Monday, June 15, 2020

Is the Stock Market Doomed for a Second Crash?

NBHM Research Team

Has the 2020 Stock Market Crash Not Ended?

 

The markets have rallied since May 2020, yet analysts are worried about a completely different picture of economic indicators. Could a crash occur again?

 

From February 2020 onwards, the global stock markets experienced strong sell-offs, triggered by the spread of the coronavirus pandemic. It was a shock, considering that the indices were hitting record highs on February 19, 2020.  By March 2020, global stocks had declined by almost 30% in most G20 countries. This was the fastest stock market crash to have occurred since the 1929 market crash. During the end of 1929 to the early spring of 1930, the stock market had rallied 47%, only to decline 80% soon after that.

The swift decline in stocks was short-lived. Since mid-May 2020, stocks have inched higher. By June 6, 2020, the S&P 500 and Nasdaq Composite had fully recouped their losses from the crash, earlier in 2020. Stocks received a boost from surprising jobs data, released by the US Labour Department, which showed that the US economy had actually added 2.5 million jobs in May 2020, against expectations of 8 million job losses.

 

A Bear Market Rally

However, it cannot be denied that the markets have been rejecting basic economic fundamentals. It is now known that the US economy officially entered into recession in February 2020, as per National Bureau of Economic Research. The number of COVID-19 cases is also rapidly increasing worldwide.

On June 10, 2020, the US Federal Reserve released grim projections about the US economy, forecasting a long recovery and high unemployment rate for some years to come. Analysts are saying that the stock market is experiencing a “bear market rally,” a strong yet doomed bounce. Will the stock markets see a second crash?

 

Why the Market Could Crash Again

Market crashes are difficult to predict, although an increasing number of analysts believe that the market could crash again. Historically, head-fake rallies have occurred in the midst of market downturns. Even during the 2007-09 financial crisis, the markets rallied 25% after a downturn, giving investors a false glimmer of hope, before crashing again. The 2000-02 bear market recorded three separate instances of rallies of more than 20%, before finally settling at a bottom of 50% below the peak. These are what investors usually term as “dead cat bounces.”

There are other factors that could lead to worse downturns for the stock market in 2020.

 

1. Rising Coronavirus Numbers

As of June 12, 2020, the number of infections globally stood at 7.5 million, with the US alone accounting for 2.02 million cases. Even if high-income nations are slowly reopening their economies, the developing nations are recording a higher number of cases daily. Many states that loosened lockdown restrictions in the US are recording a spike in new cases since June 10, 2020.

On June 11, 2020, the Dow Jones Industrial Average declined 6.9%, its worst single-day drop since the March 2020 crash. The rising number of protests across the US also increases the risk of further viral transmission in the coming months.

The development of a vaccine is still a long way away. Rising COVID-19 cases will further erase hopes of any swift recovery in the global economy. Sectors like the airlines and hospitality industry will continue to suffer, with vast lay-offs and low corporate earnings.

 

2. Low Corporate Earnings

Experts warn that the current Earnings Per Share (EPS) estimates do not represent the real value of stocks. Many stocks could be cheaper than they actually are, which might lead investors to make bad decisions. Through the pandemic, corporate balance sheets have deteriorated due to the amount of debt companies have taken on. While lenders are making allowances for late payments, banks cannot continuously delay payments.

Huge government stimulus packages have been responsible for stock market recoveries since March 2020. This is, however, temporary. Together with the rising unemployment rate and the limited nature of government financial aid, it won’t be long before the money runs out for businesses. They will default on their loan repayments and mortgages, which would negatively impact the stock market.

 

3. Increasing Tensions between the US and China

US-China relations are becoming increasingly strained, and analysts worry that it will impact the stock market. On May 30, 2020, the US announced that it will revoke Hong Kong’s special treatment as a separate customs and travel territory from Mainland China. This move was in response to China’s new national security powers imposed on Hong Kong.

President Trump has been critical of the Chinese role in the spread of Coronavirus for many months now. Investors fear that any retaliation from Beijing could be bad for technology stocks since the supply chain of these companies is dependent on Chinese manufacturing.

Tech companies also have significant revenue exposure in China. On May 21, 2020, the US Senate passed a bill that could lead to the delisting of Chinese companies from the US stock markets, indirectly. All this would be bad for a fragile global financial market.

 

4. Looming Fear and Uncertainty, and Permanently High Unemployment

It might take years for businesses to get back to pre-pandemic levels. The unemployment crisis will continue across the world for some time, lowering spending power. Consumer spending will be further impacted by the fear of virus transmission. People will not venture out to make purchases from shops or to dine out. When jobs are at stake, the desire to invest in the stock market could further decline. Economic stagnation is a possibility.

 

Investors Should Be Prepared for a Second Crash

Many analysts are hopeful about the stock markets in the coming months. On June 10, 2020, the US Federal Reserve announced that it would keep interest rates at near-zero levels through 2020. Lower interest rates will push investors towards riskier assets, like stocks, which could be good for the stock markets.

The stock markets operate in cycles, and sooner or later market crashes are recouped. Investors riding on long-term wealth creation strategies will ultimately see results. Some pointers to keep in mind for preparing against a crash are:

  • Avoid panic selling in crashes. There are many investors who sold stocks in March and April 2020, convinced that things would get worse going forward. They lost out on the massive rebound since April 2020.
  • Diversify into different assets. Create a portfolio of assets that react differently to market conditions. Consider investing in currencies, safe-haven assets like gold and other markets to minimise risk exposure.
  • Invest in companies with strong fundamentals. Consider holding stocks of well-established companies for the long-term, since they tend to survive broader market downturns.

Most importantly, this is a time when risk management measures are crucial to protect investors against unexpected market moves.

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