The Tell: Stock and bond prices say something troubling about the coronavirus economy
Main Street is taking it on the chin, but Wall Street may wind up doing pretty well
U.S. stocks have rallied sharply since the March tumble, while bond yields are deeply depressed, hovering near all-time lows, but, in a recent analysis, Peter Berezin, chief global strategist for BCA Research, lays out a straightforward — if bleak — explanation.
The coronavirus pandemic is likely to pummel Main Street while leaving Wall Street relatively unscathed, Berezin writes, and asset prices are reflecting exactly that scenario.
“Bonds and industrial commodities tend to reflect the outlook for the real economy (i.e., Main Street) whereas stocks reflect the outlook for corporate earnings (i.e., Wall Street),” Berezin writes. “The two often move together but can occasionally diverge in important ways.”
This is one such occasion. As he notes, “the real economy is suffering.” Millions are unemployed, and the most vulnerable people in the economy have been hit hardest.
Despite that, stocks can keep churning higher. The asset class, broadly, is just fine: “Tech and health care are the two largest sectors in the S&P 500,” Berezin notes.
“The former has benefited from the shift towards digital commerce in the wake of the pandemic, while the latter is a highly defensive sector that has gained from the flurry of interest in new treatments for the disease.” The heavy weighting of technology over other beaten-down sectors and industries, such as travel and banks, helps investors avoid the distress there.
And within different sectors, some of the heavyweights are making out like bandits. Shares of Amazon.com Inc
and Home Depot Inc.
are near all-time highs as consumers hunker down, sprucing up their homes and buying items to replace experiences they would normally have at gyms, restaurants, and entertainment venues.
What’s more, growth companies benefit from lower interest rates. “A drop in the discount rate raises the present value of a stream of cash flows more the further out in time those cash flows are expected to be realized,” Berezin explains.
As for bond yields, Berezin argues that ultra-low yields may not necessarily signal weak economic growth ahead. Unlike some analysts, he is not convinced that the current downturn has lowered long-term trend growth, writing that “while some brick and mortar stores will disappear, this was part of a long-term shift toward a digital economy — a shift that has been raising productivity levels, rather than lowering them.”
Bond investors are betting that central banks will keep interest rates near rock-bottom lows, while fiscal stimulus may also boost consumer and corporate demand.
And, Berezin writes, “equity investors are hoping for an outcome where fiscal policy is eased by enough to eventually restore full employment while interest rates stay low well beyond that point in order to induce the private sector to keep spending: A win-win combination for stocks.”