- First quarter earnings season begins in about a week, and it is likely to be a rough one. The Q1 earnings growth estimate for the S&P 500 Index is now −6% (down from +1% in February).
- The dollar and credit spreads came down last week. Inflation expectations may be on the upswing as the Fed works to provide liquidity to the economy.
- Now that the relief rally has happened in stocks, sellers may come back, putting downward pressure on risk assets again.
Extreme times call for extreme measures, as evidenced by the sudden shocking blow to the global economy and the equally shocking (in a good way) US fiscal/monetary policy response. The coordinated fiscal/monetary response in the US is on the order of 20% of GDP and likely to rise. These are war-time numbers, which makes sense since we are at war with an invisible enemy.
There may well be much more that needs to be done in terms of fiscal policy, but last week shows us that Washington is ready, willing, and able—as is the Fed. After last week the punch-counterpunch dynamic is no longer one-sided. Two weeks ago, we knew that the storm was coming to the US (based on the curves in Italy and Spain), but we didn't yet know what the policy response would be. Now we know. This was 1 of the 2 things the market was looking for. With the policy response in place, the second is to get a peak in the growth rate of COVID-19 cases. We are not there yet, but hopefully we are getting closer after 2-plus weeks of hard-core social distancing. Let's hope it works.
We're all isolating together
About the expert
Jurrien Timmer is the director of global macro in Fidelity's Global Asset Allocation Division, specializing in global macro strategy and active asset allocation. He joined Fidelity in 1995 as a technical research analyst.
Speaking of social distancing, I don't know about you but the lines have gotten pretty blurry here at the Timmer household. The days are a surreal blend of stress and boredom and cabin fever. On Friday night, I went to bed at 9 p.m. literally out of boredom. I am organizing my closets like never before.
Earnings estimate progression for the coming quarters
The Q1 earnings growth estimate for the S&P 500 Index (SPX) is now −6% (down from +1% in February), Q2 is −10% (down from +3%), Q3 is −1% (down from +8%), and Q4 is +6% (down from +12%). The 2020 estimate has fallen from +8% to now −2%, while the 2021 estimate is up from +11% to +14%. First quarter earnings season begins in about a week, and it is likely to be a rough one.
The dollar, credit spreads came down last week plus other improvements
It was certainly a relief last week to see the dollar come down along with credit spreads (to find out why, read Viewpoints: Market bottom: Getting closer?), and to see the TIPS break-evens (a measure of inflation expectations) and cross currency basis swaps rise. Hopefully these improvements will stick in the coming weeks as the Fed continues to back-stop the entire financial system. Don't fight the Fed, as they say. The Fed has an infinite ability to take the other side of a fire sale.
Next steps for stocks
The S&P 500 has now rallied about 20% from its intraday low of 2,192 last Monday, March 23. That's exactly in line with typical rallies after a momentum "crash" low. Part of that rally was likely the result of the aggressive policy response, and part of it was likely due to month-end rebalances and short-covering.
Now that the relief rally has happened, my guess is that starting this week the sellers will come back, putting downward pressure on risk assets again. It's a predictable playbook. Whether they will succeed will be a major test for this market.
If this is a mature bear market reaching exhaustion, then renewed selling pressure may only cause a shallow retest (maybe to 2,300–2,400) as price and breadth diverge from sentiment. But if it's closer to another 2008, this 20% reprieve will be only the first of many on the way to much lower prices.
I don't have the answer of course, but between the Fed having unlimited firepower to fight the sellers, and the possibility of COVID-19 peaking in the coming 2 weeks, I am going to carefully track the market's internals for signs of a bottom, if one isn't already in place.
But so many questions remain, with perhaps the biggest one being what the timing and shape of the recovery will look like. Will some businesses even be able to reopen if the lockdown drags on too long?
When the dust settles there will be many strategic questions to be addressed, including what the investing landscape will look like if fewer companies buy back shares, if deglobalization accelerates, and if full-blown Modern Monetary Theory* is the new normal. Another question is whether we are still in a secular bull market. All important issues that we will need to address once we get to the other side of this.