US stock market at potentially dangerous inflection point

US jobs data provided a positive shock, but what does our head of markets think of recovery prospects?

In what was perhaps the largest Non-Farm Payroll (NFP) surprise ever – and in a positive way – US markets kicked into overdrive as the assumption of a prolonged recession was immediately brought into question.

The economist and market analyst consensus for NFPs last week had been that another eight million jobs would be lost, and that the unemployment rate would rise to 19.5%.

How wrong they were.

In the event, 2.5 million jobs were added, with the unemployment rate dropping to 13.3% from a previous 14.7%.

The figures poured fuel on the fire of a swift return to economic normality, with mention of a “V” shaped recovery – a sharp contraction followed by an equally sharp comeback – being seen as a possibility.

The major US indices responded in kind and, extraordinarily, two of the three almost recouped previous losses and more.

In the year to date (as at end of day 9 June 2020), the Dow Jones Industrial Average is down just 4.4%, a significant improvement since the dark days of March.

The S&P500, meanwhile, is now virtually flat on the year, down 0.7%, which represents a jump of some 45% since its nadir in March.

The technology-laden Nasdaq has been in the vanguard of the recent recovery in markets, and the index is currently ahead by 11% in the year to date, closing on 9 June at an all-time high.

The reasons for this extraordinary performance are understandable.

Previously, quite apart from injecting trillions of dollars of monetary stimulus into the system, the Federal Reserve had warned that there were further job losses to come on top of those already experienced, and that a full economic recovery might not materialise until the end of 2021.

Meanwhile, a quicker than expected return to work in some of the key industries has added to what was already increasingly bullish sentiment, as investors chose to look through what will be a woeful second quarter reporting period when the season starts in July, with eyes focused instead on the eventual recovery.

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Apart from the extraordinary monetary stimulus, there have also been concerted efforts by governments to apply fiscal help to individuals and companies in an effort to mitigate economic losses.

The sum of these coordinated actions is virtually unique in dealing with what has been an equally unique global lockdown.

In the US, there are additional political pressures for the economy to rebound quickly ahead of the upcoming Presidential elections.

Yet at the same time, this market rebound could yet be derailed.

Concerns around the eventual cost and impact of Covid-19 remain and these have now been joined by questions over valuations.

It is difficult to foresee that investors will completely ignore the negative company earnings which will prevail in July, while in any event, even at these surprisingly improved levels, US joblessness remains well above the peak of the 2008/2009 financial crisis.

In the meantime, any number of factors could change the mood.

A downward revision to the NFP numbers, an escalation of tensions both internally (civil unrest) or externally (trade spat with China), a second spike of the pandemic, corporate bankruptcies or delays to a vaccine could all play a part.

In any event, one set of economic data should not and cannot be taken in isolation. There is little doubt that the barnstorming NFP figures were well ahead of what had been expected, but the economic impact of the pandemic has yet to be fully quantified and its scarring effects could yet lead to structural, rather than cyclical, changes to the economy as the world’s whole way of life is re-evaluated.

Are the entertainment and tourism and travel sectors likely to benefit from an immediate return to normality, for example?

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This leaves investors at a fascinating but potentially dangerous inflection point.

Were these job numbers truly a harbinger of a fiercely sharp recovery on the economic global stage, or are there factors which have yet to land which will change the way the economy behaves?

Only time will tell, but, in the meantime, investors can expect more bumps in the road as the “new normal” – whatever that may be – emerges.