COVID Concerns Outweighed by Faith in the Fed


lobal equity markets have soared thus far in 2021. These gains are predicated on the belief that widespread vaccinations will allow the global economy to enjoy an explosive recovery from the COVID recession. We have been enthusiastic proponents of this outlook.

However, even as Americans enjoy a summer largely free from mask mandates and other social distancing inconveniences, COVID outbreaks are leading to renewed restrictions and lockdowns across major parts of the global economy. In an alarming number of countries, vaccination strategies have been strategically flawed (UK), inconsistently implemented (the US and EU), slow walked (Japan and South Korea), squandered (India),or reliant upon vaccines that may be ineffective against new strains of COVID (China, Russia, and innumerable emerging economies).

Recent economic performance in the UK, India, and several Southeast Asian countries illustrate that renewed COVID outbreaks can quickly bring economic momentum to a halt (see charts below).

Investors should prepare for more disappointing economic news if, as appears likely, another wave of COVID infections strikes the global economy.

Global equity markets plunged on July 8th based on COVID fears only to snap right back on July 9th. We believe this dramatic market recovery was premised on confidence that the Federal Reserve can once again ride to the rescue of equity investors.

The message from financial markets appears to be “heads we win, tails we win.” If vaccination strategies improve and COVID continues to recede as a concern, explosive earnings growth will justify the current bull market. If escalating COVID infection rates slow the current economic recovery, the Fed will keep injecting $120 billion per month into financial markets for a longer period. All that additional financial liquidity will justify the current bull market.  

We believe that growth in the second half of 2021 will disappoint current expectations, but we do not think rising COVID infection rates will plunge the global economy back into recession.

Despite flawed vaccination rollout strategies, vaccines developed in the US and Europe are proving highly effective against serious illness and death from new COVID strains. This will allow the global economy to continue reopening, albeit at a slower pace than originally hoped. If we are correct, then the recent underperformance of COVID sensitive equity sectors (e.g. European equities, airlines, banks) represents an opportunity to find relative bargains in an increasingly overvalued equity market.  

Vaccination rollout - haste makes waste

US and European pharmaceutical companies performed a scientific miracle by developing highly effective COVID vaccines in less than 9 months. Politicians and bureaucrats across the globe then found various ways to botch the deployment of these medical breakthroughs. Troubled deployment of effective vaccines and over reliance by emerging economies on potentially less reliable vaccine technologies has left the global economy vulnerable to another wave of COVID-19, in our opinion.  

UK – two shots are better than one

UK decision makers gambled on the fact that the AstraZeneca, Pfizer, and Moderna vaccines provided strong protection against the original COVID strains with a single shot. Prime Minister Johnson and his advisors bet that they could achieve herd immunity faster if they focused on getting an overwhelming majority of the population a single shot. Focusing on a single shot greatly simplified logistics and allowed existing vaccine supplies to inoculate twice as many people. The second booster shot could be administered, the thinking went, after the pandemic had been largely contained and vaccine doses became more widely available.

Unfortunately, although the two shot AstraZeneca, Pfizer, and Moderna vaccines remain highly effective against the new Delta variant after both shots have been administered, the effectiveness for one shot vaccinations appears to be much lower. France’s Pasteur Institute, in a study published July 8th in the journal Nature, found that a single dose of the Pfizer or AstraZeneca vaccines “barely inhibited” the Delta variant. However, a second dose “generated a neutralizing response in 95% of individuals.’’

Vaccines are now widely available in the UK and second shots easily arranged. Even so, more than 11 million Britons have only received the first dose of their vaccine. The ineffectiveness of a single shot vaccination reduces the UK’s effective vaccination rate from nearly 70% to only 50%.  

US and EU – the politics of fear

The US and the EU have pursued a 2 shot vaccine strategy for all vaccines that require 2 shots (i.e. every approved vaccine except the Johnson & Johnson product). However, less than 50% of US adults and only about 40% of EU citizens are fully vaccinated. Disappointing vaccination rates in the US are partially a result of political leanings.

Elected officials politicized their COVID pandemic response, and as a result vaccination rates for Republicans lag far behind those of Democrats. In addition, legitimate safety concerns were raised when the EU and the US temporarily suspended AstraZeneca and Johnson & Johnson vaccinations while potential side effects were investigated. These safety concerns have been particularly demotivating for younger people who do not feel the virus itself poses much of a risk for them. The combination of politics and safety concerns has caused vaccination rates to slow sharply in both the EU and the US, with overall vaccination levels far below the 70% level that scientists believe is required to achieve herd immunity.

This leaves both the EU and the US vulnerable to renewed outbreaks of COVID-19.

Japan and South Korea – “not invented here”

Japan, South Korea, and China have been strong adherents to the export led Asian Development Model. While this export-oriented mindset allowed rapid economic development in these countries, it has also created institutional and cultural biases in favor of domestically developed products.

This bias for domestically developed solutions helps explain Japan and South Korea’s appalling slow rollout of vaccines from pharmaceutical giants like Pfizer and Johnson & Johnson. Despite these companies’ long established presence in the Japanese and South Korean healthcare markets, Japan and South Korea lagged far behind other developed nations in granting approval to their COVID vaccines.  

India – “pride goeth before destruction, and a haughty spirit before a fall”

- Proverbs 16:18

COVID pandemic’s devastating spread across India in recent months is as surprising as it is tragic. India largely escaped the first few waves of COVID infections, and Indian leaders were confident that their policies could contain COVID. The country is also home to the largest vaccine manufacturer in the world, Serum Institute of India. Serum’s CEO, Adar Poonawalla, made a bold gamble to ensure his country had ample vaccine doses available: he began mass-producing COVID-19 vaccines in the spring of 2020 before any had completed clinical trials or been approved for use. Poonawalla reinforced this commitment to his country’s healthcare by reserving for India half of Serum’s vaccine production.

Despite the extraordinary head start made possible by Poonawalla’s courageous gamble, the Indian government did not make its first order for vaccines until January 11, 2021. Even then, the government’s initial order was for only 11 million doses in a country of nearly 1.4 billion.

Prime Minister Nerendra Modi attempted to match China and Russia’s vaccine diplomacy by giving neighboring countries much of the vaccine that was ordered, and by encouraging Serum to export most of its production. When COVID infections unexpectedly soared early in 2021, India had far too little vaccine on hand to control the outbreak.

As COVID raged out of control throughout the spring, claiming hundreds of thousands of Indians lives, India maintained price caps on Serum vaccines despite rapidly escalating input costs. This limited Serum’s output even as India and the rest of the world desperately scrambled to obtain more vaccines. In May of 2021, about one year after Serum began vaccine production, the Modi government ordered all of Serum’s production to be reserved for India.

China and emerging markets – science versus vaccine diplomacy

China has centered its vaccination strategy entirely upon its internally developed vaccines such as Sinovac and Sinopharm. Like Japan and South Korea, China follows the export oriented Asian Development Model and domestically produced products are always emphasized. In addition, as the names of these vaccines indicate, the development of COVID vaccines is a part of China’s larger quest for global economic and technological leadership. Beijing has made vaccine diplomacy a centerpiece of their current foreign policy. Large quantities of Sinovac and Sinopharm vaccines have been provided free of charge to countries across developing economies in Europe, Asia, Africa, and Latin America.  

Unfortunately, unlike the Pfizer, Johnson & Johnson, and Moderna vaccines, the ability of Sinovac and Sinopharm vaccinations to protect against the new Delta variant of COVID has been widely challenged. A return to peak infection rates in Russia suggests that their Sputnik V vaccine could have similar problems. Concerns regarding Sinovac and Sinopharm efficacy have been compounded by continuing concerns about an apparent lack of transparency on the part of Chinese Communist Party leadership.

In an April presentation on Chinese immunization strategies, the head of the Chinese Center for Disease Control and Prevention, Gao Fu, appeared to say that Chinese vaccine efficacy rates were not high enough. He further indicated that supplementing Chinese vaccinations with Western vaccines using mRNA technology was under consideration.

“We will solve the issue that current vaccines don’t have very high protection rates. It’s now under consideration whether we should use different vaccines from different technical lines for the immunization process.”

Later that day, Gao walked back those comments in an interview with a state-run media publication (Global Times). Gao contended that he was misunderstood and was merely talking in general terms about the need to improve efficacies for all vaccines, including those developed by Western companies. This sequence of events raised suspicions that Communist Party leaders were unhappy with Gao’s candor and forced him to make a retraction.

Concerns regarding Chinese vaccination efficacy and the ability to candidly assess that efficacy have profound potential implications for a global economic recovery. China is largely protected from problems with its vaccines because Beijing has kept in place some of the world’s most restrictive social distancing and quarantining requirements. By contrast, many of the emerging economies that received free Chinese vaccines (Malaysia, Indonesia, Thailand, etc.) are experiencing uncontrolled outbreaks of COVID-19 despite their vaccination efforts (see chart below).

If Chinese vaccines are as effective as Beijing suggests, then these COVID outbreaks should be contained as vaccination rates increase. If not, then continued spread of the Delta variant of COVID-19 across developing economies could present a serious and unanticipated obstacle to future economic growth.  

A COVID headwind, but not another recession

The US is in relatively good shape to continue growing, albeit at a slower pace, despite a potential new wave of COVID infections. The COVID risk in the US arises primarily from low vaccination rates in rural areas and across several states in the South and Midwest. In Missouri and Alabama, COVID cases are rising rapidly and approaching the peak levels of last winter. However, the surge in new cases has not yet resulted in a surge of deaths, largely because this wave of COVID is primarily impacting younger, unvaccinated people who are healthy enough to fight the disease.

Also, with about half of the population vaccinated, health care facilities are unlikely to experience the shortages of ICU capacity and other stresses that exacerbated fatality rates in earlier COVID outbreaks.

Provided that fatality rates remain low as we expect, the economic impact of another COVID outbreak could be relatively mild. There is little political support for another round of economically painful lockdowns or other social distancing mandates. Consumers can be expected to continue enjoying the benefits of a reopening economy and spending down their record setting personal savings rate (see chart below).

If a consumer is worried about COVID, vaccines are readily available. Consumers that refuse vaccination are likely to believe that COVID risks have been overstated and are unlikely to change their spending behavior as COVID infection rates rise. COVID related slowdowns in our overseas trading partners could present an obstacle for US growth. However, domestic pent up demand should be more than enough to keep the economy growing despite trouble overseas.

Slower recovery = more Fed support for financial markets

Investors initially reacted to the release of Fed minutes from their June meeting by aggressively selling stocks. Headlines from the minutes focused on several Fed members increasing their expectations for interest rates in 2022 and 2023. As investors more fully digested the contents of the minutes, investors reversed course and started buying equities. The minutes indicate that Fed members are highly uncertain about the impact of COVID on future growth and dissatisfied with the extent of economic recovery thus far:

“the economy was still far from achieving the Committee’s broad-based and inclusive maximum employment goal, and some participants indicated that recent job gains, while strong, were weaker than they had expected.”

- Federal Reserve Meeting Minutes, June 14-15, 2021

The minutes showed that some Fed members were feeling pressure to curtail the Fed’s $120 billion monthly bond buying program in the next several months. However, the motivation for an early tapering of the Fed’s bond purchase program arose from the frenetic pace of economic growth thus far in 2021. A COVID related economic slowdown could be expected to relieve those pressures.

That could allow the Fed to keep printing $120 billion and injecting it into financial markets for many months longer than is currently expected. Investors have thus far concluded that continued Fed support for financial markets could more than offset the impact of any COVID related slowdown, and we agree with that assessment.  


The economic recovery from the COVID recession has progressed more rapidly than could have been hoped during the early months of the pandemic. The gloomy outlooks of 2020 quickly transitioned to hopes for a rapid and uninterrupted economic recovery as it became clear that vaccines were on the way. Investors drew great hope and inspiration from the unprecedented success of COVID vaccine develop efforts.

Investor optimism about the economic recovery was likely augmented by a bit of wishful thinking that vaccines could make it seem as if the global pandemic had never occurred. These hopes were probably always destined for disappointment, and that disappointment has been virtually assured by clumsily executed vaccine rollouts across every major economic bloc.

We believe that these mistakes have substantially increased the risk that the current torrid pace of economic recovery will slow in the second half of 2021. Such a slowdown would create cover for the Fed to continue its current aggressive monetary injections into financial markets. As a result, we believe any headwinds to the economic recovery could increase market volatility but will not endanger the current bull market in equities.

Long term, investors should keep in mind that the doctors and scientists never expected vaccines to eliminate all deaths from COVID. The goal of mass vaccination was not to eradicate COVID, but to reduce the risk to the point that it no longer impacts people’s day to day lives. Thousands of people die from the flu each year, but the risks are so small that the flu does not disrupt people’s lives or the global economy. The continued efficacy of vaccines against the rapidly mutating COVID virus offers the promise that COVID will eventually be no more threatening than the flu. However, that promise will probably not be fulfilled until well into 2022.  

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