Wall Street bears have pooh-poohed the stock market’s month-long rally by arguing that a deluge of horrific economic data would clip the recovery’s wings – eventually.
But as the Dow Jones Industrial Average prepares to snap a three-month losing streak, it might be time to admit that the optimists were right.
That’s the feeling you get from the recent data in Citigroup’s U.S. Economic Surprise Index, which measures whether key economic indicators are coming in above or below professional forecasts.
Perhaps unsurprisingly given the earth-shattering disruptions that have transpired over the past two months, Citi’s Economic Surprise Index is plumbing lows not seen since the financial crisis.
In other words, the economic carnage has been far more severe than forecasts anticipated.
That sounds scary. But if history is any guide, it means the stock market has already plumbed its lows too.
According to Strategas Research , “markets tend to bottom when the economic data gets this bad.”
Here’s how the Economic Surprise Index has correlated with the S&P 500 over the past two decades:
Notice that the last time the index plummeted this low was during the throes of the Great Recession. It bottomed out at the end of 2008. By March 2009, the stock market had bottomed too.
What this suggests is that while worse-than-expected data can blindside the stock market during “ordinary” conditions, equities more readily price for surprises during periods of turmoil.
Regardless, David Bahnsen says there’s a crucial difference between data that is bad and data that is surprisingly bad. Speaking on Monday’s episode of the Dividend Cafe podcast, the Bahnsen Group Managing Partner explained that this is a crucial distinction when evaluating how economic data will impact the stock market:
“The surprise index is at as bad a place as it’s been since the financial crisis. So I think that the question we have to ask is not “Will more bad news come?” but “Will more bad surprises come? And those two economic components are very different, and have a lot to do about how markets are pricing.”
Those questions may be distinct, but Wall Street’s bears maintain that the answers are the same: Yes.
In their outlook, the Economic Surprise Index won’t just test financial crisis lows; it has much further to go before it hits a bottom. Alarming economic data will continue to roll in. The stock market might brush it off for a while, but eventually, either the magnitude or the duration will catch investors off guard.
Economist and alleged “permabear” David Rosenberg falls into the latter camp. The founder of Rosenberg Research says his “base case” for the U.S. economy includes negative annual consumer price growth for five consecutive quarters, along with an unemployment rate that averages 13% until at least the end of 2021.
As he implies in the tweet below, this would mean the U.S. economy had effectively entered a new Great Depression.
“Bond King” Jeffrey Gundlach exemplifies the former view. He expects the stock market’s reality-check moment to arrive at any time as the United States attempts to “reopen” its economy.
“People don’t understand the magnitude of … the social unease at least that’s going to happen when … 26 million-plus people have lost their job,” the DoubleLine CEO told CNBC on Monday. “We’ve lost every single job that we created since the bottom in 2009.”
Gundlach expects stocks to retest their lows, and he’s putting his money where his mouth is. He just put a short on the S&P 500.