Uncommon Sense

The Struggle Is Real: Should Investors Jump for Joy or Run for Their Lives?

“Life is difficult. This is a great truth, one of the greatest truths. It is a great truth because once we truly see this truth, we transcend it. Once we truly know that life is difficult — once we truly understand and accept it — then life is no longer difficult. Because once it is accepted, the fact that life is difficult no longer matters.”

─ M. Scott Peck, The Road Less Traveled: A New Psychology of Love, Traditional Values and Spiritual Growth

Chief Investment Strategist

I wish it were that easy — accept that life is difficult and it no longer matters. Personally, I’m struggling to make sense of so many aspects of today’s extraordinary environment. I have used some shortened version of that opening quote with many folks over the years, including my wife and children. Shamefully, pretending to be some enlightened person, when the reality is that I’m endlessly conflicted. For me, the COVID-19 pandemic sharpens the intensity of my internal conflict. Perhaps there is some part of you that feels this way too.

Is successfully coping in the pandemic environment simply a function of whether you’re a glass half-full or half-empty personality type? That feels too clean. Aren't there many shades of gray? It has to be more complicated.

Of course, there is much to celebrate. The resilience of the human spirit. The courage and selflessness of frontline healthcare workers everywhere. The brilliance, ingenuity and focus that will likely aid in the discovery of a    COVID-19 remedy soon. And, the bravery of so many workers that put their health and the health of their loved ones on the line daily so we can live, work and play. For all of this and so much more, our hearts are bursting with pride and full with gratitude.

However, there is also sadness. COVID-19 has infected some of our friends, families and neighbors. According to the Johns Hopkins Coronavirus Resource Center, there are 5.7 million confirmed cases globally, with 1.7 million in the US. Many have lost their lives to the virus. There have been 355,575 COVID-19 deaths globally, with more than 100,000 in the US. We still worry about our parents, grandparents and folks that are at high risk as a result of a pre-existing health condition. The human tragedy arising from the global pandemic is heartbreaking.

Change Means Movement. Movement Means Friction

I’m not a healthcare worker or a social scientist. The lens through which I examine the complex dynamics of the COVID-19 pandemic is my role as an investment strategist. I see three raging conflicts in the economy and capital markets as a result of COVID-19 as equally challenging. First, should the incredible and unexpected market rally from the lows on March 23 be celebrated? Or should the focus be on the terrible negative impacts from the economic recession and mounting job losses induced by the pandemic?
Next, all 50 states have begun to reopen in some way. Yet while there is considerable excitement about the reopening of the economy, there is understandable concern that as states reopen, infections, hospitalizations and fatalities will rise. In fact, The New York Times has reported that cases were rising in about a dozen states recently, including in several states that allowed early re-openings. And, a resurgence in COVID-19 cases may occur as early as this fall.

Finally, the bigger, badder and bolder than ever before fiscal and monetary policy responses to the pandemic were courageous. The fast reactions from the US government and the Federal Reserve (Fed) should be applauded. Yet, there are growing concerns that these aggressive policies have repeatedly robbed economic growth from future generations while sticking them with an insurmountable bill.

It’s not simply about being optimistic or pessimistic when it comes to assessing the difficult economic and market tradeoffs created by the COVID-19 pandemic. It’s about reconciling the short-term outcomes with the long-term implications of today’s unusual environment. So let’s delve a little deeper into the three troublesome scenarios outlined above.

The Market Is Not the Economy

The drastic difference in performance between the stock market and the economy since March 23 is remarkable. The S&P 500 Index has soared by nearly 40% since hitting its low in late March. Meanwhile, according to the Bureau of Economic Analysis (BEA), first quarter GDP decreased by 5%. Earnings-per-share (EPS) growth plummeted by more than 14% year over year for S&P 500 companies in the first quarter. The stock market rally has continued forcefully while the economic and earnings picture is only getting worse. As of May 28, the Atlanta Fed GDPNow forecast for the second quarter is a whopping -40.4%! Not surprisingly, Wall Street analysts predict that S&P 500 companies’ EPS growth will plunge nearly 43% year-over-year in the second quarter. Over the past 10 weeks, more than 40 million Americans have filed for unemployment benefits. The unemployment rate, which now stands at 14.7%, will easily surpass 20% soon.

Despite the economic pain, market participants believe that the negative impacts from the pandemic are only temporary and that a strong recovery is just around the corner. Investors are confident that massive fiscal and monetary policy support has bought enough time for COVID-19 to be defeated. And, finally, there is growing optimism that an effective health solution to the virus will be discovered shortly, clearing the path for a robust economic rebound.

When it comes to investing, things are never as good or as bad as they seem. Unfortunately, right now, stock prices reflect a near-perfect resolution to the pandemic. In short order, too. The risk is that some of the temporary impacts from the pandemic become more permanent, like the unemployment rate for instance. And if the economic and earnings numbers don’t start to improve in the third quarter, it might suggest that even more fiscal and monetary policy is required to bridge the gap until a health solution can be found. Progress on a potential health remedy for COVID-19 has been amazing so far but it’s still likely to take longer than markets are currently expecting. Enjoy the market’s unexpected rally — may it last forever — but keep a close eye on these potential pitfalls, too.

I’ll Gladly Pay You Tuesday for a Hamburger Today

There’s been nothing wimpy about the fiscal and monetary policy responses to COVID-19. So far, the US government has passed four separate pieces of legislation, totaling $2.4 trillion. On May 26, Senate Majority Leader Mitch McConnell acknowledged that Congress would likely have to pass additional relief to further mitigate the damage from the pandemic. McConnell’s assertion paves the way for Republicans and Democrats to begin negotiations on a fifth fiscal policy package in response to the pandemic.

Although the latest package isn’t likely to be as expansive as the $3 trillion bill that House Democrats passed in mid-May, it will still come with an enormous price tag. As a result, the annual budget deficit is fast approaching $4 trillion and US national debt exceeds $25 trillion. These astonishing figures couldn’t be reached without a little help from the Fed. The tremendous monetary policy response to the pandemic has resulted in the Fed’s balance sheet eclipsing $7 trillion, a 68% increase from the start of the year.

These fiscal and monetary policy actions have provided much needed liquidity, ensured the smooth functioning of markets and saved countless jobs and businesses. But, all these positive outcomes come with some heavy strings attached. There aren’t any good solutions to tackle the debt and deficit problems. Policymakers can raise taxes, slash spending or monetize the debt. The economy and markets are likely to react badly when the Fed attempts to reduce the size of its bloated balance sheet or raise interest rates. Sadly, we’ve borrowed heavily from future economic growth and saddled our children with the bill.

When the dust settles from the pandemic, the environment will return to modest economic growth, low interest rates and benign inflation. Towering debt levels, aging demographics and the disinflationary forces of technology will only accelerate the trends. This backdrop will continue to reward owners of financial assets, but it will fail to reignite the broader economy. With political and social discord rising, how long can this environment last?

If You Reopen It, Will They Come?

Pictures of large crowds gathering at the Lake of the Ozarks over the Memorial Day weekend were simultaneously frightening and comforting. The blatant disregard for Missouri’s social distancing guidelines and the potential health risks were downright scary. But, seeing young partygoers celebrate the kickoff of summer over the long holiday weekend provided a much needed sense of normalcy and excitement about the future. Welcome to the great reopening of the US economy.

Some of you may need to brace yourselves, but the economy needed to reopen, almost regardless of the health risks. The roughly $22 trillion US economy, the world’s growth engine, had been in lockdown for more than two months. Cabin fever was settling in and, for many, frustrations were beginning to boil over. With tax revenues plummeting, job losses mounting and tensions rising, states had little choice but to begin the painful process of reopening despite the health warnings. Today, all 50 states are open in some way, shape or form.

The loosening of stay-at-home orders combined with the greater availability of COVID-19 testing has resulted in an increase in the number of confirmed cases in some states. However, looking ahead, the key barometer for success will be a further flattening of hospitalization rates. States likely aren’t able to withstand a second wave of infections putting increased strain on their already stretched healthcare systems. If this were to occur, expect the possible reinstallation of stay-at-home orders in some places.

The next big hurdle, especially without an available vaccination, are the fall and winter months — traditional flu season. A resurgence in cases would be a major setback for the economy’s grand reopening.

It’s All Gray

Over the past few months, there has been little choice but to write about COVID-19 and its impact on the economy and markets. The pandemic has swallowed us. As my brain noodled over the theme for this month’s Uncommon Sense — more like procrastinated — I felt constrained to lean either optimistically or pessimistically. Nothing like a good old fashion battle between good and evil.

The spectacular stock market rally in the face of disastrous economic data provided me ample material to suggest that markets had moved too far, too fast. But the more I thought about it, I discovered it’s not as simple as positive or negative. I found myself wanting to celebrate the stock market rally, applaud policymakers for successfully avoiding another Great Depression, embrace the reopening of the economy and acknowledge the amazing progress that has been made to develop a health solution for COVID-19.

However, it didn’t feel right to celebrate just yet. The number of infections, hospitalizations and fatalities are still growing, albeit at a much slower pace. Many of us remain on edge. The economy is suffering and more than 40 million American have filed for unemployment benefits. The struggle is real. The economic, health, social and political risks are abundant.

While I’m encouraged by so much of today’s promising environment and I do expect a solid economic recovery later this year, there are likely to be some bumps along the way. There is no good and evil. It’s all gray.