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A Long-Awaited Yet Unsurprising Dip

Updated: Jan 11, 2021

On Thursday, June 11th 2020, stock markets experienced a painful yet not unsurprising dip.

Bull Run Gone

The S&P 500 Index fell by 5.89%, and the Dow Jones, weighed down by a truly atrocious day for Boeing (NYSE: BA) fell even further, losing 6.90%.

This was largely spurred by the release of the Federal Open Markets Committee (FOMC) Summary of Economic Projections the previous day. Federal Reserve Chairman Jerome Powell provided a grim economic outlook, which confirmed the fears of investors across the board by providing the news that they had been staving off for weeks during the bull run following the market crash in March.

By projecting that the Federal Funds target would remain at their current near-zero levels through 2022, Powell implied that the prospects of economic recovery are grim. Indeed, the FOMC projected in their report a GDP decline of 6.5% in 2020 and an unemployment rate of 9.3% at the end of the year. Compared to the 50-year record low unemployment of 3.5% we experienced just this February, this represents an increase of 166%.

Rushing Into Safe Haven Assets

During times of economic uncertainty, investors tend to sell stocks and move their funds into U.S Treasuries, which are considered “safe-haven assets”. Indeed, while stock markets fell, the yield on the 10-year US Treasury fell by 9.5 basis points (bps = 1/100 %).

Because the price and yield of bonds have an inverse relationship, this means the price of Treasuries increased, indicating significant inflows into these safe-haven assets. Additionally, the price of gold (another safe-haven asset) rose 0.78%.

Wall Street vs Main Street

The grim economic outlook provided investors with a crystal clear image of the disconnect between the markets and the economy. What this means is that Wall Street is becoming less and less representative of Main Street.

We can examine this disconnect by analyzing the largest companies in the S&P 500 – an index composed of large, publicly traded companies with access to financing methods that the vast majority of businesses (especially small businesses) lack. In the last half-century, the share of American workers employed by the largest companies in the S&P 500 has sharply decreased. The two most highly valued companies in the country in 1962 — AT&T and General Motors — employed nearly 1.2 million people combined. Last year, the two largest companies in the S&P 500 — Microsoft and Apple — employed 280,000. Adjusting for growth in the American workforce, this represents a 7.5x decrease in the share of Americans working for the largest companies in the S&P 500.

Furthermore, many of the jobs with today’s largest companies are high-paying and focused in the tech sector, whereas more jobs with the largest companies from 1962 were in manufacturing and paid middle-class salaries. These shifts represent the accumulation of wealth by the top earners in the country, and the stock market follows this trend.

Growing Fears of Volatility

Another factor that causes investors to grow fearful is volatility. On Thursday, the VIX Volatility Index (^VIX), a “fear gauge”, skyrocketed by 50%. This took place due to large-scale investor panic that caused rapid market motions with significant outflows and sell-offs from stock markets.

Additionally, volatility in commodity prices remains a significant issue. Prices of essential consumer goods (such as beef and eggs) have increased rapidly. On the producer side, energy (remember when oil briefly became essentially worthless a couple of months ago?) has remained extremely volatile, leaving entire sectors with significant financial worry.

Because both consumers and businesses are generally risk-averse, this volatility causes investors to remain extremely cautious, and this proved painfully true on Thursday.

Materialization of a Second Wave

Fears of a second wave of COVID-19 cases are beginning to come to fruition as well. As many states began reopening, an increase in infection rates was expected.

However, the actual increases in many states (particularly in the Southeast, where the tourism industry has already taken a tremendous hit due to distancing measures) have far exceeded the projections. In New York and New Jersey, where reopening has only just begun, governors have threatened to reimpose lockdowns if social distancing measures are not followed.

The haste of reopening and the corresponding spike in cases that followed showed just how susceptible our economy is to this virus, and on Thursday, investors received a wake-up call on this front, causing the significant selloff and volatility that resulted in the worst day for stock markets since the crash in March. The Unsurprising Dip.

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(Read the original article HERE)

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