Stocks continued to move higher last week despite the worst employment report since the Great Depression. And the damage is likely to get worse. The May report will show data based on numbers to be reported this week. The unemployment rate could soar to 20% or higher in May.
But stocks look ahead, and the country is getting ready to open up. That means, slowly, Americans will be going back to work. We often look at the world as black and white. We were closed in April. We are about to open in May. But closed didn’t mean completely closed. Even with reported unemployment approaching 20%, about 80% of our work force remained employed. This went far beyond critical care workers like nurses and doctors. Banks were open. So were supermarkets. And drug stores. And gasoline stations. Many of us continued to work from home. Lawyers may not have spent many days in court, but they were still productive. Farmers were active and so were newspaper publishers. You have continued to pay your mortgage, your utility bills, and spend money online.
Reopening doesn’t mean completely open either. No concerts. No major league baseball, at least not with fans in the stands. Only a smattering of movie theatres. Bars that have been opened were hardly packed.
The reality is that everything is a shade of gray even though the media likes to present life as black and white. At the beginning life will open with restrictions. Some of them will be absurd. But the absurdities will fade shortly. Golf in foursomes, with conditions, is safe in most states, but for some, twosomes are the only way to go. Tennis can be singles, not doubles. Really? Is that the route to health salvation? These “guidelines” won’t last long.
At the start of all this sequester, the notion was to flatten the curve to avoid overwhelming the health care system. That seems to have been achieved. No one died that we know of because he or she couldn’t get on a ventilator. Today, there is no longer a shortage of ventilators. Masks and PPE equipment are not fully stocked yet, but we are getting close. Testing remains a problem, but that should be solved as well within a month or two. In short, we are on the cusp of being ready to reopen. Once the cat is let out of the bag, it won’t be pushed back in barring a catastrophic surge in cases so overwhelming that hospitals, even with added resources, can’t handle it. I am certainly neither a doctor nor an epidemiologist, but the likelihood is that won’t happen until the fall, if ever. In the meantime, the economic world will restart over the coming weeks, and restrictions, especially the stupid kind, will evaporate quickly.
What will replace all the above is something akin to the Swedish model, one that educates the public to the need to protect themselves by washing hands and staying six feet apart, but limits what is banned to what offers extreme risks of community spread like concerts or live sporting events. Those crowded family affairs that spawned surges in community spread won’t happen soon, but not because of any legal ban, but because most will still be too frightened to participate.
Will the virus surge as we reopen? Surge and rise are two different verbs. Initially, there is almost certain to be some rise but, hopefully, it will be to manageable levels. Will we all start to fly again? Not right away. But some will. And the airlines will be glad for every returning passenger. It’s summer soon. Many will seek a “safer” vacation, whatever that means. Safe will mean something different to each of us. For some, safe will be to stay close to home. To others, it will be a trip to the shore. But there are plenty who will fly somewhere to enjoy something special.
All this suggests recovery, and that is what the stock market is reacting to, at least in part. But recovery doesn’t mean full recovery. Not every restaurant and shop will reopen and some that do won’t last long. There could be mass bankruptcies in the leisure sector. Banks will experience higher default rates. Office space will be hard to rent. There will be a large segment of the population that simply will choose to participate less than they would have had there been no Covid-19. Thus, getting unemployment under 10% or GDP back to 90% of peak levels is one goal. Getting it back to record levels is going to take a long time, at least until the virus is in our collective rear view mirrors.
Pandemics have a cleansing effect. Weak businesses fail. Overcapacity means lots of productive space is abandoned. Malls will close as will many retail chains. The future for airlines and cruise ships is in doubt. Even on a human level, pandemics take the lives of the most frail, leaving behind the strong and healthy. The stark history of civilization going back a millennium is that pandemics accelerate change. The weakest parts of our world face extinction, while trends already in place that drive future change will accelerate.
Today, modern science may cushion the human toll, hopefully. Palliative cures may lessen the damage. A vaccine could reduce it sharply. Hope suggests some therapeutic success before year end and a vaccine of some efficacy in 2021. But these remain predictions and guesses. “We don’t know” are the three most used words to describe what lies ahead in regard to Covid-19.
What we do know is that “flattening the curve” doesn’t mean eliminating the virus, it means lowering the peak to allow our medical system to treat those requiring acute care. So far, that has succeeded. From here forward, as long as the disease is with us, which is at least several months and maybe a lot longer, we have to try to balance public health and economic interests as best we can. That doesn’t mean stay shut, nor does it mean open everything, ignoring the most acute public health risks.
For equity investors, we know the path forward from here is upward. What we can’t tell is the pace of improvement. The stock market has basically discarded 2020 as a lost cause, but it is factoring in significant recovery in 2021. That doesn’t mean 2021 will get back to 2019 levels. That is unlikely considering all the industries that will still be well behind the curve, including the aforementioned leisure industries. But if a 2021 recovery can lead to full recovery in the 2022-2023 timeframe, investors probably could live with that. Indeed, that optimism may be the principal driver to today’s rally.
Where do stocks go from here? We have had a big recovery since March, and it is easy to argue that is too far, too fast. Markets don’t seem to believe another shut down is coming this fall with a violent virus resurgence. Markets price in consensus expectations. Right now those expectations center on a fairly broad recovery over the next three quarters, a considerable lag in those industries most affected, a vaccine before the end of 2021, no second quarantine, and a normalization returning over the 2022-2023 time frame.
That may or may not be accurate. If it proves too optimistic, stocks will fall, perhaps significantly, based on new evidence. If it is accurate, or a vaccine or cure is evident by early 2021, stocks could move to new highs. We have an election coming this fall. At least one motivation for the current administration to push to accelerate the pace of reopening is political. Whether that works as planned or not is certainly in doubt.
In the investment world, we are used to dealing in economic terms. The virus is a whole new animal which none of us is equipped to judge. It adds an element of uncertainty. Time will tell whether markets are right or wrong in their current judgment. In the interim, it is best to bide one’s time, buy the dips, and lighten in rallies selling those stocks that become fully valued. It is proper to question market rises or declines. But it isn’t proper simply to discard them because you find them implausible. Markets have risen sharply since late March. First, you must understand why. Then you can judge whether markets are making the right decision or not. Just remember one old saw, “Today’s bad news is tomorrow’s easy comparison”.
Today, quarterback Cam Newton is 31.
James M. Meyer, CFA 610-260-2220
