- Stocks are having their worst day in weeks.
- The drop is being blamed on “concerns” for a second wave of the pandemic.
- But a struggling labor market, skyrocketing valuations, and a retail investor frenzy are the real catalysts.
Stocks are taking it on the chin today. And according to the talking heads, the narrative is that the market sell-off is based on fears of a second wave of the pandemic.
There’s just enough logic to that argument for it to sound plausible. Several states that have eased restrictions are seeing a rise in cases and hospitalizations. And some health researchers are projecting that a second wave could take the U.S. death toll to 200,000.
But the world is a complex place. There’s no single answer for today’s sell-off. Rather, it’s a confluence of events that has stocks spiraling lower.
Fed Intervention in the Economy Has Peaked for Now
First, yesterday’s Federal Reserve meeting had no real surprises to it – in either direction.
They’re committed to keeping the easy money going for years. Yet the FOMC resoundingly dismissed the idea of negative interest rates. That means there’s really not much else they can do besides what they’re already doing. It’ll take another market crisis before they’re willing to go further.
That may be concerning for stock market bulls, considering the central bank also predicted that the economy would likely shrink 6.5% in 2020.
That’s a good bit higher than estimates that had centered around 5%. And the Fed expects unemployment to stabilize around 9.3%—numbers on par with the Great Recession.
For all their money printing, the Fed is still relying on the private sector to do the heavy lifting of job creation.
But that isn’t happening as fast as could be hoped, even with lockdowns ending. The latest unemployment claims numbers out today revealed another 1.5 million layoffs.
Stock Market Valuation and Retail Sentiment Remain Insane
Yet as the job market and economy continue to show historic levels of weakness, the stock market has been red hot. The Nasdaq hit a new all-time high yesterday, while the S&P 500 turned positive for the year.
With earnings expectations considerably off, the move higher has created a massive disconnect between the market and the economy.
Looking at the so-called “Buffett Indicator” – the ratio of total market cap to U.S. GDP – stocks are more overvalued today than any point in history. That includes the tech and real estate bubbles – by a considerable margin.
And this brings us to retail investor sentiment. Smaller traders have secured eye-popping returns (on paper, anyway) over the past few months, thanks to the reflationary efforts of the Fed. They’re even enjoying one of their rare moments of beating the institutional money managers.
The problem is that retail investors tend to get the most bullish at the top. And even those who have been in the game for a long time and know better tend to dismiss Warren Buffett as a has-been right when the winds are about to shift.
But look at today’s biggest losers in the market, and you’ll see a familiar list of airline and cruise ship names.
Maybe the smarter retail investors are taking their profits now. That’s a savvy move. There’s no telling how low shares can go when all the retail investors try to crowd the exit at once.
So sure, make up whatever reason you want for today’s stock market bloodbath. But don’t stop with the one that will be easiest to explain away later. There’s more driving this sell-off, and most of those catalysts have more sticking power than “fears of a second wave.”
Disclaimer: This article represents the author’s opinion and should not be considered investment or trading advice from CCN.com.