By Jan Faure
Markets were turbulent in June as concerns about a resurgence of COVID-19 cases unsettled investors.
Markets closed out the second-quarter with positive gains. Most major indices are still deeply in the red year-to-date but are significantly better off than the March 23rd lows. US markets have led the way with a determined rally while Europe is still struggling to erase losses. The rally has been driven by unprecedented central bank action (QE), major interest rate cuts, optimism over COVID treatments/vaccines, and no shortage of FOMO - fear of missing out on a market rally.
Globally, there is a delicate balancing act at play between containment of the COVID-19 pandemic and the need to restore full economic activity.Currently it appears that real GDP levels will only reach pre-COVID levels(i.e. Q4 2019) in 2022. The most recent IMF forecast for global economic growth for 2020 is -4.9%.
Since the pandemic hit, the US Federal Reserve has cut US interest rates to zero and purchased more than $2 trillion in treasuries and asset backed mortgage securities to boost the economy. This has certainly ‘worked’ for stock markets, as share prices rallied from the lows seen in March to now. The real economy sits in sharp contrast to financial markets which have been boosted by excess liquidity. Businesses are under immense strain and unemployment rates have reached multi-decade highs.
More stimulus measures may be needed going forward yet the effectiveness of later measures is questionable. At the heart of the recovery is the consumer and their confidence to spend. The US consumer, for instance, has boosted their savings (think stock market gains) and cut back on discretionary spending. The relief measures already taken, and to be taken, need to be translated into consumer spending (not saving) to effectively bring the economy back to life. This is true everywhere in the world.
Paper profits, or stock market gains, won’t last unless businesses do business, people get jobs and then have the confidence to spend their pay cheques. It’s a virtual cycle that you never want to be forced to fix. Central banks recognise and are fully aware this, hence the “do all it takes” attitude.Once the consumer is back on track the rest, as they say, is history. The catch to all this is time. Can central bank interventions last long enough for business activity to regain its former strength? Small businesses especially need to reopen or millions of jobs could be permanently lost.
In the US, further government stimulus spending to help small-businesses and individuals has been discussed in Congress and analysts are predicting another round of relief is likely to come by late July.
The dreaded second wave of infections is upon the US. America engaged in a more voluntary shutdown than Europe and Asia. The reopening of the US economy has coincided with nationwide protests (not good for social distancing),hence the rapid rise in infections in June. It is doubtful that the US will have enthusiasm for a new round of shutdowns due to fatigue, so one can expect some unpleasant headlines ahead.
As markets enter the second half of the year, major uncertainties still remain. The pandemic is still very much with us, vaccines and treatments are still somewhat elusive and economic activity remains tentative. Markets have in many ways been detached from economic reality. Despite markets being forward looking, investors seem overly optimistic based on current information. The conclusion is that there is an expectation that central banks and governments will keep feeding markets with liquidity until economic activity is fully restored.
In the end, the hopes for a sustained economic recovery rests on the world’s ability to effectively defeat the coronavirus pandemic.