What just happened?

June 17, 2020

The S&P 500 now stands close to where it began the year – when China had yet to notify the World Health Organization of an outbreak of a pneumonia-like illness and before sheltering at home would freeze the global economy and send financial markets into a tailspin. Life is only beginning to return to normal and the economy is a mess. What, then, has propelled the market’s rapid recovery?

Faced with unprecedented risks to health, livelihood and wealth, a global panic unfolded. News sources were fixated on all the ways things could go wrong. The market’s rout amplified the scale of the pandemic’s devastation. Any thought that better outcomes were possible was dismissed as totally unrealistic. To simplify – investors unable to ignore near-universal forecasts of economic and investment ruin were compelled to sell – things could only get worse.

Not long after stocks reached their lows, there were signs that the news was improving on the health front, or at least not getting worse. While much work lies ahead, doctors and scientists are beginning to understand how the virus is transmitted, why some people are vulnerable and some are not, and for how long the recovered (or immunized) will enjoy protection from reinfection. It is now evident that the medical system is learning to cope with the virus, treatments are improving, and extensive resources are being dedicated to the development of drugs and vaccines.

At the same time, the financial system has been stabilized by unprecedented “whatever it takes” commitments from the Federal Reserve and US government. Congress was quick to authorize trillions of dollars of aid to individuals and businesses while the Fed lowered interest rates and ramped up bond purchases, including promises to buy lower quality municipal and corporate bonds, if needed.

Market collapses end when lower prices attract more buyers than sellers. Long ago, trades were placed with a broker over the telephone. Even recently stocks were bought or sold one at a time. Today an entire portfolio can be liquidated with a mouse click. The avalanche of selling was so intense that it was over in record time. As it incrementally became apparent that worst-case health and economic scenarios would not be realized, sellers pulled back. Investors who prefer to buy amid rising prices contributed to the recovery.

The coronavirus will continue to have a profound impact on the economy, with long-term consequences for many businesses and sectors. Consumer confidence, which drives consumer spending and in turn the pace of the US economic recovery, is clearly rebuilding. There is still a distance to go and our collective psyche remains fragile. Evidence that healthcare providers can manage inevitable flare-ups of the virus and protect those most vulnerable will greatly impact consumers’ sense of safety and their behavior.

Just as the S&P recently returned to break-even, economists formally declared that the US entered a recession. The rapid declines in earned income and spending since February warranted the swift recognition. As the cause is a health crisis rather the more typical build-up of financial excesses or bubbles in the economy, many observers are optimistic about the speed of recovery.

As fear recedes, people are once again thinking about the future, time horizons are expanding, and markets are normalizing. Investors increasingly believe that the Federal Reserve will provide support whenever markets falter. At the same time, the Fed’s actions have kept bond yields so low that there is no appealing alternative to owning stocks. In our view, all of this suggests that stocks are at least as likely to go higher as they are to go lower.

Has the market has gone too far, too fast? Successive waves of new Covid cases remain a significant concern. Much of the US economy is currently relying on government support, a clearly unsustainable situation. Many businesses are not profitable running at less than full capacity. The path from here remains incredibly uncertain.

Market swings are inevitable yet should be more rangebound. For now, most consumers can pay their bills and much of the stimulus money has yet to be spent, offering a window of time for the economy to make necessary adjustments in the months to come. Every day brings more knowledge about the virus, which should lead to improved health outcomes and a return to our more social and less anxious selves.

As we navigate the recovery, we recognize the need to consider the long-term implications of the stimulus packages and debt incurred as a result of the pandemic. What about inflation? Can we anticipate how the November elections might impact markets? We remain vigilant regarding the course of the pandemic and how it is reshaping consumer behavior. We look forward to turning more of our attention to these familiar topics before long.