Since the Financial Crisis, the U.S. Federal Reserve (Fed) and central bankers have used extraordinary monetary measures to promote rising asset prices in an effort to create wealth effect spending by consumers. The Fed had to act because Congress would not.
The consequence of Congressional failure to act after the Financial Crisis shows in the anemic 2.00% growth rate and lack of inflation achieved by the U.S. economy since 2009. In our opinion, growth never accelerated enough to break the drag of deflation and to rebuild the economic capital base destroyed by the Financial Crisis bear market.
Monetary Life Support Creates Dangerous Risks
With the recent pandemic, central bankers have had to dig deeper into their tool box to prevent the economy from slipping into a depression. They have usurped powers traditionally held by Congress who has been slow to react as partisan politics holds sway in advance yet another presidential election. We face an economic and health crisis of scary proportions and we are not out of the woods yet. Even so, investors have played along by following the Fed’s storyboard and implied backstop. They have pumped money into the markets while ignoring almost unimaginable economic and fundamental risks.
The 30 million unemployed and devastation of small and medium size business in America don’t seem to matter. The markets were overvalued before the pandemic, but with the collapse in corporate profits, overvaluation has increased by unfathomable proportions. Yet investors ignore the risks and seem to have found stock prices a good bet at these levels.
The Illusion of S&P 500 Returns
A reasonable person might ponder that with GDP falling by about 30% in the second quarter, suffering the largest drop since the Great Depression, the S&P 500 would be stuck in a bear market. What’s more, of the 500 companies in the S&P 500, 495 have posted negative returns for the year so far. Industries such as retail, travel, energy, entertainment and dining have seen sales disappear. While the top 5 FAAMG names have lifted the market into positive territory, the remaining stocks are still down and 5 stocks don’t make a market (Figure 1). More troubling is the fact that bankruptcies are piling up — main street business in towns and cities across the country have been shuttered — and more are surely going to fail. Economists suggest that more than half of small businesses will close permanently. It’s staggering to think the S&P 500 is up for the year as I write this article.
Figure 1
It would seem the canary in the coal mine is the unwavering belief by investors that the Fed has a solution for economic recovery and growth. But can the Fed continue to print money ostensibly forever without bankrupting the country with debt? Once upon a time, we worried about compromising our children’s and grandchildren’s future because of the ballooning debt. Sadly, not so much anymore.
Don’t Lose Sight of Risk on the Horizon
Should investors’ optimism in the Fed’s liquidity program fade, we fear the markets are headed for a dramatic or even devastating bear market correction. Risks abound and are so outsized that we believe the right course for most investors is to seek to protect capital as their first priority.
Capital protection is necessary for investors with significant investment assets that can’t afford to experience another significant loss. We suggest choosing an investment manager that can help provide capital protection.
WBI’s Bull|Bear time and market-tested active management process is designed to seek capital protection by raising cash in unfavorable market conditions and to get quickly reinvested as risk abates to capture return. We stand ready to help investors in these uncertain times navigate the risks created by the scary pandemic economic conditions.
Feature image by Kevin Sanderson from Pixabay
IMPORTANT INFORMATION
The views presented are those of Don Schreiber, Jr., and should not be construed as investment advice.
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