It is impossible to write to you this week without mentioning the tragic death of George Floyd; our hearts go out to his family and loved ones. My first thought was that this is supposed to happen in other places, not Minneapolis and St. Paul. As a good number of you are Minnesotans perhaps like me, you are still processing the totality, which has now spread across the country. As is said, out of crisis comes opportunity. In these early days, it may be hard to visualize, however, this is the result for which we should hope and pray.

- Tom

Why has the stock market been doing so well when the economy is doing so poorly?

The economy and financial markets rarely move in lockstep, especially in the short term. This decoupled nature has long been the case, possibly never more apparent than during the past 90 days. In February and March, we experienced a rapid decline of 34 percent in the stock market followed by what has been a substantial increase in prices. The US stock market repair that has occurred since the March low coincides with US economic data that is deteriorating. This disconnect has left many investors scratching their heads. What’s the reason?

First, stock markets are forward-looking, meaning what is occurring today with prices is a reflection of what the market expects to happen in the future. In more technical terms, the market is continuously discounting expected future corporate cash flows and profits. Think back to late March – in the U.S. there were less than 100,000 COVID-19 cases diagnosed, unemployment data was not at record highs, and the term “shelter-in-place” was a newer concept. At that point, the stock market had already declined materially, pricing in an expectation of lower future earnings. Step forward to the repair phase we have been in, and the market appears now to be adjusting to different growth expectations as we cautiously move through this pandemic. Arguably in March, stock markets seemed to be pricing in a potential depression, which changed to just a recession.

Second, financial markets do not ignore economic data AND the economy is comprised of several components, not just corporate profits. Government, healthcare, and education, for example, serve a purpose and impact the movement of an economy.

Finally, market expectations, and corresponding prices, constantly change with evolving information. The future direction of the stock market will largely depend on how the economic outcome compares to expectations. 

Market Comments

• The U.S. government held the largest auction of 10-year Treasury notes on May 12, with the notes being sold at record low yield of 0.70% (source: Treasury Department)

  • The low interest rate environment has helped cushion the overall cost of the increasing government debt

• Stock market volatility, measured by the CBOE Volatility Index (also known as the fear index) peaked late March at around 85 and now has fallen to just under 30 (source: cboe.com)

  • This level is still elevated above the twenty year average of around 20, signaling that despite the large increase in stock market prices, investors are still cautious

• Vacation rental demand soared in pockets of the US, with Florida specifically seeing rental bookings 90 percent higher than a year ago (source: Financial Times)

  • A report by the Financial Times cited research suggesting that Americans who have not been hit by the economic fallout from the coronavirus outbreak are eager to spend

• TSA checkpoint travel numbers hit a COVID-19 high of 348k on May 22nd (source: tsa.gov)

  • This level is off the low of 87k set mid-March signaling an increase in economic activity, however still a fraction of the 2+ million air travelers a year ago