In lieu of our usual Weekly Bulletin, we are publishing special reports to discuss the market reaction to evolving news on the coronavirus outbreak. We would stress the following observations as developments continue to unfold.
Stocks posted another impressive week on the back of incoming economic data that suggests the economy is past the worst of the shutdown damage with the reopening progressing favorably. Stocks are now just 8% below the February all-time highs. While the rally off the March lows was led by defensive sectors and secular growth technology stocks, we are now encouraged by the rotation into cyclical sectors, uptick of long-term interest rates, narrowing high yield spreads, small- and mid-cap stocks outperforming, commodities bottoming, and U.S. dollar weakness (signaling a positive global recovery). All of this suggests an economic recovery is beginning, despite the uncertain path of the virus and other risks discussed below.
Impressive Job Report
The May jobs report showed a surprise 2.5 million rise in nonfarm payrolls, as the unemployment rate declined to 13.3% from 14.7% in April, defying expectations of 19%. Half the rise in payrolls occurred in food services and drinking places, with solid gains in retail, construction, manufacturing and health care. While there are some concerns about the accuracy of the May jobs report, other labor market indicators are also pointing to a positive turn in labor market indicators, sooner than many were expecting.
In addition to the improving labor market, we are impressed by consumer confidence readings that troughed at levels much higher than the 2008 financial crisis. Housing and auto sales, travel data, and new business applications are all confirming that a positive recovery has begun.
May and most likely June data are likely to be strong—given the extremely depressed level of activity during shelter-in-place directives. With the massive fiscal and monetary stimulus that has been applied to the crisis, we expect the strong readings to progress into the back half of the year. Considering the current exuberance of stocks, key to further stock and other risk asset gains will be the sustainability of strong economic readings as the second half unfolds—and how long it will take to get to pre-crisis levels of economic output and employment.
Improving Global Backdrop
So far this year, there has been an estimated $24 trillion (28% of global GDP) of central bank liquidity injections (13%) and fiscal stimulus (15%) applied to combat the COVID-19 impact. The Eurozone and Japan are now on par with the massive U.S. stimulus while the U.K. and China have also applied significant stimulus. This is significantly increasing the odds of a synchronized global economic expansion as the global economy opens back up.
China was the first to shut down and the first to reopen. Encouragingly, its business surveys have clearly moved into expansionary territory, with three straight months of gains. China’s policy makers have also signaled additional stimulus as needed to sustain the economic recovery.
The Eurozone got hit by COVID-19 almost a month before the U.S., and has been more successful in lowering the infection curve. Their economy is now reopening smoothly, given their success in flattening the infection curve. In addition, with the prospect for a “Euro bond”, political uncertainty is fading. Importantly, expectations of a euro breakup have clearly declined, based on a Sentix survey for May. Concern over a euro breakup after the 2008 financial crisis caused significant economic and financial market uncertainty. The prospect of a Euro bond is a very welcome development for the global economy and risk assets. This is already leading to healthier European credit markets, which are supporting the economic recovery.
The path of the virus and economic recovery pose clear risks with reopening economic readings looking stellar compared to extremely depressed shelter-in-place comparisons—sustainability of positive readings is important. There is potential for a summer fiscal cliff until policymakers pass a follow-on stimulus bill. Another stimulus plan north of $1 trillion is expected to pass in the coming weeks. The trade war with China caused market volatility in 2019 and recent rhetoric suggests trade concerns could arise anew. Finally, the 2020 presidential election has the potential to cause volatility. Democrats are signaling the potential for higher corporate tax rates that would negatively impact corporate profits.
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