Understanding the Disconnect between the Stock Market and the COVID-19 Economy

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The S&P 500 has reached multiple record highs this year, despite the nation’s worst unemployment rate since the great depression. For many Americans, this obvious disconnect between the stock market and the economic health of America is confusing and hints at stark inequalities in society. Many people believe that the stock market is an indicator of overall economic health. It makes intuitive sense that when the average American is working, and receiving a steady paycheck, they have more disposable income that fuels business and drives the stock market. This is especially true for grouped stocks, like the S&P 500 or the NASDAQ 100, which are created to be a reflection of the overall market. However, this intuition is obviously far from reality - which has become increasingly clear as the markets continue to rise while millions of Americans file for unemployment each week of the COVID-19 pandemic.

How the S&P 500 reached an all-time high during the pandemic

The markets have climbed despite massive unemployment due to several factors:

  1. Expansionary Fiscal Policy

Despite party political conflicts, Congress passed a stimulus bill offering about $2 trillion in aid directed mostly at small businesses and middle to low-income       Americans, but also at large corporations. Opponents of the bill argue that it was not enough to curtail the economic downturn due to COVID-19 and that aid was not properly distributed - citing that billions of dollars were handed out to the country’s wealthiest individuals and corporations. Despite this criticism, the bill is largely viewed as an effective and essential step to restoring economic health and market growth throughout the pandemic.

2. Expansionary Monetary Policy

The Federal Reserve slashed interest rates down to zero to incentivize borrowing and investment.

a.            The Federal Reserve also rolled out an unlimited quantitative easing bill. Under this policy, the central bank can purchase unlimited amounts of longer-term securities from the open market in order to increase the money supply and encourage lending and investment.

b.            There is also a $600 billion “Main Street” business lending program aimed to support small and medium-sized businesses to weather the COVID-19 storm. Under this program, commercial banks lend to companies and then sell the majority of the loan to the Federal Reserve. This reduces the risk that commercial banks take on, incentivizing greater intermediation.

3. Speculation

Despite a predicted slow economic recovery for small and medium-sized businesses, tech giants are expected to thrive in the post-COVID market.

a.            While the economy will eventually reopen, demand is expected to remain low, and unemployment is projected to remain around 10% through 2021. Despite the grim forecast for the U.S. economy, investors are still confident in future markets. The post-COVID economy will likely favor tech companies, delivery services, and other industries that allow for socially distanced operations. These are the stocks that we saw perform so well in 2020 and they are expected to continue to do well in 2021 and beyond.

b.            Furthermore, big publicly traded companies have the resources to survive the economic turmoil of COVID-19. They are expected to emerge from the pandemic with slight losses and little no competition, meaning they are projected to do even better post-COVID. This predicted performance of large scale businesses is a significant factor in stock market performance.

4. Index Weight

The S&P 500 and NASDAQ 100 gives greater weight to companies with the largest market value, which includes the big tech companies that have seen unprecedented growth during the pandemic. So while the stocks of the majority of companies, such as airlines and hotels, have not performed well, this is not reflected in the S&P 500 or NASDAQ 100. Therefore, neither of these indices is a true measure of total market performance.

Why the stock market is not an accurate indicator of economic health

Since the crash of the stock market that triggered the Great Depression, people have closely associated market performance with economic health. However, the market is actually very disjointed from the real economy for the following reasons.

For starters, the stock market only includes publicly traded companies. Most businesses that people work at and interact with - think restaurants, dry cleaners, hardware stores - are small and their performance is not reflected in the stock market. In fact, all of the companies in the S&P 500 employ less than one-fifth of America’s workforce. [1]

The big companies listed on the stock exchange operate under a unique set of circumstances. These companies are highly profitable, have access to capital, and often have a global reach. The conditions that make a large, publicly-traded company successful are very different from those that make the average American business successful. When these companies are doing well, it does not mean that smaller businesses are also doing well.

Additionally, as mentioned earlier, the S&P 500 and NASDAQ 100 is not an unbiased collection of stocks. Stocks of companies that have done well in the pandemic, like Amazon and DoorDash, enjoy large market share and are already weighed heavier by these indices. Even though the majority of companies are performing poorly, the S&P 500 and tech-heavy NASDAQ 100 are favoring the few companies that are doing well.

Inequality in the American Economy

The disconnect between the stock market and the economic health of America indicates that something deeper is amiss in society. Indeed, between March and June, while millions of American’s lost their jobs and thousands of businesses shut their doors for good, US billionaire wealth increased by $637 billion - or 21%.

According to a report from the Federal Reserve in 2016, the wealthiest 10% of households own 84% of all stocks. A 2017 Report from the Fed states that while 60% of white families own stocks, only 30% of black and Hispanic families own stocks. The drastic, record-setting climb of the stock market has benefited a very specific and small demographic in America. And while this disproportionate ownership of and benefit from the stock market has been around for many years, it is exponentially more dramatic given the economic turmoil of COVID-19.

The stock market is fueling growing inequality in America which will lead to social unrest and potential political instability. The inequality jumpstarted by the economic circumstances of COVID-19 and realized through the structure of the stock market will be difficult, if not impossible to undo.

[1] https://www.businessinsider.com/sp-500-employment-vs-smaller-businesses-2015-6

More posts by Hunter Siebel.
Understanding the Disconnect between the Stock Market and the COVID-19 Economy
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