This year, investors have been treated to a rare real-world lesson in the mathematics of investing—namely, the fact that after a market decline, it takes a greater market recovery to get back to even. The first quarter saw a frightening downturn that delivered 20% losses across the U.S. and developed foreign markets. Then we experienced a breathtaking 20% gain in the second quarter, the fourth-best quarterly rise since 1950. Work out the mathematics, and virtually all indices are still showing a loss for the year.
You Can See This Dynamic Everywhere You Look
- Wilshire U.S. Small-Cap index, 31.40% decline in the first quarter, and then recovered 25.63% in the second. The index is down 13.82% for the year.
- EAFE index of companies in developed international economies, such as UK, Europe, and Japan lost 23.43% in the first quarter, then gained back 14.17% in the second quarter. The index is returning negative 12.59% so far this year.
- Emerging market stocks of less developed countries, such as China and India, as represented by the EAFE EM index, gained 17.27% in the most recent quarter, making up some of the 23.87% losses in the first three months of the year. The index is down 10.73% for the year.
The market declined precipitously in March when people realized how much potential economic damage the COVID-19 virus, social distancing and the closing of many businesses could inflict on the U.S. economy. Then the market experienced one of the best quarters on record amid a quicker than expected recovery and massive government support.
What are the Effects of This?
Does any of this mean that a severe market downturn is coming, or that stocks still have room to appreciate? That is a far more difficult question, for several reasons. First, does anybody know how well companies are managing to keep up their operations when their workers are doing their tasks at their kitchen tables? In other words, do we really know how much productivity and economic value is being lost during the pandemic? This is uncharted territory for businesses and companies alike, but you could make the case that public companies (we’re not talking about bars and restaurants) are just marginally less valuable now than they were at the start of the year, that the damage will be minimal and life will go on in the corporate world when everybody finally gets back in the office. It’s also possible that they’ve suffered huge damage to their bottom lines and viability and current prices are unsustainable. You can have your opinions, but nobody really knows.
The other factor is the Federal Reserve Board, which appears to view itself as a fiscal backstop not only for the economy, but also for the markets. Try to imagine a hypothetical investor who has unlimited money in the bank, who decides that stocks are not going to go down and companies will have money in the bank even if they don’t earn it through operations. Would that investor ultimately have her way with stock prices? You have just imagined the reality that is the Fed. What we don’t know is how long and hard the Fed will fight to prevent a severe market downturn before, say, the November elections.
What are the facts on the ground?
June hiring data showed a sharp reversal from May’s 2.7 million job losses. The ADP National Employment Report showed that more than 3.3 million workers were hired in the private sector in June. In addition, the most recent manufacturing indices were stronger than expected. But a total of 17 U.S. states have now paused their phased reopening programs due to the coronavirus, as the number of new daily cases rose 12.5%. Some hospitals in Texas, Florida, Arizona and California are reportedly reaching capacity. Then again, some news outlets report optimism that Pfizer–a component of the Dow Jones Industrial Averages and the S&P 500–had reported encouraging trial results of an experimental coronavirus vaccine, even though it’s unlikely that a vaccine will be available this year.
The conclusion of these analyses is always and forever the same: we honestly don’t know where the markets are going in the short run, and we know with some certainty that trying to predict short-term trends in the market has, in the past, been a fool’s errand. The upcoming November election will also impact the market. As we learned in 2016, it is almost as tough to predict the outcome of an election as the direction of the stock market for the next week. We believe that investors should stick to their plan, make sure they have enough safe assets to make through the pandemic, and stay invested in equities. Over the long run, this has proven to be a winning strategy and we are confident that will continue even with the unprecedented global crisis we face today.
Sources:
Wilshire index data: https://www.wilshire.com/indexcalculator/index.html
Russell index data: http://www.ftse.com/products/indices/russell-us
S&P index data: http://www.standardandpoors.com/indices/sp-500/en/us/?indexId=spusa-500-usduf–p-us-l–
Nasdaq index data: http://quotes.morningstar.com/indexquote/quote.html?t=COMP
http://www.nasdaq.com/markets/indices/nasdaq-total-returns.aspx
International indices: https://www.msci.com/end-of-day-data-search
Commodities index data: https://us.spindices.com/indices/commodities/sp-gsci
Treasury market rates: http://www.bloomberg.com/markets/rates-bonds/government-bonds/us/
Bond rates: http://www.bloomberg.com/markets/rates-bonds/corporate-bonds/
General:
https://www.investors.com/market-trend/stock-market-today/dow-jones-today-futures-slip-boeing-reporting-fail-beyond-meat-alibaba-deal-fedex-q4-win/
https://www.marketwatch.com/story/heres-what-history-tells-us-happens-after-the-sp-500s-best-quarters-of-all-time-as-strategist-says-its-set-to-repeat-2020-07-01?siteid=yhoof2&yptr=yahoo
https://www.multpl.com/s-p-500-pe-ratio
https://finance.yahoo.com/news/virus-fears-keep-p-500-141727598.html
