The Stock Market Is Not the Economy - Adviser Investments

The Stock Market Is Not the Economy

August 3, 2020

Please note: This update was prepared on Friday, July 31, 2020, before the market’s close.

If you suffered a bit of whiplash this past week, you weren’t alone. Economic data turned from better to horrible while stocks rallied then faltered. And some of the largest tech companies in the world saw their CEOs harangued in Congress while posting surprisingly strong profit reports for the second quarter.

Congress’ failure to extend and expand financial relief for Americans beset by the pandemic may put a crack in traders’ rose-colored outlooks. Layoffs gained speed and new claims for unemployment benefits rose for the second straight week, while the additional $600-per-week in unemployment payments included in the CARES Act expired, causing concern and uncertainty for 30 million unemployed workers. Tragically, a big worry is that many Americans will be forced from their homes in the coming weeks because they simply can’t pay the rent.

Through Thursday, the Dow Jones Industrial Average was down 6.5% for the year, while the broader S&P 500 index had returned 1.6%. The MSCI EAFE index, a measure of developed international stock markets, is down 8.0% for the year. The yield on the Bloomberg Barclays U.S. Aggregate Bond index stood at 1.07% on Thursday, down from 1.13% last week and 2.31% at year-end. The U.S. bond market has generated a 7.7% total return so far this year.

Economy’s Swoon Is No Surprise

Though widely expected, the numbers were still shocking. Economic activity cratered during the second quarter, with gross domestic product (GDP) contracting at a 32.9% annualized rate, while more than 1.4 million Americans lost their jobs for the second week in a row. Yet, the stock market took it in stride. What’s behind the disconnect?

As noted, traders were expecting awful numbers. In past updates, we’ve pointed out that the stock market tends to be pretty good at pricing in bad news that it can see coming. It’s the surprises (like a pandemic) that send traders scrambling.

In one sense, the economy’s contraction was smaller than initially feared. In early June, the Federal Reserve Bank of Atlanta was estimating the economy would shrivel at a 51.2% rate. The reported 32.9% annual rate was still bad, but almost a relief given prior predictions.

Note: Chart shows quarter-to-quarter change in U.S. real gross domestic product (not annualized) from December 2013 through June 2020.
Source: U.S. Bureau of Economic Analysis.

And remember, this is an annualized number, which, for better or worse, is how Wall Street reports the data. In fact, the economy did not decline by a third in the second quarter. Economic activity dropped 9.5% from the first quarter. Only if repeated over the next three quarters would this result in a 32.9% decline in economic output. This isn’t to say that 9.5% isn’t a steep drop—it’s the largest quarter-over-quarter decline in GDP since at least the 1950s. In dollar terms, it represents about $1.8 trillion in economic activity that vanished. But it was a 10% decline, not a 33% drop.

The Path to Recovery—Up, Down, Sideways

Analysts predicting a V-shaped recovery may be ready to recant. From hiring and firing to personal incomes and savings, numbers that were improving just one month ago either turned downward or slowed dramatically over the past few weeks.

This up-and-down pattern in our economic rebound is likely to persist until a vaccine that proves to be effective, safe and scalable is developed. Economic forecasting remains highly reliant on guesswork in the face of all the unknowns relating to COVID-19’s potential toll.

In the meantime, it’s corporate earnings season and companies are beginning to report what happened to their businesses during the April-to-June quarter. Not all of the reports are, or will be, bad—witness the solid numbers seen from the likes of Amazon and Facebook earlier this week. And these companies won’t be the only ones to surprise to the upside. By the same token, we could see some negative surprises as well.

Investing is all about managing risk, not eliminating it. The future is always uncertain and there are always risks to navigate. We remain disciplined in our approach and believe that diversified portfolios are the best way to build and preserve wealth in the investment markets. So long as we all stay smart, selective, calm and collected, we can defend against downdrafts without giving up our ability to scout and find opportunities throughout the span of this crisis.

Podcast: The Portfolio Impact of Politics and Pandemic

How is the “reopening” of the economy going? How has the spread of COVID-19 impacted those efforts? And what will the results of the 2020 election mean for investors?

These three questions sum up some of the bigger worries for investors today and are the subject of this week’s The Adviser You Can Talk To Podcast. Listen in as Director of Research Jeff DeMaso and Research Analyst Liz Laprade discuss some of their latest research on economic shutdowns and reopenings, what the medical data is telling us, and the historical record of market performance under both Democratic and Republican presidents.

In this insightful conversation, Jeff and Liz cover:

  • How other countries’ reopening efforts have gone and how they’ve attempted to combat the virus
  • The dramatic disparities in states’ approaches to reopening and COVID-19’s spread
  • The data behind the disconnect between the current recession and stocks’ strong rebound
  • How markets have performed leading up to and following presidential elections

Click here to listen now!

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Financial Planning Focus:

Reverse Mortgages—Myth Versus Reality

Reverse mortgages garner quite a bit of attention from the media—much of it negative. And that’s appropriate. But it’s not the whole story. Reverse mortgages can be a useful tool in certain situations, so let’s separate the myths from the facts.

What is a reverse mortgage? Simply put, it’s a loan against the value of your home. But unlike most loans, when you take out a reverse mortgage, you don’t pay it back month by month; instead, your loan is eventually repaid with the proceeds from the sale of your home or by your estate sometime in the future.

A homeowner must be at least 62 years of age and have a large amount of equity in their home to take out a reverse mortgage (50% is a good rule of thumb, but the amount of equity required depends on the lender, the size of the mortgage balance and the value of the home). Proceeds from a reverse mortgage can be taken as a lump sum, doled out in the form of fixed monthly payments or held in reserve as a line of credit.

Misconceptions about what’s involved in taking out a reverse mortgage are common. For instance:

Myth #1: The bank receives the title to the home as part of the reverse mortgage.

Reality: The title stays in the homeowner’s name.

Myth #2: Your heirs will not inherit your home.

Reality: If you have an outstanding reverse mortgage on your home when you pass, your estate will still inherit your home. At this point, the outstanding loan on the property must be repaid. Importantly, though, a reverse mortgage is a “non-recourse” loan, which limits how much your heirs owe:

  • If your heirs decide to keep the home, they will have to pay off the loan. But they can never owe more than the home is worth.
  • If the house is sold and the sale doesn’t cover the loan balance, the difference is paid by the Federal Housing Administration (FHA). This means that even if the house sells for less than the loan amount, your heirs won’t owe anything.
  • If the property is sold for an amount in excess of the loan balance, the remaining funds go to your heirs.

Myth #3: You will be forced out of your home if you don’t pay back the reverse mortgage.

Reality: A reverse mortgage never needs to be paid back by the borrower. If you take out a reverse mortgage, you can remain in the property for the rest of your life without making any payments on the loan. However, you will still owe property taxes and homeowner’s insurance. If those payments are missed, you could face foreclosure.

Myth #4: A reverse-mortgage line of credit and home-equity line of credit are the same thing.

Reality: While both can be used to tap into the equity of a home, there are some important differences. A home equity loan needs to be repaid, typically over a five- or 10-year period. Reverse mortgage loans do not. But reverse mortgages come with much steeper closing costs than home equity loans.

It’s worth repeating that reverse mortgages are an option that makes sense in certain financial situations and can be the wrong choice in others. Be sure to seek expert advice if you have questions about whether a reverse mortgage is right for you or a loved one.

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Adviser Investments’ Market Takeaways

Calm and clarity have been sorely lacking when it comes to market news recently—that’s why we’ve begun providing Today’s Market Takeaways, short videos in which a member of our investment team analyzes what the market’s telling us.

You can find two new Market Takeaways videos on our website. Equity Research Analyst Kate Austin talked about why seemingly weak earnings have boosted the market and Vice President Steve Johnson discussed why the week’s results reveal that the market is not the economy.

Looking Ahead

Next week’s slate includes manufacturing and service sector indexes, construction spending and motor vehicle sales, and a peek into Main Street’s pocketbook, with reads on hourly earnings, consumer credit and household debt. We’ll also be keeping an eye on the continuing barrage of earnings reports as well as the weekly employment numbers.

As always, please visit www.adviserinvestments.com for our timely and ongoing investment commentary. In the meantime, all of us at Adviser Investments wish you a safe, sound and prosperous investment future.


Please note: This update was prepared on Friday, July 31, 2020, before the market’s close.

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