow higher this year, from health care (i.e. UNH) and business investment (i.e. MSFT) to financial activity (i.e. GS) and consumer spending (i.e. HD and MCD). By contrast, areas challenged by pandemic dynamics, such as biotech and aerospace/air travel/entertainment attractions, have hurt the index (i.e. AMGN, DIS, BA and HON). Going forward, getting the Dow to new highs will take an improved virus outlook in order to reinvigorate consumer activity outside the home and further accelerate US economic growth.
#2: US mutual and exchange traded fund money flows. Over the last few Wednesdays (when the Investment Company Institute releases its weekly data), we’ve been expressing surprise at how strong US equity fund flows are at present. Seeing fund investors add to domestic equity fund balances doesn’t often happen in Q4. Because fund flows are tied to 401(K) contributions, we more often see investors (mostly retail) add to equity positions from January – April. For example:
- February 2019 was the only month in that year with positive US equity fund flows.
- April 2020 was one of only two months last year with fund inflows. November was the other.
The current year is proving to be quite different:
- Yes, Q1 had 2 months of US equity inflows (February: +$45 bn, March: +$53 bn).
- But May (+$8 bn) and August ($6 bn) were also positive inflow months.
- And Q4 is also showing net inflows: October (+$23 bn) and November (+$6 bn).
- December is following on the same path: +$25 bn over the first 2 weeks of the month, with $16 bn last week alone.
The net result, with 2 weeks still left to go, is that 2021 will be a strong year for US equity fund inflows. Year to date flows total $393 bn, as compared to outflows of negative $170 bn in 2019 and negative $282 bn in 2020.
Just as remarkable when it comes to December’s data is that fund investors are actually selling fixed income funds, something that rarely happens even on a weekly basis. Bond fund outflows totaled $7.0 bn last week and month-to-date outflows total -$2 bn. There has only been one month of bond fund outflows in the last 3 years (March 2020, of course).
Takeaway: US fund investors are exhibiting an appetite for domestic equities that was almost entirely absent pre-pandemic. This phenomenon is not necessarily apparent every month, but it certainly is showing up in December as we close out a very strong year. The big question now is if January, when 401(K) contributions pick up in earnest again, will show the same trend. We don’t see why it would not – such is the nature of animal spirits – so we will be watching this data closely as we start 2022.
#3: How much US equity market volatility should we expect in 2022? The chart below shows the CBOE VIX Index back to 1990, and we will use it as a framework to answer that question.
The VIX’s long run average is 19.5, as noted, but you can see that it can be substantially above or below that mean for consecutive years on end. We’ve noted three timeframes here:
- The first Gulf War caused a spike in volatility, but it only lasted 18 months.
- The period from the 1997 Asia Crisis through the dot com bubble, 9/11 and Gulf War II was much longer, with the VIX over 19.5 for the better part of 7 years.
- The Financial/Greek Debt Crisis saw US equity volatility remain high for 5 years.
That brings us to the Pandemic Crisis, noted on the rightmost section of the graph. The VIX has generally been above 19.5 for the last 2 years, hardly surprising given all that’s happened. History says we’re not likely done with a VIX above its long run average, but:
- It is reasonable to believe that US equity volatility will on average be lower in 2022 than 2020 (VIX daily average of 26.2) …
- … And likely much like 2021 (VIX daily average of 19.7).
- The bear case for volatility (and therefore bullish for stocks) is S&P 500 corporate earnings power. We continue to believe the Street is too low on its 2022 estimates, and upside earnings surprises will help keep equity prices stable/rising.
- The bull case for volatility (bearish for stocks) is a combination of the uncertainties related to economic growth and Federal Reserve rate policy to address inflation.
Takeaway: volatility comes as a storm, and it usually takes years for it to exhaust itself. We expect 2022 to look a lot like 2021 in terms of market churn because, well, the investment issues are largely the same. Pandemic concerns, inflation, etc. US equities can do well in that environment; 2021 shows that. We just need corporate earnings to come through, and we remain confident they will.
#4: Annualized inflation in the UK is running 5.1 percent, and across the Eurozone prices are up 4.9 percent. Neither reading is quite to the level of the United States (6.8 percent), but both are certainly much higher than 2019 (1.7 pct UK, 1.4 pct EU). How concerned are UK/EU consumers about rising prices?
Here is a Google Trends chart of search volumes for the word “inflation” in the United Kingdom from 2019 – present. As noted, search volumes have increased dramatically in 2021, with the peaks running twice the levels of the prior 2 years.
The German word for inflation is, well, “inflation”; here is the Google Trends chart for that country over the same timeframe. Unlike in the UK, there was a burst of concern about inflation in Germany at the onset of the pandemic in March 2020, but that soon waned. The troubling issue for this very inflation-averse country is that search volumes for this term are now running 3x 2019 levels.
The most startling chart of Google search volumes for “inflation”, however, is the French one (where the word is the same as in English and German). Popular interest here was very low until the start of September 2021. Since then, it has increased dramatically. That peak in December 2021 is 10 – 20x greater than any point from Q1 to Q3 2021.
Takeaway: popular concern about inflation is rising quickly/noticeably in the UK and in the Eurozone’s two most important economies (the same is true in Italy and Spain, by the way). The Bank of England has started increasing its policy rates to address the issue, but the European Central Bank has not and is not expected to do so any time soon. Reports from the ECB’s latest policy meeting characterized the debate over inflation as “robust”. Given the Google Trends data we’ve reviewed today, it will likely remain so in 2022.
Investment Company Institute money flow data: https://www.ici.org/research/stats/weekly-combined