The second economic crisis in just 12 years, coming as the wound from the first crisis has healed, has pushed policy to the event horizon of the macro. Never in history have global interest rates been pushed so hard towards zero. Moreover, there are massive increases in fiscal deficits on top of historically high debt levels.
Aggressive policy action in the first half of 2020 by central banks and governments has engineered a strong rebound in equity markets. The general belief is that humankind will overcome the Covid crisis with less damage than from the financial crisis in 2008. Global equities have fully succeeded to recover their losses during the pandemic’s first wave. However, the global corporate earnings collapsing by 56% – catapulting the P/E ratio to 27.7x at current price levels.
Expectations are high. Estimates suggest a 106% jump in quarterly earnings, which will then continue to climb until reaching a new all-time high in the fourth quarter of next year. If the corporate sector delivers this rebound in earnings, the global equity market will be valued at 19.3x earnings in 2021. Not an unreasonable valuation provided the alternatives in bonds.
Will the US economy be back into growth?
The New York Fed Weekly Activity Index, a real-time tracker of US economic growth, has revealed a V-shaped recovery since late April: although it is still at -5% as of mid-September. At the current trajectory, the US economy will be back into growth territory before the year-end.
The number of permanent job losses has jumped from 1.2 million before Covid to 3.41 million in August 2020. This is high but still, nothing compared to 2008. The number of job losses then jumped from 1.49 million to 6.82 million (and that was from a lower labor market size than today). According to CPB, world trade volume rebounded 7.6% m/m in June and is on track to continue the rebound. This indicates that things are normalizing, even though global trade is in its worst period since the GFC.
All eyes on inflation and volatility
According to our analysis, there is the probability of a rebound of corporate earnings to pre-Covid levels within the next 18 months, but the long-term growth rate from that point on is much more uncertain. In both financial markets and the economy, the two most important factors for investors over the coming decade will be inflation and volatility.
US equities may start the week on hopes that a stimulus deal will be forthcoming and as US earnings season is set to get underway in earnest this week with the large financials in the spotlight. Most Fibonacci retracements have fallen on this latest rally as the focus will soon shift to the all-time highs for the major indices – for the Nasdaq 100 at 12,423 and the S&P 500 at 3,576.