Vaccine success has given investors their bull case

Markets and investors finally can see a vaccine light at the end of the pandemic tunnel.

Global market sentiment was already buoyant in the wake of the confirmation of Joe Biden’s victory in the US presidential election over the weekend. But the big story for markets and investors is now the breakthrough on a Covid-19 vaccine

News that the vaccine being developed by Pfizer and Germany’s BioNTech has been found to be more than 90 per cent effective in late-stage trials has caused dramatic shifts across financial markets.

Much, of course, remains to be determined on the timing and deployment of a vaccine. But it is undeniably a moment that has changed the outlook for investors and society, particularly given that pharma companies believe it could arrive before the end of the year.

Ajay Rajadhyaksha, head of macro research at Barclays said should a 90 per cent efficiency rate prove correct, it “increases the odds of a quicker return to normalcy”.

Robin Winkler, director of FX strategy at Deutsche Bank, added that many countries “have pre-ordered a significant number of doses” to speed access to a successful and approved vaccine. “In per-capita terms, the US, the EU, Canada, Japan, the UK, Australia and New Zealand have all pre-ordered enough doses to take a major step toward herd immunity early next year,” he said.

This potentially sets the stage for a broader economic recovery in 2021 that, in the near term, will be supported by the current stimulus of governments and central banks. Crucially, the post-pandemic recovery will be accompanied by the release of pent-up demand from consumers who have been amassing savings.

Also looming is the likelihood of a big investor shift out of low-yielding bonds and cash. That in turn provides a lot of dry powder for sustaining share market gains and sets the stage for a healthier shift in leadership within equity markets.

Surging global share markets on Monday were being propelled by companies that stand to benefit the most from a stronger post-pandemic economy.

Tech and other “stay-at-home” stocks that benefited from the digital acceleration of society during lockdowns are now being left behind. A rise of nearly 4 per cent for US small stocks contrasted with a 1.5 per cent slide in the tech-focused Nasdaq Composite. Across Wall Street and Europe, equity sectors hit hardest by lockdowns are enjoying quite a rebound.

“All the stocks that were badly sold off this year are now among the biggest risers of the day, as investors assume the vaccine will be deployed successfully and there is now a greater chance of earnings recovery in the short to medium term,” said Russ Mould, investment director at AJ Bell.

This so-called global reflation trade also resonates in the form of stronger commodities, with oil prices rising sharply on Monday. Emerging market currencies are also gaining steam, while the US dollar and precious metals are losing more of their haven lustre.

The other key development for financial markets is a sharp rise in the 10-year US Treasury yield, with this important global benchmark heading above 0.90 per cent. Deployment of a vaccine that triggers a sustained economic recovery means higher bond market interest rates. That could propel the US 10-year yield back towards 1.5 per cent, the level that prevailed before the pandemic arrived.

Rather than fear higher interest rates, investors should view them as another step on the road towards an eventual recovery and a positive driver of the reflation trade. Financials are an important sector of the share market and higher interest rates will bolster these groups’ profitability. As interest rates rise, the difference between what banks charge borrowers and what banks pay for funding widens.

A sustained rally in financials in global terms favours share markets in Australia and the UK, according to Robert Buckland and the equity strategy team at Citi. “These are the two major markets with most exposure to sectors that outperform when nominal yields are rising. They are heavily weighted towards financials. The US is heavily exposed to tech stocks, and may lag any vaccine-driven rally,” he said.

The scars from the pandemic will take a long time to heal but the rationale for investor optimism is sound.

Until last week, the best-case hopes for investors were based on further government spending and central banks keeping interest rates stuck at ultra-low levels for an indefinite period.

Now, science stands to shift investors from crowding into tech shares and low-yielding bonds and focus on a broader range of opportunities across financial markets that will benefit from a full restoration of economic activity in 2021. Investors have their bull case thanks to a vaccine.

michael.mackenzie@ft.com