Is there a disconnect?

Blog post #451

The 3 months that just ended June 30th was terrific for nearly all asset classes, both in the US and Internationally.

The financial markets have been volatile, as one would expect, given the onset of the Covid-19 crisis. The 34% decline in the S&P 500 for the 33 days up to March 23rd was the fastest decline from an all-time high. But this rapid decline was then followed by one of the best 50 days in the history of US stock markets.

Markets are unpredictable. If the above market moves don’t teach you that, then nothing else will. This is why we emphasize the importance of staying in the market, because you don’t know what tomorrow will bring.

Early this week was another good example of the difficulty of predicting what the markets will do.

  • Over the weekend, Covid cases were rising and states were moving toward more closings, not openings. The news was bad both medically and for the economy.
  • With no new positive medical or vaccine developments on Monday and Tuesday, and Covid cases increasing, the markets went up on Monday and Tuesday.
  • You can’t predict that. Just stay in the market for the long-term. Be disciplined and take the long view.

How can large US company stock indices be down by only single digits for the first 6 months of the year, despite the Covid outbreak, widespread shutdowns and huge unemployment?

Many people have asked this question, wondering if there is a disconnect between the stock market and the actual economy. They are right and wrong.

The stock market looks into the future and values long term future expectations for publicly held companies. Thus, these large company indices that many view as “the market” are representing the future prospects and expected future cash flows for large companies like Apple, Delta, Amazon, Costco, Facebook, Marriott and many more. These large indices, such as the Dow Jones and S&P 500 are heavily impacted by a handful of the largest companies, as these indices are market weighted. This means the largest companies by stock market valuation have the greatest impact on the indices. And remember, the DJIA consists of just 30 stocks.

The stock market does not directly reflect the many small, private companies that are hurting or have already gone out of business. The market does not directly factor in the restaurants and stores near each of us that have already closed or are struggling. They are private, so they are not traded as stocks. But these privately held businesses are, or were, most likely customers or have relationships with many larger, public companies, and their owners and employees all shop at public companies. All this information should be factored into the current value of publicly traded stocks.

Thus, “Main Street” and “Wall Street,” if I can use those terms, are different.

The question that we cannot ever answer is about the future. As we often say, we don’t have a crystal ball.

What will the eventual impact of the stress on these smaller businesses be on the larger economy?

Will unemployment continue to go down? How fast or slow?

How will Covid impact consumer spending and will it affect the purchases of Apple products? When will people begin traveling again in large numbers and restore those related businesses and workers?

Will Target, Costco and Walmart feel the brunt of high unemployment? Will consumer spending drop or increase over the next 3 or 6 months, or longer, due to all these Covid effects?

Apple, Target, Costco and Walmart stocks are each near their 5 years highs. What the market is saying about these companies right now, based on their stock prices, is that they will succeed in the future. This helps to explain why these indices are at the levels they are at.

Other public companies, which are facing the negative brunt of the Covid impact, are still crushed, even if they have rebounded from their lows. Airlines, hotels, travel and leisure, and energy companies are far off their pre-Covid levels.

How do we handle and process these issues?

From an investment standpoint, we have a choice of how to approach all these issues. As a firm, we have taken the path that says that we will hold a diversified portfolio of many stocks, mostly in the US, as well as around the world.

But we have chosen not to play an expensive and most likely, unsuccessful guessing game to try and determine the answers to all the above questions, because no one really knows any of the answers.

We are not going to try and guess which stocks will outperform others over the next 1, 5, 10 or 20 years. That would not be our primary focus to help you to reach your financial goals.

We want to focus on the key things that matter to you most. We want to make sure you have adequate funds for your needs, both in the short term and the long term.

This is why we work with you and talk to you about the importance of developing an appropriate investment allocation between stocks and bonds that you can live with, especially during market downturns.

We hope this makes sense to you. This approach should provide you with comfort and clarity.

We want to wish you and your family a happy 4th of July weekend. We hope that you stay safe, and socially distance.

As we said above, we don’t have a crystal ball. However, we do believe in science. We do believe in the benefit of wearing a mask when in public places. In our humble opinions, we believe that if more people would wear a mask, we (and the stock market) would be better off in the long run.

Our firm will be closed on Friday, July 3rd, in observance of the 4th of July holiday.

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