Market vs. economy.
The country seems to be in the thick of a tug-of-war battle as May approaches. The COVID-19 pandemic has caused the largest dislocation of jobs, economic activity and consumer demand in generations. Oil prices went negative a week ago. Other commodities are falling from lackluster demand. The food supply is staring at a crisis, as farmers and food producers plow under fields and euthanize livestock.
The market’s response to all this historic upheaval? The S&P 500 is off its 52-week high by merely 15% or so. Why the market disconnect? Enter the federal government.
Stimulus, stimulus, stimulus.
The U.S. government has approved more than $2 trillion in stimulus aid packages aimed at keeping small businesses and consumers above water. The Federal Reserve has stepped in to provide virtually unlimited liquidity to shore up capital markets. The result? Investing during a time of complete uncertainty becomes more palatable with many of the traditional risks being removed or absorbed. This intervention by the U.S. government and the Federal Reserve provides companies and individuals adversely impacted by the economic free fall with much needed cash and a greater hope for solvency.
Fundamentals and consumer demand.
The big question of whether the stimulus measures are enough to keep the stock market afloat remains.
Are the underlying business fundamentals any better for these companies? No. Sure, they may have access to additional cash, but do they have more revenue than they did before the massive stimulus began? No. What about the American consumer? Will consumers return quickly and be willing to spend like they did in 2019? Again, I would argue, no.
On to earnings.
Earnings are what drive the value of stocks and the markets higher in the long run. The S&P 500 is trading around 22x current earnings and 21x their next 12 months projected earnings, according to Wall Street Journal data. Historically, the S&P 500 average comes in around 16x earnings.
Meaning? The market looks expensive right now, even IF the pre-pandemic workforce and consumer spending come right back.
What remains unanswered.
In the conflicting battle between massive stimulus and massive economic destruction, which one wins out? Will one continue longer than the other? Perhaps even more pressing in the near future: What would happen if the stimulus were to stop?
Signs are emerging that factions within Congress are looking at the exploding U.S. deficit and national debt with increasing queasiness. If fiscal discipline reemerges, what will that mean for an economic return to normalcy? It’s likely that the damage caused by this pandemic will last significantly longer than the government’s resolve to soften the blow. Earnings will likely be weak and unemployment will likely remain high.
A practice in patience.
As an investor, opportunities will emerge as the economic landscape changes. In the interim, practicing patience will be increasingly beneficial. The market bounce carries with it a high level of risk should the stimulus dry up and corporate earnings fail to bounce back to pre COVID-19 levels. We believe that patience, while difficult, is the most prudent course of action in the near term.