Investor Confidence: Here Today, Gone Tomorrow?
Let’s pick up from last week, when we discussed the importance of the Holiday Shopping Season. Refresher: Consumer spending comprises 70% of Gross Domestic Product (GDP), with most spending taking place in November and December. According to the National Retail Federation, a fifth of all retail sales occurs in the year’s last two months.
The latest data indicate U.S. consumers spent an average of just below $312 on holiday purchases from Thanksgiving to Cyber Monday, a 14% decrease from 2019 spending. While online shoppers increased 8% on Black Friday, the number of in-store shoppers took a nosedive, down 37% from a year earlier. It comes as no surprise that consumer spending has softened during the pandemic, so what is the projected impact on GDP, the “go-to” metric of economic growth?
After plummeting in the first half of the year, U.S. GDP came roaring back in the third quarter, increasing at an annual rate of 33.1%. With tepid holiday spending during the fourth quarter, economists are forecasting the economy will shrink 3.6% in 2020.
Despite this contraction and the number of new Covid-19 cases reaching a new high every day—along with tighter restrictions being imposed in various states—the stock market enjoyed another week of strong performance. The Nasdaq composite advanced 2.1%, the S&P 500 Index climbed 1.7%, and the blue-chip, 30-stock DOW rose 1%, crossing the 30K threshold. What’s behind investors’ enthusiasm?
Progress on the vaccine front is a major contributor, coupled with renewed interest in stimulus talks on Capitol Hill. James Hildreth, MD, a member of the FDA’s vaccine committee, reported to NBC that emergency approval of the Pfizer/BioNtech vaccine could take place as early as this Thursday, December 10. The following week, on December 17, the FDA panel will review Moderna’s vaccine. Other positive news includes signs that Democrats and Republicans may get past their rancorous partisanship to finally fashion a modest relief bill now and secure a more aggressive pact in 2021.
Such developments are feeding investor enthusiasm. Yet, as a leading economic indicator, the stock market’s focus is not tomorrow, nor the next week, but on the next six to twelve months. In today’s Market Update, we will investigate: Is investor confidence warranted for a longer period?
One of the most reliable sources for assessing current and future economic conditions is the Federal Reserve, which publishes a compilation of anecdotes from business contacts eight times a year. In its December 2nd edition, the Fed’s Beige Book characterizes U.S. economic expansion as “modest or moderate,” with four of the Fed’s twelve Districts describing little or no growth. Worth noting, optimism is fading within financial institutions as banking contacts in numerous Districts reported deterioration of loan portfolios, particularly for commercial lending in the retail, leisure, and hospitality sectors; an uptick in 2021 delinquencies is widely anticipated. The one pocket of economic growth across Districts was in residential real estate, with homebuilding and existing home sales reporting higher-than-average growth.
Across Districts, childcare and virtual schooling demands were cited as significant and growing challenges—especially for women, prompting some firms to extend greater accommodations for flexible work schedules. While nearly all Districts reported an increase in employment, the pace was disappointing. (Total nonfarm payroll employment rose by 245,000 in November, far fewer than the 460,000 additions expected by economists. While the unemployment rate edged down to 6.7%, it represents 10.7 million Americans without jobs.) In several of the Fed’s Districts, firms feared that employment levels would fall over the winter months. Additionally, looming expiration dates for bolstered unemployment benefits and for moratoriums on evictions and foreclosures are weighing heavy.
A Winter of Discontent?
The cushion provided through the fiscal relief package that Congress authorized in March is wearing thin. Fed Chairman Jerome Powell insists the U.S. economy remains weak; without additional fiscal support, it is likely to falter. Absent Congressional action, we expect investor confidence to wane as this winter of discontent descends. Will Washington come to the rescue?
Last Tuesday, a bipartisan group of senators joined forces and brokered a compromise relief package, valued at $908 billion. (This amount is $408 billion more than Mitch McConnell is championing, even though he was urged by President Trump to “go big.” Further, the amount is roughly half of what Treasury Secretary Steve Mnuchin had offered Nancy Pelosi before Election Day.) The proposed package includes $288 billion in small-business aid; $180 billion to fund a $300 weekly supplement in federal unemployment benefits; $160 billion in relief for state and local governments; $25 billion in rental assistance; and tens of billions for childcare, food assistance, and vaccine distribution. To keep the package under a $1 trillion threshold, it does not include $1,200 stimulus checks. As a result—and to the dismay of many—Santa’s sleigh may be a bit lighter this year, which could present more than seasonal, short-term repercussions.
According to the Brookings Institute (a non-partisan think tank), there is a “fiscal multiplier” that is worth considering as part of any fiscal relief package. This is how it works: “When recipients of federal aid increase their purchases of goods and services, businesses gear up production and hire more workers than they otherwise would, increasing production and GDP. In turn, those newly hired workers also increase their spending, which also leads to increases in production and GDP.” As such, each initial dollar of spending is referred to as a “fiscal multiplier.”
Consider the size and timing of the CARES Act valued at $2.2 trillion, which included $1,200 stimulus checks. The receipt of a check was accompanied by the propensity to consume, yielding a fiscal multiplier that helped to reboot the economy during the third quarter. The Brookings Institute contends that putting money directly in the pockets of spenders boosted cumulative GDP by $1.30 for each $1 of federal spending. Applying the same logic to the newly proposed relief package, increased unemployment insurance benefits would yield the biggest “bang for the buck,” followed by aid to state and local governments. In contrast, since aid to small businesses is less likely to alter spending, it would increase cumulative GDP by just 40 cents for every $1 of spending.
Here’s the rub: Circling back to last week’s Market Update, the importance of small businesses to our nation’s economy cannot be overstated. Small employer firms, those with 1–499 employees, account for 47.5% of the private-sector workforce and are vital to the fabric of local communities. Without robust fiscal assistance, even the healthiest of small businesses prior to the pandemic remain vulnerable.
Our elected officials must consider all these factors when fashioning a bill to keep the economy afloat. We expect to learn more today on a compromise relief package and exactly what it contains. Whatever relief package is ultimately approved by Congress, it must be signed into law by President Trump.
Looking ahead to 2021, we do not expect that passing additional fiscal relief packages will be more streamlined or simple. Apart from the Senate run-off races in Georgia on January 5, the election now seems to be over, with the Democrats victorious in the White House but finding themselves disappointed with the Senate and the House of Representatives outcomes. In the absence of a “blue wave,” we think it will be just as challenging for the Biden Administration to offer fiscal relief, let alone achieve many of its pre-election goals.
The coronavirus pandemic has transported each of us into a world of uncertainty. Financially speaking, rebounds in GDP and stock prices are highly contingent on a potent combination of monetary (Federal Reserve) and fiscal (Congress) policies. For now, investor confidence is reliant on these forces. It takes an informed optimist to believe they will be sustained—and, if you are not an informed optimist, you have no business being a long-term investor.
It is our job to analyze political, economic, and social events from every angle to examine their potential impact on you, our clients. You are at the center of our business, our reason for being in business.
Thank you for your continued confidence.
Joseph A. Scarpo, Founder & CEO