Markets have been rallying hard despite seeing depression era numbers, high unemployment, businesses struggling to reopen (at least many small businesses) and social unrest. Nevertheless, the market trudges higher on hopes that the economic reopening will persist into a full-blown recovery. The question now becomes whether the rally will continue into a new bull leg higher, or run out of steam.
One question that some may ask is whether economics matter anymore if the market has recovered most of the plunging losses. The answer is that the market and economy can dislocate, but over time they trend together.
The issue is that one of them; either the stock market or economy must begin to follow the other. Economically, data has broken many of the charts, which is likely due to the developed world’s hard-stop to combat COVID-19. For example, consider the layoff announcement charts. In the near 30 years of data, nothing approaches the severity of the layoffs seen below.
The good news is that layoff announcements are subsiding from April highs, and the numbers are beginning to make previous spikes look normal. We expect that economic numbers will continue to be heightened through the remainder of the second quarter, but begin to improve in third quarter.
Here is another bit of positive information. In all cases after a bear market, when more than 50% of the indicators have gone positive, markets have rallied further by a meaningful amount. According to Ned Davis Research, their Rally Watch Indicators model turned bullish on June 2, 2020.
Either the market is correct or the economic numbers are correct, but one of them must give. If the market is correct, economic data will begin to rise over the next couple months and, depending on the strength, markets would continue to rally. If the economic numbers remain horrifying, the market is likely to drop to reflect those realities
This is a tough match to choose sides in. There is no doubt many emotions that this market can conjure up. It is important to realize that both overly conservative and overly aggressive positions have more risk than normal. Overly conservative positions could lose value as people flock to stock in a rally. Overly optimistic stock allocations could suffer if the rally fizzles or sentiment changes.
Each investor needs to seriously examine their risk profile and options. Some options are fun to talk about because the opportunities are huge. However, as with many outsized opportunities, so the risks. Everyone may come to opposite conclusions and no pundit can accurately tell you what happens next from here, but 2020 has taught us a lot about how dramatically wrong we are prone to be about a great host of things. If we learn to rely on weighing evidence rather than emotions, we will probably end up better off. Otherwise, we may be doomed to repeat previous mistakes.
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