The global economic shock since early March has been one of historic proportions. It is likely safe to assume that all of us have felt its impact, or at least know of someone that has been adversely affected. As we now start to understand the true consequence of what it means to manually pull the economic emergency brake, we are starting to see widely differing data points from the economy and from the stock market. By simply looking at the FTSE All World Equity Index, an argument could be made that things look normal, at least to a marginal degree. When looking at economic activity, however, especially as it relates to retail sales and the labor market, we get a sense that things are nowhere close to what may be conceived as normal. In fact, we learned last week that retail sales for the month of April declined by -16.4%, marking a historic drop, and the economy added an additional 3 million jobless claims. We believe the economy may struggle through the end of the year, and even into early 2021, if a usable vaccine for COVID-19 has not yet surfaced. Having said that, we need to stress the fact that the economy is not the stock market. They are two distinct components that react differently to the same set of news. The forward-looking nature of the stock market has historically priced-in outcomes on a 3-to-9-month lead basis. Meaning, equity markets tend to benefit from future positive outcomes, even when such outcomes may seem dire and impossible in the present moment. In other words, bear markets do not need a clear and present catalyst to suddenly become bull markets. We have witnessed such price action dominantly since the bottoming of risk assets on March 23rd. It was also dominantly apparent in the retrospective analysis of the 2008-2009 Financial Crisis. This is not to suggest that stocks will gain tremendous forward momentum this year without the potential for renewed volatility. It may imply, however, that the weakness of the economy should not be extrapolated to assume an equivalent weakness in the stock market. In our view, risk management remains paramount across a carefully constructed multi-strategy platform. It is also critical for investors to forego portfolio concentrations in overvalued growth segments of the market. We believe there is a tremendous unhealthy dislocation present in the U.S. stock market currently and it is one that has historically vanished.
In further analyzing economic data points from that last week, the weakness became apparent, yet it did so on a better than anticipated basis. Small business optimism figures for April were announced better than had been anticipated, as reported by the National Federation of Independent Businesses. This is not to say that small businesses are faring well in the current environment, but it may suggest a fundamental misunderstanding from economists as to what their impact may truly be. Small businesses operating in the services sector have capitalized on the ‘work from home’ trend and many have managed to sustain their operations. In our view, this is an example of how COVID-19 has forever changed the landscape of small businesses. April consumer sentiment data was also released last week, and the trend resembled that of small business optimism – it appeared weak yet notably better than had been anticipated. Manufacturing data from the New York Federal Reserve indicated a similar trend. Although we are hopeful of a manufacturing resurgence, the latest data fails to boost our sentiment in the immediate short-term. Lastly, one of the most important releases last week was tied to inflation, as gauged by the nearly flat Consumer Price Index (CPI). The long-term consequences of no inflation can have an impact to economic activity because it affects consumption. As we look ahead at potential solutions, the Federal Reserve may likely step in at a higher scale.
Edison Byzyka, CFA – Chief Investment Officer
Investment advice offered through CX Institutional, a registered investment advisor.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. The economic forecasts set forth in the presentation may not develop as predicted.
All return data sourced from Bloomberg. All other data soured from Bloomberg, through the release of monthly figures from the Department of Labor, Bureau of Economic/Labor Statistics, U.S. Census Bureau, or from the Federal Reserve and any of its affiliated regional locations.
Small Business Optimism sourced through NFIB. Small business hiring plans sourced through NFIB. Consumer sentiment sourced through the University of Michigan.
Earnings data sourced through Bloomberg Intelligence and through Bloomberg’ earnings analysis composites.
Interest rate cut/rise probabilities are sourced from Bloomberg’s tracking of futures contracts tied to the Federal Funds interest rate
FTSE All-World index series is a stock market index that covers over 3,100 companies in 47 countries. It is calculated and published by the FTSE Group, a wholly owned subsidiary of the London Stock Exchange and which originated as a joint venture between the Financial Times and the London Stock Exchange.