Market rally comes under threat as cases rise
As indices reel from their sharp drops last week, what is the outlook for markets as we move towards the second half of the year?
Is the current market selloff the beginning of the next big leg lower? A rise in cases comes after a huge rally for equity markets that leaves them vulnerable to more bad news. We look at what’s driving this bounce.
Coronavirus cases rise
A steady rise in virus cases in a number of US states over the weekend has raised fears that Covid-19 is not contained and could easily resurface, just as economies around the world begin to emerge from lockdown. Just as markets probably overreacted on the downside in February and March, they have most likely (in the short-term at least) rallied too far too fast. There is no vaccine for Covid-19 at present, and one is unlikely to arrive for some time. As a result, we may well see further cases and outbreaks later in the year, particularly as we head into the winter period in the northern hemisphere.
Economic data remains poor
Even a V-shaped rebound takes time to play out. As countries around the globe go back to something like normality, economic data will begin to improve, but perhaps not quick enough for markets that have rallied so quickly. And if data hits a rough patch and weakens for a time, then that will leave indices in particularly vulnerable.
Earnings will be sour for a while
The stock market is forward looking, but is it forward looking enough? Q1 reporting season was bad enough, but Q2 will be much worse. If things start to pick up in Q3, and if the earnings forecasts are brighter as the next quarter’s earnings get underway, then investors will likely be more confident in the outlook. But if consumers do not resume spending at a reasonable rate, then earnings in Q3 will fail to rebound as quickly as many have hoped. Stock markets have rallied ahead of the fundamentals, but if these fundamentals do not catch up soon then the risk of another correction rises.
Investors watch the 2009 playbook as a guide
Even if this rally does have much further to go, some pockets of volatility are to be expected. The VIX, known as the market’s ‘fear gauge’, has surged, and even before this bounce was at a much higher level than was the case in 2019. This is still a volatile market, and many investors forget that markets go up and down, not up or down.
2009 saw a big bounce from the lows but then struggled during the summer, before resuming its march higher later in the year. Perhaps we will see a similar picture play out this time, and while the recession this year may be bigger than in 2008/9, policy support from central banks has been bigger and implemented more quickly than in the previous crisis.
In short, the path from here is uncertain, and likely to be volatile, and there are both risks to and support for the outlook for stock markets as we head towards the end of the second quarter and into the second half of the year.
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