April showered investors with the best monthly returns in decades. Will May follow suit? We view this as unlikely. April’s optimism requires objective confirmation, which will simply take time. Meanwhile, expect trendless upward and downward volatility around these levels. Will confirmation ultimately arrive? We believe it will. At this point, the legislated $3 trillion in stimulus measures may outsize the projected $2 trillion in GDP lost. Furthermore, warmer temperatures and medical breakthroughs should put COVID on the run. With a patchwork re-opening of the economy starting now, May could be our month of reclamation…and the beginning of the confirmation.
The COVID virus and economic stop hit us hard in April. Laptops became classrooms, taverns, dinner tables and churches. Skies lacked jet stream latticework and amusement parks sat empty. Webcasts queued up like cable channel menus. COVID directives donned every business door, many as advisories, some as goodbyes. Conflicts between “openers” and “closers” grew contentious and sanctimonious. Epidemiologists became politicians and politicians became epidemiologists. While some individuals may have immunity to the virus, none have immunity to the herd’s response. This week, we learned that the US economy contracted 4.87% in the first quarter. We learned that corporate earnings fell 16% in the first quarter. We learned that a cumulative 30 million Americans have filed for unemployment benefits. We learned that over 1 million Americans have tested positive for COVID while over 60,000 have died. In April, the tsunami hit. In May, the waters will recede. Now we find out what lies beneath.
The Dow Jones Industrial Average just logged its best April (+11%) since 1938 and its best month since 1987. The Russell 2000 small capitalization index, comprised of companies much more vulnerable to COVID complications, rose an even better 14%. Most view these returns as untrustworthy, claiming that markets tend to bounce off oversold levels only to revisit them as hope succumbs. Perhaps. As an alternative, let’s revisit the GDP report mentioned above. GDP did contract nearly 5% when comparing first quarter to fourth quarter and multiplying by 4 to annualize the drawdown. In total, GDP shrank $234 billion to $18.987 trillion, down from a record $19.222 trillion in the fourth quarter but actually up .32% from a year ago. For the second quarter, economists expect US GDP to fall 30-40% annualized. This would deduct another $1.7 trillion or so from total GDP, bringing the cumulative economic loss to nearly $2 trillion. For the third and fourth quarters, analyst consensus calls for GDP growth, limiting the max drawdown to $2 trillion. This week, Congress authorized an additional $454 billion of stimulus, bringing the rolling total to nearly $3 trillion. Further stimulus initiatives ranging from state bailouts, to infrastructure projects, to more mailbox money, could tack on another $500 billion to $1 trillion. At $3.5 to $4 trillion, government spending doesn’t compensate for COVID, it overwhelms it. To help simplify this concept, consider that there are only two economic actors in the economy. One spends $2 trillion less TODAY and one spends $4 trillion more TOMORROW. These amounts do not occur simultaneously which would create marketplace disruption and restructuring, but by the end of the week, the overall economy has grown larger. To personalize further, consider the unfortunate 30 million filing for unemployment. Thanks to the $600 weekly federal subsidy on top of the standard state subsidy, 47% of these filers will make MORE money off the jobsite than they made on the jobsite. They will also receive stimulus checks for $1,200 plus $500 for each dependent. Should the economy reabsorb the unemployed before the end of July (the expiration date for the $600 subsidy), they will actually make more money and have had more leisure time in 2020 than they did in 2019. No wonder Walmart stock has risen 3% this year.
Recessions happen. GDP falls, corporate earnings fall, stock markets fall, commodity prices fall, interest rates fall, and unemployment rates rise. Catalysts vary, whether it’s Volker killing inflation with tight money, the Y2K hangover, Lehman’s collapse, the Asian flu or the COVID virus. What’s new is the deployment of “unlimited” stimulus in offset. Ironically, should the calibration of stimulus exceed the need, COVID may actually grow our economy. This explains April’s bounce. May will either usher in the retest of lows that so many seek or fortify markets above them as re-opening and stimulus catch hold. We expect it may-be the latter.
Have a great weekend!
David S. Waddell
CEO, Chief Investment Strategist