Three related thoughts:

–Securities analysis, at least as I do it, has something in common with the scientific method. That is, you make up a story (form a hypothesis) about the future possibilities for a company with a publicly-traded stock. You identify the most important points and forecast as best you can future earnings growth. Then you look for evidence that will either strengthen or weaken your belief that your story is true.

Where this process differs from science is not only that lab coast are optional but that by and large it’s observation of events outside of your control–earnings reports, industry or government data…–rather than experiments you carry out, and whose timing you control, that develop the confirming/falsifying evidence. Yes, you can buy and use a company’s products–I used to bring home video games made by publicly-traded firms and leave them on tables to see what my kids would do with them, for example–but if so you have to be aware not to bet the farm on this.

–my most important made up story of the past few years has been that the now-outgoing administration had adopted early on a set of destructive economic and social policies–bad beyond the craziest hopes of Beijing or Moscow–that would slow domestic growth significantly and disadvantage US-based multinational firms enough to cause them to begin to make plans to relocate. I thought of this being a milder version of the capital flight that happens in failing third-world countries. I also thought one very general way to measure the right or wrong of this would be to compare the NASDAQ, chock full of non-US earners, vs. the Russell 2000, comprised of mid-cap domestic firms. Since early 2018, this indicator has been signaling capital flight.

Then came the pandemic. The President of the United States, the ultimate influencer in the land, told us, in effect, that it was unpatriotic to listen to medical advice to avoid exposure to the virus. The result of this horrible misstep has been a second, much more visible, economic and social disaster–and a second wave of flight by investors from the domestic economy.

–we’ve entered year four since the beginning of this dynamic. That’s an extremely long time for any idea to work so One of my main underlying ideas has been that the motive force behind all has been Trump just being what his real estate past showed him to be. If so, this would mean Trump’s losing the election last November could mark the end of the capital flight trade. Certainly, from the day after the election, the R2000 has been outperforming NASDAQ–although smaller tech/biotech companies have continued to show relative strength.

In the aftermarket last night, NASDAQ futures began to weaken, and R2000 futures to strengthen, when early Georgia senate election results indicated strong showings by both Democratic challengers. That has continued through my writing this at around 10am est.

I interpret this as a further indicator that the pro-NASDAQ/anti-R2000 trade has actually been a product of Trump’s bungling.

I also think this year’s market action will be much more complex than in 2018-20. The thing that’s clearest to me is that names whose main attraction has been their usefulness during the pandemic are now a big question mark. My guess is also that once the official federal government position changes from pandemic denial, anti-pandemic public health measures will be more effective. For us as investors, this means thinking harder about what the post-pandemic travel world will look like.

There are longer-term issues about interest rates and the currency, The knee-jerk reaction from the Georgia election has been rates up, $US down. Whether that’s right or not is open to question, I think,

The traditional “January effect” in the US stock market, discussed to death in academic finance, is the tendency of sketchy small cap, low share price stocks to bounce strongly during the opening few weeks of the calendar year. That’s mostly because this kind of walking-disaster name tends to attract not so savvy risk-seeking retail investors. They aggressively sell such stocks in December to recognize the losses they’ve racked up so they can get an income tax deduction. The “bounce” is less enthusiasm for the names and more recovery from the downward pressure exerted on them in December.

Historically, there’s also been a (less important) tendency for taxable investors of all stripes to nurse winners they intend to trim or sell into January to defer paying income tax for another year. The increased importance of mutual funds/ETFs and index investing has pretty much put an end to this behavior, although it wouldn’t surprise me if this temporary market pressure returns, as the brokerage industry begins to court a new generation of individual stock buyers.

What I’m noticing so far this January are the developments that are not evincing any reaction on Wall Street. This has to do with the strong outperformance of the Russell 2000, a proxy for smaller businesses focused on the domestic economy, vs. the S&P 500, half of whose earnings come from abroad.

Two distressing recent developments:

–covid cases are mushrooming, to the point where Los Angeles is reported to be instructing ambulances not to bring patients to the hospital who are unlikely to survive

–Trump’s attempts to overturn the election results, which sound like something straight out of the old Soviet Union. There’s the tape of Trump tying to coerce Georgia into falsifying the voting results in that state and there’s the statement form formers Defense secretaries warning of possible criminal prosecution of military commanders who follow orders to use troops to intrude into the election process. The latter suggests Trump may also have made Georgia-style calls to generals. More shockingly, a significant number of senators and representatives have rallied behind Trump in this effort.

The investment point? …the Russell 2000 continues to outpace NASDAQ and the S&P, signaling Wall Street’s belief that none of this will have a negative impact on the domestic economy or on investors’ continuing willingness to prefer domestic to multinational names.

I’ve just updated my Keeping Score page for December, 4Q20 and the full calendar year. I’ve also added my thoughts about the sharp reversal of market direction that started the day after the presidential election and continued through yearend.

One thing I didn’t touch on is the “January effect,” which typically consists in the bounceback of losers sold in December for tax reasons. I’m interested to see if we have a selloff of last year’s winners, motivated by shifting capital gains shifting into 2021.