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Federal Reserve Cast Doubts About Quick Economic Recovery

June 15, 2020
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Monday Morning QB - Market Observations:

  • Increasing Covid-19 Cases Dampen the Hope for Full Reopening of the Economy Any Time Soon
  • Gloomy Economic Forecast and Rising numbers of Covid-19 Cases Lead Investors to Take Profits
  • Reopening Optimism Had Been a Key Driver of the Market Recovery
  • National Bureau of Economic Research Declares U.S. Recession Began in February- Ending the Longest Economic Expansion since 1854 at 128 Months
  • Retail, Home Building and Unemployment Data Due Out this Week

Monday Morning QB - Market Performance:

U.S. stocks suffered their worst weekly decline in almost three months as investors took profits from recent gains, responding to both the Fed Chairman’s news conference and worries of a second wave of COVID-19 cases.

Slower-growing value stocks surrendered their new market leadership and recorded the steepest drops while smaller-cap shares also underperformed.

The Dow Jones Industrial Average dropped over 1500 points to finish the week at 25,606, a decline of -5.6%. The technology-heavy NASDAQ Composite fared best among the indexes, giving up -2.3%.

By market cap, the large-cap S&P 500 declined -4.8%, while the mid-cap S&P 400 and small-cap Russell 2000 each declined -7.9%.

Federal Reserve Declares No Rate Hikes until 2022

The hope for a quick economic recovery coming out of the self-induced Covid-19 economic coma took a hit last Wednesday. Federal Reserve Chairman Jerome Powell stated that the Fed is not even thinking about thinking of raising rates.

Fifteen of the seventeen voting members of the Federal Reserve Committee went as far as saying 2022 could be the next potential date for a rate hike.

The Federal Reserve uses interest rates as one mechanism to either stimulate or slow down economic activity. Lower rates help stimulate a struggling economy while raising rates helps to slow down an overheated economy. Should the recovery be quick and vigorous, then the Federal Reserve will no longer need to keep rates low, much like the Fed did in the first few years of the Trump Administration. 

Continued Interest rates near zero is not a vote of confidence in our potential to recover economically from the virus shutdown.

The economy had recovered before Trump took office, and the business tax cuts gave our economy a boost. The Federal Reserve used the growing economy to begin undoing the years of stimulus applied to help end the Great Recession of 2008-9.

Our economic progress was cut off at the knees by Covid-19, and the Federal Reserve has shown that they are not afraid to be the most accommodative Federal Reserve in history. The credit for the quick recovery points to the most extraordinary fiscal and monetary policy enacted so far.

Mr. Powell said the Fed is committed to using whatever tools are needed for however long the tools are required to provide relief and stability.  At the same time Treasury Secretary, Steve Mnuchin said there would also be more fiscal stimulus soon.

Will stock market swings be a sign used to enact more fiscal and monetary stimulus going forward? We'll see.

The Federal Reserve is Concerned About Long Term Unemployment

What a difference a week makes.

The job report from two Fridays ago was a shocker that sent the stock market soaring. (See last week’s MMQB.) Everyone was hoping for a "less bad" jobs number for May compared to April.

What we got was job creation instead of more unemployed Americans. So, what is the problem?

Chairman Powell seemed unimpressed by the previous week’s job report. Brushing past the 2.5 million jobs created in May, he was quick to point out the long-run damage the virus could inflict on the economy by altering consumer, as well as business, behavior for the foreseeable future.

Powell went on to say that the job numbers were a pleasant surprise and that he hopes we see many more surprises, but, in his estimate, the American economy has a long road ahead.

Chairman Powell went on to say that it is possible that millions of Americans will not go back to their old job or even find work within their industry, given the potential for reduced demand for goods and services that require increased human contact. He said it could be years before we get back to those people finding jobs.

The Market Reaction Was Swift and Sharp – Dow Declines More Than 1800 points

Thursday’s fallout, the fourth worst day for the markets this year, was drastic. The markets appeared to focus not only on Chairman Powell’s statement and press conference but a spike in hospitalizations for people testing positive for Covid-19.

As we discussed in last week’s MMQB, new cases are not the right metric. We believe the hospitalization rate is the number to watch. U.S. coronavirus cases topped 2 million with the death toll now exceeding 110,000 in the U.S. The recent surge was blamed on states that had relaxed the social distancing rules first.

My issue with the data is taking it on face value, not examining it.

My question is (for the states experiencing a higher infected rate), are they doing the same amount of tests or has testing ramped up in their states? Unfortunately, my research skills are limited, so I do not have an answer to the question.

Testing rate also matters, not just hospitalization numbers.

If the numbers increased in conjunction with more testing, then the result is less alarming. If the infection rate is lower than what one would expect with increasing testing, this is a good sign, even though the number of hospitalizations has increased.

Just like the jobs report from two Fridays ago may not have given a complete picture of what employment may look like going forward in America, the increased hospitalization numbers may not be the smoking gun to continue the shutdown policies affecting the economy.

Or maybe that’s hope talking.

One cannot overlook the potential impact of the complete collapse of social distancing during the past weeks' protests over ongoing racial tension and inequities brought into sharp focus with the tragedy in Minneapolis. 

If the hospitalization rate is of real concern, then the number of positive tests a month from now may be staggering.

Please, do not chastise or misunderstand me on my comments over the protests.

I personally think everyone should have the right to peacefully voice their first amendment rights which the majority of protestors did. (And as a person of faith, I know Jesus led some of the best protests in world history!)

However, that does not change the reality of large gatherings during this pandemic where safe distancing is not possible.

Nor will your portfolio ignore the bad news. Without clarity, we may be in for a choppy stock market this summer.

(sources: all index return data from Yahoo Finance; Reuters, Barron’s, Wall St Journal, Bloomberg.com, ft.com, guggenheimpartners.com, zerohedge.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, www.stocksandnews.com, www.chaikinanalytics.com Chaikin Analytics, www.marketwatch.com, www.BBC.com, www.361capital.com, www.pensionpartners.com, www.cnbc.com, www.FactSet.com, W E Sherman & Co, LLC)
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