Michelle CluverCOVID-19 brought the global economy to a standstill and the longest-running bull market in history to its end. This was the fastest shift from bull to bear territory in history. In the 23 trading days between the market’s peak on 19 February 2020 and its trough on the 23rd of March, the S&P 500 Index declined 33.8%. In addition to the quickest move to bear territory, the COVID-19 era is also credited with the shortest jump back to bull market territory. Within 12 trading days, the market came roaring back and, in the month subsequent to its trough, the S&P 500 has returned more than 25%. But does this recovery have legs?
When looking at the S&P 500 Index over the last month, some of the hardest hit GICS sectors provided the greatest bounce. Referring to the chart below, there appears to be a reasonably strong relationship between the magnitude of a sector’s decline and its subsequent bounce. This gives the impression that markets are already starting to price in the recovery and is potentially still hoping for a V-shaped recovery, with minimal lasting damage to the segments of the economy that are most exposed to the economic hardship caused by the pandemic.
Taking the Energy sector as an example, it led the declines on the way down, due to the combined impact of supply and demand shocks. COVID-19 reduced global demand for crude by around 28% at the same time that Saudi Arabia and Russia started a price war.1 Excess crude supply and a lack of demand resulted in high levels of volatility within crude markets while reducing prices to historic lows. Despite crude prices continuing to decline, the Energy sector staged a dramatic rebound from its lows in March. Additionally, concerns about crude storage resulted in limited demand for the May WTI contract which sent crude prices into negative territory for the first time ever. While this event could be viewed as technical due to the timing of the contract expiry, the intersection between the market and the real economy reflects that all is not yet as optimistic as portrayed by the recent market rebound.
This is also reflected in the recovery patterns that we have seen since markets bottomed. After falling the hardest in the market turmoil, small-caps are not yet recovering to the same extent as their larger-cap peers. Despite increased fiscal policy support for the small and mid-cap space, economic uncertainties have continued to reflect more clearly within this segment of the market. This is concerning due to small and mid-cap companies being an essential part of the economy as well as a major source of employment.
Markets are forward looking and should recover prior to the economy moving out of recessionary territory. However, the speed of the current market recovery combined with the segments that have led this recovery, do provide reasons to pause and question the longevity of this rebound. Despite ample fiscal and monetary policy support, there is still uncertainty regarding the longer-term economic implications of the current global economic shutdowns.