By Chirag Sharma (incoming college freshman)
“Stock Market bubbles don’t grow out of thin air. They have a solid basis in reality, but reality as distorted by a misconception.” (George Soros)
The pandemic is coming for the global economy even though the stock market, for now, indicates otherwise.
As of writing this article, the Coronavirus pandemic has resulted in more than 19,96,600 infections and more than 1,27,500 deaths across the globe. In the words of Deputy-Secretary-General of the United Nations, Amina J. Mohammed, “We are facing a human crisis unlike any we have experienced” and our “social fabric and cohesion is under stress.” And then, as if this assessment wasn’t scary enough, she went on to say, “We have moved to a recession that will be worse than the one we experienced in 2008.”
Just to put in context how bad the 2008-2009 great recession was – roughly 8.7 million jobs were lost in the United States alone, and cost more than $22 Trillion to the economy. Overall, it resulted in the contraction of the world economy by 4%, caused tremendous job losses, and cost some companies and holdings so significantly that they never recovered.
The Managing Director of the IMF, in a statement given on 9th April said, “We anticipate the worst economic fallout since the Great Depression.”The Great Depression of the 1930s led to a global GDP decline of 26.7% and an unemployment rate which peaked at 24.9%.
With every major credit rating agency, the United Nations, trade organizations, and the IMF drastically reducing their forecasts for the global economy and predicting a bleak year, one would assume that the investors and the stock market would react to the dismal figures and scamper out of the market fearing a crash similar to 2009 or 1929, right?
To the shock of most analysts, economic pundits, and us here at Unravel Economics, the Dow Jones had its best week in 45 years, indicating a booming stock market. The Indian stock market rallied too, with Sensex crossed the 31k mark. Now if one were to look at the stock market and then compare it to the larger macroeconomic situation of the world, they’d be confused, or they might think that the market and investors know of some vaccine that’s ready to be rolled out into the market, and which will account for the dismal earnings reports most companies come out with!
There’s a pretty simple comparison that explains why the market still seems to be recovering even while the economy goes down the drain. The similarity lies in seeing how things have been in past bear markets(markets in which prices fall, encouraging selling). The Dow Jones these past two weeks, after having fallen 37% from its peak, recovered about 5000 points.
Here’s a chart of how 2008 looked like:
After the initial 42% crash, the Dow showed signs of improvement and recovered 24% of its losses, but it still cascaded like a stack of cards after that false recovery, demonstrating how bear markets tend to behave.
A similar pattern can be seen when we observe the great crash of 1929:
Again, the 1929 Dow retraced 36% of its losses before falling to even lower levels and then gradually returning to its pre-depression levels.
It is easy to see that both comparable bear markets in the past have had marginal recoveries that were false and were still followed by severe losses. It would not be a surprise, and instead, one should expect the market to reach the lows of March again at the least, if they don’t end up falling even further.
Additionally, these inflated stock market numbers could have been caused due to investor optimism in that complete economic recovery and a return to normalcy could be possible very shortly. The markets are betting on the condition that the widespread loss of jobs and a drastic decline in consumption would not lead to the closure of businesses and that consumption would pick up very soon.
The massive $2 Trillion stimulus package has also encouraged optimism as the market thinks that the US Government would step in and inject trillions of dollars into the economy to save the boat, as it did during the 2008 crisis. Not only in the US, but also in India and elsewhere, the markets have shown signs of recovery from the March lows. The optimism in Indian markets has also been driven by the hopes of a stimulus package for large scale corporations after the government had already announced a $22 billion stimulus for Indian MSMEs. It is also worth noting that while India continues to be in a government-mandated lockdown, the number of cases in India is relatively less when compared to the US or other markets, this further contributes to the positive investor sentiment.
However, there is a unique relationship the investors are having with the market as a result of this situation. It seems that the market has decided to not give a big reaction to negative news that comes in, and instead provide a very good response to any positive indication.
This is the beauty of these testing times – humanity looking for a glimmer of hope from under the rubble.
Goldman Sachs just reversed their prediction that the US stock market would hit new lows, and said that the market has already bottomed out. However, the assumption they’ve based their prediction on is that there won’t be a new wave of infections after the economies reopen. That assumption in itself is a bold one. Morgan Stanley has taken a rather realistic view of the subject matter; they predict that the worst days are far from over and that the second wave of infections will further weaken the stock market, adding to the gloom.
If I were to take a side by comparing trends from the past and consider the current situation of the global economy, I would say that the more significant macroeconomic condition of the world will, without a doubt, assert itself on the stock market.
But the unpredictability of the stock market is not an unknown phenomenon; with the high levels of volatility, divided experts, an economic downturn, and an incurable virus, it has become even more unpredictable.
With even the giants of finance differing in opinion, whether the markets will fall again and the bubble will burst, or continue its recovery is anyone’s call, but what’s absolutely certain is that the recession is here to stay, whether it will result in an economic depression is dependent on the choices that are made in the coming weeks and months.
Chirag Sharma is a high school graduate from the class of 2020. He thoroughly enjoys examining politics and contemporary debates while linking them with the world of economics. He is intrigued by international trade, the stock market, and the politics behind it.