The Great Disconnect Between Markets and Economies

It may not have seemed that way, but April turned out to be the best month for the markets since January 1987. In April, the Dow Jones Industrial Average moved 11.08% higher, and the S&P 500 index climbed 12.68%. This has had many investors puzzled, scratching their heads, and saying, “Did we miss something?” After all, how can stocks be going up, while most of the bad economic news is yet to come?

Many people fail to separate the stock market and the economy, as a whole. The market is forward looking, while the economy trails behind, like us, in real time. This massive disconnect often leads investors to make poor decisions, thinking they “know” what’s coming next. Over the years, history has seen far too many investors sitting in cash waiting for “another drop” in the markets that often never comes. These investors miss a train that already left the station, and gaining back that lost return is nearly impossible.

If you remember back to March 2009, unemployment was rising, debts were soaring, and the real estate market and economy were on thin ice. Everyone expected that the worst economic news was yet to come, and they were correct.

However, March 2009 turned out to be the stock market bottom and the end of the 2007-2009 bear market. Stocks were on a quick rise, even though the economy bottomed months later. From that point on, neither the stock market nor the economy revisited prior lows. Many investors missed out on 50-60% gains in the early parts of the 2009 rally waiting for “another drop” and the associated buying opportunity.

Market sentiment is primarily why stocks are viewed as a leading indicator for the economy. If you think about it, how much easier is it for an investor to hit the “buy” button on a screen than it is for a company to ratchet up its profits? If a savvy investor has a good feeling about the future of a company, or the entire economy, it takes the investor a few quick seconds to press “buy” and buy a piece of that company with hopes of an uptick. Conversely, it can take a company months to get additional funding, produce its goods and services, market and sell those goods and services, and then earn profits. That’s where the opportunity lies when dealing with the stock market. Being an investor is a much faster way to participate in a shift in sentiment and the main reason why stock markets tend to lead the charge months prior to seeing an uptick in the economy.

Part of the strength in equities last month can be attributed to investors seeing better days ahead. Of particular note, we have seen positive news surrounding a viable treatment for COVID-19, along with word that a vaccine could possibly be ready by the end of 2020.

Furthermore, much of the April rally was fueled by the Federal Reserve (the Fed)‘s massive monetary and fiscal stimulus program. The Fed’s combination of providing liquidity, low interest rates, and pouring trillions into the U.S. economy certainly has investors optimistic about the future, despite much of the country still being in “lockdown”. Even with the economy shutdown in all of April, we have been witness to a strong rebound since the March 23 market low. In fact, both indices have gained over 30% since that bottom.

We continue to monitor opportunities and ways to deploy capital, as we identify strength and weaknesses in the markets. We favor investing in individual companies versus being invested in the broader “markets.” Our team focuses on the companies we believe will be able to come through the COVID-19 crisis with strength. We know there’s still a lot of uncertainty given the negative impact that COVID-19 and stay-at-home orders have had on the U.S. economy, but we believe that many companies will come out stronger on the other side.

We are not saying the markets won’t relapse, nor are we saying that March 23 was the market bottom. We are anticipating significant volatility until we see more certainty surrounding treatment for the virus. That said, we do believe that April’s market rally had solid footing. In the coming weeks, it will be essential to pay close attention to what happens in Georgia, South Carolina, and Tennessee, as they have have been reopening many parts of their economies.

If an upswing in COVID-19 cases occurs, restrictions may need to be reinstated, similar to what took place recently in Singapore. However, if these states, which have been most aggressive in reopening their economies, do not see cases steadily climbing, it could encourage other states to reopen quickly, as well.

Above all, don’t let yourself get “disconnected” by paying too much attention to bad economic news. Much of this has already been priced into current stock prices. And don’t let the current market gyrations distract you from your long-term financial goals. Things may look bleak today, but remember that, during every market crisis in history, the markets always started to make their climb out of the bottom before economic news improved.

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