What’s powering the rally in U.S. small cap stocks?

On the latest edition of Market Week in Review, Senior Portfolio Manager Megan Roach and Research Analyst Brian Yadao discussed the latest developments in the race for a coronavirus vaccine, in addition to government responses to the surge in COVID-19 infections. They also spoke about the latest economic data releases and the recent strength of U.S. small cap stocks. 

Vaccine developments: Pfizer, Moderna report high efficacy rates

Markets cheered on additional good news from the vaccine front the week of 16 November, Roach said, including Pfizer’s announcement that its COVID-19 vaccine candidate has an efficacy rate of 95%. “This is an even higher rate than the drugmaker reported in preliminary results earlier this month-and it’s paved the way for Pfizer to file for emergency-use authorisation of its vaccine with the U.S. Food and Drug Administration,” she stated. The company also announced that it expects to produce up to 50 million doses of the vaccine by year-end, with up to 1.3 billion additional doses in 2021, Roach said.

Adding to the positive developments, drugmaker Moderna announced 16 November that its experimental COVID-19 vaccine also looks to be nearly 95% effective, she stated. In addition, more early data on vaccine candidates from AstraZeneca and Johnson & Johnson is expected to be released over the next several weeks, Roach said.

“All in all, the recent vaccine news has been very positive, and it suggests that the world may be looking at an increasingly robust pipeline of multiple effective vaccines. This boosts the timeline in which large-scale dosage could be available for the general population-to perhaps as early as the second quarter of 2021,” she remarked.

Governments tighten restrictions amid COVID-19 surge

Despite the progress on the vaccine front, the word is again grappling with a surge in COVID-19 infections, Roach said. This has led governments across the globe to institute new lockdown measures to slow the spread of the virus and prevent healthcare systems from becoming overwhelmed until a vaccine is widely available, she explained.

“In the past week alone, governments in France, Germany, Australia and Japan have tightened lockdown measures, with new restrictions also ramping up in the U.S. at the local level,” Roach said, noting that in New York City, in-person schooling was called off 19 November, with indoor dining likely to be suspended soon.

With cases surging, European Central Bank President Christine Lagarde signaled support for a near-term monetary stimulus package in December, while also urging European Union leaders to make pandemic relief available without delay, she stated. Meanwhile, in the U.S., the chances of additional fiscal stimulus before the end of 2020 appear to have dimmed, Roach remarked, with the Senate now on recess until after the Thanksgiving holiday.

October retail sales: Strong in UK, weaker in U.S.

Turning to the latest economic data, Roach said that numbers released the week of 16 November offered mixed signals on the health of the global economy. “The data from the UK was more encouraging, with consumer prices in October rising by 0.7% on a year-over-year basis-the highest reading in three months,” she noted. In addition, October UK retail sales increased by 1.2% from September, marking the sixth consecutive month of gains, Roach said.

“This was a positive surprise, as consensus expectations were for a flat reading,” she noted, adding that the boost was likely driven by an earlier start to the holiday-spending season, due to consumer concerns over renewed lockdown measures.

The data was a little weaker in the U.S., Roach said, with U.S. retail sales in October inching up just 0.3% from the previous month-the smallest increase since the nation’s economy began reopening in May. On the employment side, U.S. initial weekly jobless claims also ticked up, from 711,000 in the week ending 7 November to 742,000 in the most recent survey, she noted.

Another strong week for U.S. small cap stocks

Shifting to recent market performance, Roach said that U.S. equities ended the week of 16 November largely flat, with non-U.S. stocks gaining roughly 1%. “This was a marked cool-down from the week prior, although we continued to see notable swings in style leadership as investor appetite fluctuated based on the latest news,” she explained. Overall, sectors of the market more sensitive to the economic recovery-such as energy, retail, travel and industrials-slightly outperformed more defensive and stay-at-home sectors, like technology, healthcare and utilities, Roach observed.

The week of 16 November also saw continued market leadership from small cap stocks, she said. “These names tend to be more cyclical than large caps-and more sensitive to improvements in the economic cycle,” Roach stated, noting that the Russell 2000® Index of small cap stocks recently hit an all-time high for the first time since August 2018.

Overall, she expects market performance to remain choppy in the next few months, as new lockdown measures could cause temporary damage to the economic recovery, including fourth-quarter growth. Ultimately, however, Roach remains very constructive on the medium-term outlook, due to promising vaccine developments and the potential for additional stimulus.

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Any opinion expressed is that of Russell Investments, is not a statement of fact, is subject to change and does not constitute investment advice.