Reopening, Social Change & the Markets
I can't remember a time when so many extraordinary events were unfolding simultaneously. Not surprisingly, people have been asking a lot of questions about why the markets have done what they've done over the last few months. Here are my responses to three of the questions I've heard most frequently since the recovery began.
When the Coronavirus crash happened, I thought the markets would have fallen farther and/or remained at their lows for longer. How did they recover so quickly in April and May when the news about Covid was still so bad? A market crash usually happens because investors don't think companies will be able to earn profits. The crash in March hit as uncertainty about the virus was peaking. Of all the uncertainties, the biggest unanswerable question was, "How bad is it going to be?" How many Americans would die? How many would lose their jobs? What would life be like under quarantine? No one knew the answers. Everyone was just making wild guesses. During this period of crisis, the Federal Reserve moved quickly. Between March 3 and April 9, the Fed made a series of moves with the potential to provide up to $6 trillion of liquidity to the U.S. financial and business system. This signaled to investors that the Fed would do everything within its power to minimize the damage from the crash. It also provided millions of individuals and businesses with the resources to continue spending. At the same time, the plan for flattening the curve become known to the public, and as people adopted social distancing measures, investors gained clarity on what the crisis might look like and how bad it would be. Covid-related deaths peaked in mid-April and then dropped steadily through early June. I think the market's rebound reflects investors' confidence that people would be able to get back to work and the economy could recover relatively quickly, and that the Fed would help out in the interim.
When the protests erupted after the death of George Floyd, how could the markets continue to climb for another week? How could stock prices rise as footage of burning cities and police clashing with protesters dominated media coverage? Whenever I have to digest painful news stories and then try to focus on my job, I try to remind myself of this: The markets do not have a moral compass. They do not have a conscience. Stock prices reflect investors' confidence in companies' ability to earn profits. If I am saddened by news developments, I should not expect the markets to reflect my sadness. If I do, I will probably be disappointed. This does not mean that the investors who are participating in the market should not have a moral compass. Investors can vote with their dollars, choosing what businesses to buy from and which to invest in. I think the markets kept climbing based on continued confidence from the Covid crisis seeming to come under control in May. I don't think news of the protests affected investors' outlook on the economic recovery.
Why did the markets fall last week after rising so steadily for so long? I think the dip last week was a reality check that the Covid crisis is not over. Last week we saw new cases and deaths rise again. With states reopening and many people losing their resolve to continue social distancing, investors feared the second wave was coming soon. Additionally, Fed chairman Jerome Powell made a statement last Wednesday that the economic recovery could take longer than some optimists were predicting. He said it could be "some years" before all of the 20 million Americans who lost their jobs were working again. This dampened investor enthusiasm and was probably part of the reason many of the major stock indices fell between 4-6% last Thursday.