In late 1984, in the first weeks of my career in the capital markets, I took part in a discussion about the world economy.
The oil patch was in crisis and emerging markets around the world were in default on massive loans from western banks. The strong U.S. dollar was hollowing out U.S. manufacturing. Real interest rates were punishingly high, and a return to 1970s-style inflation was generally expected as the economy gathered strength.
After all this bad news was laid in front of us, the senior portfolio manager in the room simply said:
“The stock market climbs a wall of worry.”
I was impressed by the succinct and graphic nature of this old market proverb. Little did I know how high the market would climb and what soaring walls of worry it would surmount during my career.
Central banks provided the ladder that allowed the market to scale the walls. Several U.S. banks had gotten into trouble in 1984 and in response the Federal Reserve lowered interest rates and supplied liquidity to the system. At the time we didn’t understand the direct link between monetary easing and financial asset prices. The powerful 1980s bull market that resulted took us all by surprise.
As crisis followed crisis and monetary policy has grown more and more extreme, markets have recovered rapidly whenever the monetary authorities turn on the taps.
Never has that phenomenon been more on display than in the last two months. The instant, overwhelming reaction of the authorities to the COVID crisis has caused a tremendous recovery rally in the markets – well before the economic recovery has even started. On the day I am writing this, the technology-heavy NASDAQ Index has gone positive for 2020 year to date. Most world equity indices are now down only modest percentages.
There is another proverb, equally pithy and equally portentous:
“Buy on rumour, sell on news.”
If the wall of worry explains the market rally of April 2020, the preponderance of rumour over news explains why that rally is so widely mistrusted.
The cascade of bad news that we are expecting over the next few months may not be the catalyst for market weakness. Ironically, it may be the “good news” that leads to some air pockets. The shape and speed of the recovery are extremely uncertain and contingent on the interaction of government directives and health statistics.
There is no reason to be in a hurry to participate in the market rally since there is now a lot of room for disappointment. On the other hand, there is no end in sight for central bank activism, so there is probably a floor under the markets. We may experience a seesaw over the next few months as the market climbs walls of worry and sells on news.
At his annual meeting, Warren Buffett was notably less cheery than usual and kept referring to uncertainties and the broad range of potential economic outcomes. He is still an optimist but was noticeably taking the long view. This is the right thing to do.
If someone offered me a trip in a time machine to a date a year from now, I would make two observations: first, I would be strongly tempted to accept the offer since I anticipate a challenging and difficult year; and second, if I took the trip I’m pretty sure I would find an improved situation both from an economic and public health perspective. That would tend to mean that the stock market, at whatever level, would once again have solid grounding in fundamentals.
There will probably be backing and filling during the year as our two proverbs predict, but the broad trends in health and employment should be positive, and that tends to be good for investors. If you have arranged your affairs so you have cash to meet your needs, stay the course. And stay safe and healthy.
Richard Rooney, FCPA, FCA, CFA
President, Chief Investment Officer
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