From an email sent to IIM investors on July 2, 2020:
After collapsing by 22 million in March and April, 4.8 million workers returned to work in June, according to this morning’s jobs report – significantly more than the 3 million to 4 million consensus prediction among surveyed economists. This is the second consecutive month of improved job numbers – and the recovery not only continued through June, it accelerated. The unemployment rate, adjusted for misclassification errors, has now retraced half its pandemic-related increase.
Today’s jobs data likely reflects the early recovery that began in May and extended into early June as some businesses reopened and consumers ventured back out to shops, salons, and restaurants.
Since then, however, an unanticipated and significant rise in COVID-19 cases in major population centers in the south and west has caused many governors to rethink planned reopenings or to backtrack altogether, renewing closures and stay-at-home orders. This suggests that the June unemployment data may already be stale.
So it seems like a good time to reflect on what we have learned this year so far, and what may lie ahead.
During the first half of 2020, investors experienced a global pandemic, an economic shutdown, the end of an eleven-year bull market, and now the early stages of an economic reboot. The U.S. stock market has experienced large swings in both directions, rising 20% in the second quarter after falling 20% in the first. Interest rates have also remained low, especially as the Fed continues to provide stimulus.
The irony is that as we begin the second half, the S&P 500 is only a few percentage points from where it started the year. While this recovery happened unusually swiftly – and we’re certainly not out of the woods yet – it is further evidence that staying invested and maintaining a long-term focus are good core principles to abide by when investing.
Staying disciplined is difficult. As recently as March, it was unclear whether COVID-19 could be adequately contained. As the country shut down, it was uncertain whether individuals and businesses would survive without paychecks and customer activity. As credit spreads widened, there was a fear that bankruptcies and defaults would ripple across the financial system, leading to a 2008-style crisis. Finally, it was unclear when and how the economy could reopen, and if it did, whether consumers and businesses would feel confident enough to spend.
Fortunately, we’ve learned a great deal since then. While we are still in the early stages – with many more negative data points to come – there are clear signs we are bouncing back. Jobless claims and unemployment are still very high, but have begun to come down steadily. Consumer spending has picked up as cities have reopened, although overall confidence is still low. Industrial activity has thawed as factories fire up again across the country. Credit markets have stabilized despite some large restructurings. Many parts of the stock market have fully recovered.
None of this is to say that the economic recovery will be easy. This is especially true in parts of the country that have seen a resurgence of COVID-19 cases – and in industries that are deeply impacted by social distancing including restaurants, travel, retail and more. And while there are signs that customers are returning to those businesses, COVID case spikes and limited capacity mean that the jobs that have been lost are increasingly at risk of becoming permanent.
Despite this, there have been companies that have not only survived the crisis, but have thrived. Not only has telecommuting and video conferencing become the norm for office workers, but the shift to online retail has accelerated. That is one reason that some sectors of the stock market have not only recovered from pre-crisis levels, but have achieved new highs.
It’s important to set proper expectations about the recovery going forward. Many economic forecasts, including those of the Fed, expect a strong rebound in the second half of the year, but not enough to stem negative growth for 2020 overall. In fact, most economists and business leaders expect conditions to be uncertain until the end of 2021, at the earliest. While this partly depends on public health developments, including the possibility of a vaccine or other treatments, it also speaks to the severity of the economic crisis.
So, as is always the case, long-term investors should continue to be disciplined and patient. That has been the best way to weather this particular storm to date – and has been the best way throughout history, too. With so much widespread uncertainty around the world heading into the second half of the year…the pandemic, November elections in the U.S., and trade disputes, to start…staying disciplined and unemotional will remain the best way to invest in the second half of 2020, as well.
Below are seven key insights and trends we will be following in the second half of the year.
1. The COVID-19 crisis continues to create economic uncertainty
When it comes down to it, this crisis is rooted in public health. Although many early hot spots for the coronavirus have managed to control the pandemic, other states are now seeing an acceleration in new confirmed cases. Financial markets have been volatile as these patterns call into question the ability of the economy to reopen smoothly.
2. Still, there are early signs of an economic recovery
Although the economic data is still generally negative – which will also be the case for Q2 GDP when it is released – there are also signs that a bounce-back is on the way. Many new data points have shown that unemployment is stabilizing and that consumers are beginning to open their wallets again. While it will take time to reach pre-crisis levels of growth, these are positive early signs of a recovery.
3. Unemployment is beginning to stabilize
The job market has also shown very early signs of stabilizing after reaching record levels. Not only did the unemployment rate skyrocket to levels not seen since the Great Depression, but weekly jobless claims show that nearly 20 million Americans are still out of work. The good news is that more recent data suggest that furloughed employees are being recalled and unemployment is slowly improving.
4. Consumer spending has picked up as well
One of the key considerations for the recovery is whether consumers will feel financially secure and comfortable enough to spend. After all, the national savings rate jumped to 33% while the country was on lockdown.
Fortunately, there are initial signs that consumers are feeling more confident. Retail sales have bounced from their recent lows, especially for online digital retailers. This will be important as the recovery continues since consumer spending is the foundation of the economy.
5. The Fed and Congress will keep stimulating the economy
Although government support is a controversial topic for many, actions by the Federal Reserve and emergency legislation by Congress helped keep businesses and personal finances throughout the country on life support. Fed stimulus in particular helped to keep the financial system functioning smoothly, especially during that period when credit markets were particularly unstable.
It’s unclear what long-term consequences this historic level of government stimulus will bring. The Fed has projected that it will keep interest rates at zero percent through 2022. Only time will tell if they will shift their policy stance once the economy successfully comes out the other side.
6. Corporate earnings may take years to recover
The economic impact of the shutdown to the stock market is primarily through corporate earnings. Not only are earnings incredibly uncertain, but many companies stopped providing guidance. This creates challenges for understanding the outlook for profitability and market valuations.
Overall, estimates suggest that 2020 and possibly 2021 will be “lost years” for corporate earnings growth. However, this is well understood by investors at this stage. Rather than looking backwards at the impact of the COVID-19 crisis on corporate performance, investors should look forward at how profits will react once spending starts up again.
7. Stocks tend to rise with economic growth over the long run
Ultimately, the last six months have been further proof that investors should focus on the long run. And I expect that lesson will be as true going forward as it has been historically.
Please let me know if you have any questions. And Happy 4th of July.
Cale
