In this week’s market update: shares are heading for their best quarter in ten years despite recent worries about both the pandemic and trade; attention shifts to how to pay for stimulus; we look at the market’s winners and losers; and ask will the pandemic increase inequality?
Shares continue to march higher despite recent concerns about rising infections in China and the US and a clumsy Fox TV interview by America’s trade adviser that cast doubt on the US’s trade deal with China. After a remarkable rally since the lows reached in March, stock markets are pushing towards new highs as investors prefer to focus on massive stimulus than the mixed economic and medical reality.
US shares are still leading the pack, with the S&P 500 around 20% higher since April. Nasdaq hit a new record this week. If maintained until the middle of next week, the end of June, this will be the best three months for US shares in 20 years. The disconnect between share prices and other news continues to defy the sceptics, prompting talk of bubbles and corrections to come.
Investors’ risk appetite remains strong with the markets seizing on reasons to rise. After Peter Navarro, US trade adviser, hinted that US-China trade relations were on the rocks on Monday, shares fell but a tweet countering that from President Trump saw the S&P 500 close 0.7% higher. Asian stocks picked up on the better mood with rises in Tokyo, Hong Kong and China.
Rising optimism is not universal. Worries about the level of the market are particularly evident in the US where shares are trading at around twice their average multiple of long-run earnings. Most fund managers now think the market is overvalued. In fact, the proportion of nervous managers is higher than it’s been since the late 1990s.
Despite this, there are still some analysts who think the market can keep rising. The rapidity of the gains since the early days of the pandemic have left many investors on the side-lines. Fear of missing out could bring those investors who have missed out on the rally back into the market, pushing prices higher.
For that to happen, however, they will need to keep believing in the possibility of a V-shaped recovery - a sharp fall and quick rebound. A lot is riding on the now widespread easing of lockdowns not resulting in a second wave of infections. The evidence is patchy right now, with cases on the increase in both China and the US and notably so in some Latin American countries like Brazil and Mexico.
For now, though, attention is focused on massive monetary and fiscal stimulus. It’s a re-run of the Greenspan Put in the 1990s when investors assumed that the Federal Reserve chairman would always ride to the rescue with lower interest rates at the first sign of distress in markets. Betting against the Fed was a recipe for burnt fingers then and it is proving to be the same in the current crisis.
The positive view of the markets has been encouraged recently by some positive economic data - much better than expected jobs figures and retail sales in America, for example. Although even these numbers have a glass half full, half empty element to them - some analysts worry that better than expected economic data are an indication that social distancing measures are no longer being taken seriously which increases the chance of further infections down the track.
Although much of Europe is moving into the summer with relaxations of restrictions and the re-opening of the last parts of the economy still to be closed, the overall global figures are actually getting worse. The number of newly-confirmed cases of Covid-19 has averaged around 150,000 a day, up from about 90,000 a month ago. Most of these are coming from Latin America where Brazil has now overtaken the US as the worst-affected country in the world.
In the US, too there has been an uptick in infections in southern and Western states. India has also seen a surge in deaths recently.
On the economic front, too, the news remains mixed. Here in the UK, manufacturers remain in a sharp downturn. Seven in ten reported lower than usual orders, with eight in ten experiencing reduced export orders. The survey was conducted from May 26 to the middle of June, after an easing in restrictions for UK factories. That suggests that the problem may have morphed from a supply shock to a demand shortfall which points to a more protracted downturn into 2021 which arguably the stock market has not priced in.
The pandemic is clearly not affecting everyone equally, however. And that is as true of stock market sectors as it is individuals. A recent study by the FT showed a stark divide between the companies which have survived and thrived through the pandemic, watching their stock market value increase over the period, and those which have gone the other way.
A list of the biggest increases in market value around the world is dominated by the technology and healthcare sectors, with Amazon topping the list with a $400bn increase in its market capitalisation since the start of the year. At the other end of the scale, 18 of the 25 biggest falls in market value have occurred at financial and energy stocks.
The winners are perhaps obvious. Technology companies have been beneficiaries of the need for greater online connectivity in a world where physical proximity has been off limits. The opportunities for the healthcare sector are also clear in the greatest health crisis in a hundred years.
The losers require a bit more analysis. The first category of company hit hard by the pandemic is those businesses reliant on people being allowed to gather with others at close quarters. Airlines are obviously in big trouble on this front but so too are many leisure businesses such as restaurants. Alcohol has been a possibly unexpected loser as drinks foregone in pubs and restaurants have offset drinking at home. Industrials have been hit by the reduced efficiency of running manufacturing lines on socially distanced terms.
Energy companies have suffered although arguably the pandemic has simply deepened a supply/demand imbalance that was already in evidence before Covid-19 struck. For financials, the issue is interest rates. Low yields make it difficult for banks to strike a profit between the price at which they lend and borrow.
Another interesting feature of the pandemic, with potential investment implications, is the tendency for economic crises to hit different social groups in different ways. This was true in the early 1980s recession which was focused on heavy industry and disproportionately affected the north and midlands here in the UK. In the early 1990s downturn London and the service-focused south got away lightly again compared with outlying regions. This time, the divide has been between low-paid service sector jobs in leisure and retail and higher-paid jobs in sectors which have been able to shift quickly to working from home.
The rise in inequality implied by this has always been a feature but the response of the political class is likely to be very different this time around. The economic orthodoxy of the 1980s and 1990s was pretty much sink or swim. Today, the rise of populism means governments are more likely to be supportive of those hit hardest and to shun the austerity that characterised the past ten years. This will have a significant impact on many fronts, not least for inflation which is clearly not a problem in the short term but could be further out.
So, investors are having to play four themes simultaneously at the moment: first, they must seek out the beneficiaries of short-term stimulus, perhaps including a reduction in consumption taxes to encourage spending; second, they need to position themselves for another tough year in 2021, probably tougher than the market expects today; third, they need to look for the winners in a world where existing trends, to online shopping for example, and working from home, have been massively accelerated; and finally, they need to start thinking about hedges against possible inflation in the future.
One other concern for investors to keep an eye on is how governments start to think about managing their balance sheets in the wake of this year’s huge stimulus. If austerity is out, then tax rises are likely to take precedence over spending cuts. Here in the UK, an autumn budget, if not a July statement from the Chancellor Rishi Sunak, could start to indicate the direction of travel.