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Note: This week, the Weekly Viewpoint is being published a day early in observance of Juneteenth.

Stocks have pushed within striking distance of record highs, but lately, it hasn’t been smooth sailing.

March’s seasick markets are back, with the S&P 500 trading in at least a 2.5% range for four days from June 11 to June 16. It’s been an abrupt change of pace from the fast and furious stock rally of the past few months, when it felt like equities were determined to hit new highs at a breakneck pace.

Record highs seem to be a completely different ball game, though. Investors have struggled to reconcile the fact that stocks at these levels may imply the economy is expected to achieve its pre-COVID momentum with economic officials’ less optimistic messages about the months ahead. That, along with renewed concerns for a second wave of coronavirus and geopolitical tensions, has led to some serious indecisiveness at these levels.

The chart shows how long it has historically taken for Bear markets and recessions to recover, based on the S&P 500. The Bear market ending in October 1957 recovered in 11 months. The Bear market ending in May 1970 took 21 months to recover. The Bear market ending in 1974 took 69 months to recover. The Bear market ending in 1982 took 3 months to recover. The Bear market ending in 2002 took 56 months to recover and the Bear market ending in 2009 took 49 months to recover. The average market recovery time after Bear market is 35 months.)

Recoveries take time

Every recession (and subsequent rebound) is unique, but there’s one big similarity among all of them: recoveries take time. There have been 10 recessions since 1950, and each of them has lasted an average of 11 months.

Even then, it’s important to note that the end of a recession and a full economic recovery are two different things. Growth may bounce back quickly after a downturn, but it could take years to completely repair the economic damage done. Since 1950, the shortest recession has been a six-month downturn from January to July 1980. Gross domestic product rose an average of 7.9% in the fourth quarter of 1980 and the first quarter of 1981, yet the unemployment rate took until 1987 to get back to its 1979 lows.

Economic reports we’ve seen lately have blown Wall Street’s estimates out of the water. There’s no doubt we’re in a fierce recovery as the economy has reopened, and stocks are reflecting that. But the stock market is not the economy – if this economic momentum tapers off, it may be a while before we’re back to the pre-COVID-19 economy.

Take the May retail sales data for example. Retail sales rose 17.7% in May, the biggest monthly jump on record and well above Wall Street’s median estimate for an 8.4% gain, according to data released June 16. Still, retail sales totaled $486 billion last month, the lowest level since August 2017 (and down 6.1% year over year). Consumer spending has come back at a strong pace, but this is happening after a staggering drop in retail sales that more than doubled the dip in retail sales during the last recession.

The May jobs report falls in the same bucket. U.S. companies added 2.5 million jobs in May, the biggest gain on record and above Wall Street’s median forecast for a 7.5 million drop. That was a moment of victory for investors – the S&P 500 rallied 2.6% on June 5, the day of the release. The job market may be stabilizing, but we’ve still lost a total of 19.5 million jobs since February, and the unemployment rate is 13.3%. Federal Reserve policymakers aren’t too optimistic about the job-market recovery – they’ve forecast that the unemployment rate could stay above 5% through the end of 2022.

The chart shows total nonfarm employment in millions of jobs over time, from 2000 through present, with overlays showing recessions which took place in 2001 – the Tech Bubble, 2008 through 2009 – the Great Financial Crisis, and this year – COVID-19 Crisis. The decrease in Total Nonfarm Employment is most pronounced in the COVID-19 Crisis compared to the previous two recessions, dropping from approximately 152 million to approximately 130 million.

Fed Chair Jerome Powell doubled down on this narrative in comments this past week. On June 16, Powell said the data has shown a modest economic rebound but added that levels of employment and output are well below pre-pandemic levels. Earlier this month, Powell projected that the U.S. job market may take years to recover, and that “millions of people” may not be re-hired.

Policy: the antidote?

Policymakers have gone above and beyond to aid this recovery, and Powell’s skepticism could be a sign that historic stimulus is here to stay. That’s good news for stocks. This week, investors cheered as the Fed announced it would start buying individual corporate bonds (on top of its $3 trillion in asset purchases since March).

While stimulus could support financial markets for the time being, the reason why policy is so extreme is because there are still serious concerns about economic health. That could lead to a bumpy road ahead for the stock market. The CBOE Volatility Index, or the VIX, has returned to levels above 30 in the past week, a sign that a sense of nervousness has returned to the marketplace (20 is the historic average, so anything above that is considered a sign that volatility could persist).

Policy can be a powerful antidote to weakness, but it hasn’t been an immediate solution for economic downturns (or bear markets) in the past. Since 1950, there have been five S&P 500 declines of 30% or more, and four of them coincided with recessions (that policymakers ultimately addressed with drastic rate changes). Those four bear markets still took an average of four years from their lows to reach prior peaks. History is always a useful guide, but don’t take it as gospel.

Road to recovery.

Monetary and fiscal policy have undoubtedly played a big role in the recovery, and we don’t want to “fight the Fed” (Google it!). Policymakers’ unprecedented actions have led to a surge of available cash for consumers and companies, which is ultimately a positive for the road to recovery. But the Fed can’t prevent this indecisiveness we’re seeing in stocks. It will likely take years for the economy to fully recover and there remain other uncertainties on the path ahead. As such, investors may continue to struggle with this mismatch between markets and the economy before seeing the case for new highs.

The opinions expressed here are not meant to be used as investing advice. For more information, visit our website.
 


Speech bubble icon next to text "Expert Take"

Headshot of Lindsey BellLindsey Bell is Ally’s Chief Investment Strategist, responsible for shaping the company’s point of view on investing and the global markets. She is also President of Ally Invest Advisors, responsible for its robo advisory offerings. Lindsey has a broad background in finance, with experience on the buy-side and sell-side, in research and in investment banking and has held roles at JPMorgan, Deutsche Bank, Jefferies, and CFRA Research.

Lindsey holds a passion for teaching individuals how to become successful long-term investors. She frequently shares her knowledge as a guest on national news outlets such as CNBC, CNN, Fox Business News, and Bloomberg News. She also serves on the board of Better Investing, a non-profit organization focused on investment education.