The Value of Uncertainty
This week voters have had an exercise in patience while anxiously awaiting election results beyond our individual control. With mixed sensations of hope and dread, we try to accelerate a resolution by refreshing the news again and again. We are eager for the moment when all votes are counted, the results are official, and when the waiting is over. Then both Americans and observers around the globe can more effectively envision the next four years, and just as importantly, move on with their daily life.
Markets in the US and internationally have been living in the same state of anxious waiting for the last several months. This week, as certainty approached, prices jumped higher. The tech-led S&P 500 gained 7.2% since Monday, the EAFE index of international stocks added 7.9%, and bond prices ticked up slightly as well. These strong stock gains recovered the losses both indexes experienced over the past month; overall, equity markets globally have gone mostly sideways since the end of July.
While it is tempting to credit the election for the rapid increase in equity prices, the market is more complex than that.[1] Financial commentators regularly assert a clear understanding of market moves in hindsight, as if it were possible to reduce complex behavioral outcomes to a single issue or event. The complexity is technical as well as emotional, and the promise of resolution in a stressful moment can be enough to prompt investors to move forward with confidence. We’ve seen a huge release of anxiety this week that allowed prices to move upward; what’s next will depend on the resolution of two other areas of pressing uncertainty: an intensifying pandemic, and the ongoing economic limitations it has created. The specter of a resurgent coronavirus[2] and the renewed lockdowns of multiple European economies didn’t disappear during this hectic election, and the vital need for additional fiscal stimulus in the US remains.
Incremental Certainty
The markets celebrated incremental certainty this week. The election happened as scheduled, and votes are being counted as they are every election year. Despite images of boarded-up storefronts, election-related unrest and violence did not manifest in a material way. And, while recounts and legal challenges still loom, the months of campaign bombardment and political robocalls are finally at an end. This relief likely contributed to November and December being the historically best performing months on average in presidential election years dating back to 1944.[3]
Incremental certainty also arrived regarding the widely forecasted, but ultimately underwhelming “blue wave”. For investors looking through a purely economic lens, this outcome ranks favorably on the hierarchy of possible results. The perception of certainty is coalescing around a vision of a split government (the consensus projection at the time of this writing) that could bring increased stability to the White House while limiting tax increases or antitrust regulation of tech companies via a Republican-controlled Congress. Amidst the backdrop of an ever-changing pandemic landscape, the perceived predictability of political gridlock is acting as a short-term tailwind for the market.
A Necessary Ingredient
While certainty may deliver relief, it is actually uncertainty that drives progress. Within the uncertainty, there is potential. The uncertainty of this political moment drove a record number of Americans out to vote, demonstrating a desire to voice their vision of the future, which is yet unwritten.[4]
In an investment portfolio, the future is also unknown, and current prices are based on a vision of growth that is not guaranteed. The degree of uncertainty or risk assigned to those future earnings is directly correlated to the potential reward. Investing in a one-year treasury bill backed by the US government has very little uncertainty and thus minimal return. Its value is the intrinsic confidence of getting your money back with some interest. On the contrary, investing in a fledgling but fast-growing company may carry enormous uncertainty about future earnings. Once it is known that its earnings growth trajectory will more closely resemble that of Google rather than Pets.com, the price has already increased, and the opportunity has passed.
Two weeks ago, there was still significant uncertainty about the business model and potential costs for Uber, Lyft, and related delivery services operating in California. Record-breaking amounts of money went into California’s Proposition 22 that determined whether drivers continue as independent contractors or if they would be required to comply with the law to provide the myriad of benefits and protections that designation as employees entails. Investors were not just concerned about California — which represents only 5% of Uber’s pre-COVID revenue and 16% of Lyft’s — but that the ruling may be a precedent for other cities or states to follow.[5] In the end, California voters decided companies could continue to classify drivers as independent contractors. The stock prices of Uber and Lyft both increased by over +25% this week. The uncertainty was removed, and the price jump reflected that.
A Balancing Act
Life awash in uncertainty is not sustainable. As humans, we have an innate desire for control and security. That need for stability leads us to judge an environment — or a decision, such as buying or selling an investment — to be certain enough to move forward with conviction. If there is considerable uncertainty, we look for a way to cope with that.
In the case of investment portfolios, that means assessing where investments provide stability and consider upcoming cash needs. Revisiting expectations for the intermediate term can make the short term feel more certain as well. Our clients are fortunate enough to have portfolios intended to support them for decades or even generations into the future, and protecting their ability to stay patiently invested through market cycles is the surest path to build that long-term financial security. And while we don’t support market timing, we do support action to create enough near-term certainty to allow portfolios to participate in growth born from uncertainty.
The value of incremental certainty extends beyond investments. One area where we regularly support clients is the process of creating or revisiting their comprehensive estate plan. The uncertainty of their possible futures can stimulate conversation and action that reduce feelings of stress about what will happen when they lose capacity. Proactive and personalized planning provides a counterweight to life’s necessary uncertainties.
Certainty has value. Uncertainty has potential. The balance of the two is vital to our continued growth, both individually and as a community.
1 Choose Your Market Narrative. Published November 5, 2020. By Barry Ritholtz. Ritholtz.com
2 Coronavirus update: Fauci’s dire prediction comes true: U.S. counts more than 100,000 cases in a single day to set pandemic record. Published November 5, 2020. By Ciara Linnane. MarketWatch
3 Here is how S&P 500 trades after a presidential election, according to market history. Published November 4, 2020. CNBC
4 2020 turnout is on pace to break century-old records. Published November 4, 2020. By Kevin Schaul, Kate Rabinowitz and Ted Mellnik. Washington Post
5 Uber and Lyft Stocks Rally as California Approves Prop 22 and the Focus Shifts to Earnings. Published November 4, 2020. By Eric J. Savitz. Barron’s
This commentary on this website reflects the personal opinions, viewpoints, and analyses of the North Berkeley Wealth Management (“North Berkeley”) employees providing such comments, and should not be regarded as a description of advisory services provided by North Berkeley or performance returns of any North Berkeley client. The views reflected in the commentary are subject to change at any time without notice. Nothing on this website constitutes investment advice, performance data, or any recommendation that any particular security, portfolio of securities, transaction, or investment strategy is suitable for any specific person. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. North Berkeley manages its clients’ accounts using a variety of investment techniques and strategies, which are not necessarily discussed in the commentary. Investments in securities involve the risk of loss. Past performance is no guarantee of future results.
