It is safe to say most investors remain somewhat gob-smacked by the recovery in equity prices, led by growth/ technology stocks. Even with the recent pullback, the S&P 500 Index INDEXSP:.INX is pretty much where it was when there was no pandemic or global recession. Both sides, the bulls and bears, have lots of supporting evidence.
The bulls argue that with yields this low, and presumably remaining so for some time, there is simply no alternative. Plus, low yields reduce the discount rate for future earnings, favoring growth stocks. This helps explain the divergence between growth and value, and growth heavy indices such as the S&P 500 and more value-tilted indices such as the TSX or Europe. Plus, the economy has been recovering and it’s the change that matters more than the current level.
Bears have a pandemic that continues to show evidence of a second wave, which has now infected the White House. There are 10 million fewer people working in the U.S. since the start of 2020 and similar trends in other nations. Stimulus or government support is helping but is not economically sustainable. Plus the market advance coupled with falling earnings has made this one expensive equity market.
Regardless of which investor camp you may be in, there is no denying this is one market rally that investors are still questioning. The American Association of Individual Investor sentiment survey usually sees more bullish responses than bearish. Yet the bears have outnumbered the bulls since March (Chart 3). This is one unloved market recovery.
This sentiment view may prove wise. I would agree it’s the rate of change and direction in economic data that is more important than the absolute level. And over the past few months we have witnessed a strong economic recovery from the depths of Q1/Q2. However, this momentum has been slowing.
There has been talk of this “K”-shaped recovery which has some parts of the economy doing well and others not. There’s no denying this is an accurate assessment currently as those with the ability to work continue to do so, spend, buy durables, etc. Manufacturing is improving due to re-stocking demand; housing is benefiting from low yields and the increased importance of our dwellings. This is the upward part of the “K”. And then there are those who cannot work and continue to require government support – industries like leisure, hospitality, travel, etc.
Without a vaccine and/or continued stimulus, the lower part of the K will begin to weigh on the upper part. With one- million extra unemployed in Canada and 10 million in the U.S., bankruptcies will mount and economic momentum will falter.
Any opinions expressed herein are solely those of the authors, and do not in any way represent the views or opinions of any other person or entity.