Ahead of the March stock market crash, investors overlooked warning signs and pushed share prices to new highs. That could be happening again.
As the U.S. stock market seemingly defied gravity in the face of terrible economic data and a worldwide pandemic, many began to question how equity prices could be so far removed from reality.
The answer is simple: the stock market is a measure of investors’ psychology. Its movements correspond to where investors see the market heading, and as such, it can go prolonged periods with very little fundamental support.
With the VIX still trading in the top 10% of historical readings, investors can gauge where the market is going by looking at its performance during the pandemic.
Nobel laureate and Yale economics professor Robert Shiller has mapped out the stock market’s key turning points over the past few months. He notes that in February, the stock market reached all-time highs following the World Health Organization’s (WHO) declaration of a “public health emergency.”
According to Shiller, there are two critical explanations for investors’ behavior.
First is a lack of understanding and experience—people didn’t know what to make of this public health crisis. There was a lot of debate over whether or not it was that serious. The second is the fact that at the time, the virus wasn’t dominating the headlines. Other issues, like Donald Trump’s impeachment trial, were in focus.
Compare that to what’s happening today, and it’s chillingly similar. Despite rising case numbers in several U.S. states and warnings of dire economic conditions, investors are piling into stocks, pushing it toward new highs.
No one has ever experienced a self-inflicted economic shutdown. No government has ever spent this much money to keep markets afloat. By all accounts, we’re in uncharted territory.
Plus, the virus has taken a backseat to news about civil unrest surrounding the Black Lives Matter movement. Add to that the election, Donald Trump’s incredulous tweetstorms, and Kanye West’s presidential bid, and you have a news cycle that’s no longer emphasizing the pandemic.
As Shiller put it, “the effects of genuine news are apparent. But price movements are not necessarily a prompt, logical response to it. In fact, they rarely are.”
That’s evident in the Dow’s triple-digit rally on Wednesday. Investors are optimistic about the economy’s reopening even though virus cases are skyrocketing.
Walt Disney’s (NYSE:DIS) stock, for example, gained 4% in the lead up to its Florida theme park’s reopening. According to data from the Harvard Global Health Institute, the number of virus cases in that state has surged 162% over the past two weeks. The number of daily deaths is up 37%.
If ever there were a time to be concerned about DIS stock, it’s now. Instead, investors are pumping the share price up.
When the stock market finally came crashing down in March, Shiller points to a few behaviors that preceded the fall.
On March 11, the WHO declared a pandemic, and Google searches for the term “coronavirus” rose to their highest levels the following week. Investors started to panic as worries about overwhelmed hospitals and a looming depression dominated the headlines.
Today, more Americans are searching for the weather than are looking for details about the virus. There could be many reasons for that—people are more familiar with it, and coverage has been overwhelming. It could also be another example of investors’ late response to a developing crisis.
The Harvard Health Institute cautioned that a misunderstanding of the virus’ death toll is causing complacency. The death toll is only just starting to tick upward in states with surging cases because it takes a few weeks for new infections to develop into fatal cases. In the five U.S. states with the highest numbers of new infections, daily deaths have increased by between 7% and 79%.
Big companies like United Airlines have announced new rounds of layoffs, and many small businesses are likely to shutter for good amid renewed lockdown procedures. For now, investors seem committed to focusing on every morsel of positive economic data. If Shiller’s explanation holds, we could see another stock market crash when they confront the truth.
Disclaimer: This article represents the author’s opinion and should not be considered investment or trading advice from CCN.com. The author holds no investment position in the above-mentioned securities.