The markets are not as deluded as I thought

I have been doing some analysis, it seems that the stock markets are not as deluded as I thought.

Article updated: 11 May 2020 3:00pm Author: Michael Baxter

I think there is a degree of naivety around at the moment. The Bank of England has forecast a V shaped economy. It predicts the worse recession since the reign of Queen Anne in Britain and Louis IV in France.

It also forecasts a very rapid recovery. That’s where the naivety comes in. We won’t have the official data on UK unemployment in May, but we do know it will have risen enormously. That will, in turn, squeeze consumer demand and things like that don’t recover quickly.

In the US, the naivety is worse. Every time the US President demonstrates his lack of understanding of this crisis with some claim about the US going back to work, the markets go out and buy.

I worry about a second phase. Spanish Flu had a second and third phase. The second phase claimed more lives than the first. I suspect (but I am far from certain) that there is a correlation between Covid infection rate and the climate — there seems to be a temperature zone where Covid is worse. This zone has been going north and has now reached Russia. It is just my theory; it may be wrong.

But I fear that infections will fall in the summer, lulling us into a false sense of security, creating conditions that will see Covid infections escalate in October and November.

This danger is especially acute in the US.

Drill down

But look at the US stock market more closely and you find a pattern that makes more sense.
The S&P 500 is currently down 13 per cent since the year high. That doesn’t feel like that much of a drop, not a sufficient fall given what is going on in the real world.

The Dow Jones is down 17 per cent, that fall seems to be a little more realistic. The FTSE 100 is down 21 per cent.

But look at the NASDAQ. It only needs to rise by seven per cent to be back to its peak level,
But for me, this makes sense.

Tech laden

When you drill down and look at the S&P 500, Dow Jones and NASDAQ you find each index has been propped up by technology.

Microsoft, Apple, Amazon, Alphabet and Facebook make up 20 per cent of the S&P 500. Only 30 companies make-up the Dow Jones Industrial Average and they include Apple and Microsoft. And Pfizer too (down only modestly this year.)

What the Covid crisis is doing is accelerating the shift towards digital and automation technologies.

This is especially good news for key players in the cloud such as Microsoft (whose shares are only just short of peak) and Amazon (shares up roughly 20 per cent this year.)
Obviously, Amazon has also benefited from online shopping.

Likewise, Facebook shares are close to the year high. Shares in Apple and Alphabet haven’t faired quite so well, but in both cases, the performance has been superior to that of the S&P 500.

All of this does makes sense. In the aftermath of Covid these are precisely the types of companies that I would expect to flourish.

Jobless recovery

Post-Covid I reckon we will see a number of significant changes.

The acceleration to digital will lead to rapidly increasing productivity. The last decade saw an appallingly low rate of productivity growth. In the UK, the average annual rate of productivity growth was just 0.3 per cent. 

But increased use of digital will lead to improved productivity. There is evidence that higher productivity is correlated with a higher proportion of the workforce working from home — Holland, for example, has much higher productivity and a much higher proportion of the working population working remotely.

The companies that flourish post-Covid will be the ones that learn how to adapt quickly, the agile companies and I also think we will see more automation.

Up until recently, I think a lot of companies, especially British companies, were still wedded to older practices. This was why productivity growth was so low.

The last decade saw a trade-off. We had high employment but low productivity.
I suspect that the next decade will be the opposite.

Unless governments really open up and stimulate economies for the next decade — I think we will see rapid growth in output, but weak growth in employment.

The German constitutional court is trying to hold the ECB back from increased bond purchasing.

Germany is still paranoid about hyperinflation; the psychological wound from the Weimar Republic won’t heal.

And that is the problem.

Unless government and central banks collectively engage in expansionary policies post-Covid, we will see a jobless economic recovery.

I fear how the electorate will react to those conditions.


These views are those of the author alone and do not necessarily reflect the view of The Share Centre, its officers and employees

Michael Baxter portrait photo
Michael Baxter

Economics Commentator

Michael is an economics, investment and technology writer, known for his entertaining style. He has previously been a full-time investor, founder of a technology company which was floated on the NASDAQ, and a director of a PR company specialising in IT.

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