Rosenberg: Pfizer’s promising COVID-19 vaccine is a potential game changer for the economy and how to invest

Well, we certainly did take a giant leap forward Monday with the Pfizer announcement on the efficacy of their phase three vaccine trial. Over 90 per cent efficacy almost seems too good to be true and hopefully it is true.

The next stage will concern safety and then comes durability. But if Pfizer is successful here, it surely is a game changer. And there are other companies lining upright behind. At least there is a light at the end of the tunnel, and the tunnel isn’t as long as many of us had thought.

The bottom line is that downside economic risks, which always have been tied to health risks, have subsided sharply.

The market reaction smacked initially of a surprise-led short covering rally in value stocks. Energy, banks and travel stocks soared. Anything linked to getting life back to normal absolutely flew on Monday.

That rotation trade continued into Tuesday. The tech, communication services and consumer discretionary indexes of the S&P 500 were down 1 per cent each at midday, as investors moved to sectors expected to benefit from a full reopening of the economy, such as energy and industrials. Value-linked stocks, which tend to outperform coming out of a recession, added 4 per cent.

The yield on the 10-year T-note on Monday jumped 11 basis points, to 0.92 per cent, and is testing critical support levels on Tuesday. Gold is up on Tuesday but hasn’t recovered from its 4.4 per cent fall on Monday.

While it is obvious that a risk-off trade that involves good news on the pandemic will cause a sell-off in safe-havens gold and treasuries, it must be remembered that before the pandemic, both asset classes were in full-fledged bull markets.

So I want to make this point and make it emphatically. Treasuries and gold were in secular bull markets before anyone even knew what COVID-19 was. So we are indeed seeing a level shift here in the “safe havens.” To me, these are corrections in bull markets. They come and they go. Equities are not the only asset class constantly being bought on price dips.

All that said, there are tailwinds for the equity market here, and the value stocks are still so cheap in relative and absolute terms that this trade could persist a while longer. But at this point, the Pfizer news has to go from success in a trial to something real and tangible, and so while the news is very good, there is still a road ahead.

What Happens if We Return to Normal?

A lot did get priced into markets on Monday. If the initial market reaction is correct, then we should be seeing the inoculations begin by the end of the first quarter. This is what is being priced in. That means no first-quarter U.S. GDP contraction and it means a likely second-quarter economic boom.

We shouldn’t be too dismissive of the timing. First, winter is coming and that means, absent a vaccine, the case counts, hospitalizations and fatalities are likely to get worse. And one behavioral aspect of the Pfizer news is that now that consumers believe we are just a stone’s throw away from a vaccine, they will become more cautious as opposed to reckless — this is not the time to be taking undue risks. If the vaccine was five years away, it would be understandable to go ahead and live your life - who wants to be cooped up that long? But human nature is such that people will now be willing to be patient with the vaccine coming soon. As in - why screw this up? So this, along with thin stimulus, does complicate the economic backdrop for this quarter and perhaps into early Q1.

If people begin to see that life is going back to normal, we are talking about a US$700 billion dollar hole in the consumer-services area of the economy (like airlines, rail, hotels, restaurants, retail etc.) that will get filled and likely rather quickly. This is a 3 per cent boost to U.S. GDP right there and not including all the other multiplier effects from a speedier pace of job creation and generally increased economic confidence.

This is not my call but is now not out of the realm of expectations that a return to normal, or something close to normal, can occur as early as the first quarter. This is something new - that we couldn’t even have contemplated before the Pfizer news. And so the markets are doing nothing more than repricing risk.

Remember that the pre-COVID-19 world was still one of slow growth, low inflation and interest rates that had no capacity to rise for very long. This is what hangs in the balance for 2021. If a vaccine comes in the first quarter and people start to get inoculated, we stand a very good chance of seeing 4.5 per cent real GDP growth. Even if it’s just 50 per cent as far as efficacy is concerned, the timing would be so significant in terms of being earlier than expected that real GDP growth would still come in, according to our models, at +3.8 per cent. But if this is a 2022 story, we are talking about a sub-1 per cent performance next year, possibly flat.

So here’s the deal. If the transition is a smooth one and the Pfizer news has validity, there is no reason why the economy doesn’t then start to turn normal again. Or as close as possible. People will still want to work from home. And people will still want to cook and use their Peloton bike. If we have an effective vaccine, the reality is that most, not all but most, gyms will re-open as will restaurants, hotels, airports and shopping centers.

But if the markets have jumped the gun this week, it goes without saying that the value trade quickly morphs into a value trap. Which is why some continued diversification in the “stay-at-home” theme - including Treasuries and gold - is prudent, even if you buy into this latest hope-based market move.