Factors that will drive stock market this week
With the coronavirus uncontained, the stock market remains volatile. Investors should buckle up and expect the up and down trend we are seeing, where a market which has seen a hype of activity during a near-global economic shutdown suddenly falls, then rises again, sometimes reaching a new daily or weekly high, then falls again, in a cyclical trend that surprises even the best of market forecasters.
The outlook of the market starts and ends with the coronavirus being contained or subsiding. However, while the resurgence of new coronavirus cases is a cause for concern, a few other factors will determine the July market outlook.
The first and most important factor of course is the virus. The hopes for a sustained economic recovery, especially in the United States, rests with its ability to effectively contain the coronavirus epidemic. At present, the lack of a uniform nationwide strategy makes public health outcomes uncertain. The market has shown a tendency to react to news about a vaccine. A COVID-19 vaccine would indeed change the trajectory of the pandemic, allow economies to fully reopen and people to return to work and school.
But a vaccine may still not be an immediate silver bullet that solves the pandemic, especially its aftereffects. The IMF warned last week that stocks could suffer a second meltdown in the event of another global spike in infections.
Investors are waiting on the Labor Department’s monthly jobs report this week. The May jobs report showed the U.S. economy added over 2.5 million jobs, which confounds expectations of another big decline and, perhaps, raising the expectations for a big bounce. Analysts estimate that 3 million jobs may have been added in June and the unemployment rate will fall again to 12% from 13.3%. But a disappointing report could shock investors and flatten the market to the same degree that May’s report triggered an upward trend.
Over 30 million Americans are collecting unemployment benefits. Many observers are worried that a full recovery in jobs could take years to return to pre-coronavirus levels. For instance, during the 10 recessions since 1950, it took an average of 30 months for lost jobs to recover, and none of those recessions saw labor-market declines of the magnitude and celerity of this recession, according to Ryan Detrick, senior market strategist at LPL Financial, in a Friday research note.
The market has seen a significant rally in global equities in the second quarter, and it’s natural to believe that there will be some quarter-end rebalancing out of stocks and into bonds. If this happens, billions of dollars of stocks and bonds could be shifted in investment portfolios, as investors aim to maintain specific allocations of stocks and fixed-income investments at quarter or month-end.
Those allocations are traditionally about 60% stocks and 40% bonds but the massive run-up in equities over the quarter may compel a sizable rebalancing. According to CNBC, the rebalancing could range from $35 billion to $76 billion. The quarter-end rebalancing could exacerbate the volatility we’re seeing towards the end of the current quarter, and investors must be cautious not to time the market in anticipation of pension moves, for instance.
The U.S. Congress has deliberated on further government stimulus to help small businesses and individuals, and another relief measure is likely to come by late July. However, there are worries the stimulus could stall due to a lack of a bipartisan consensus. Though Congress passed a $3 trillion relief stimulus last month, without extra aid soon, the economy and the market could stall.
Recent polls have seen the presumptive Democratic presidential nominee Joe Biden pulling ahead of Trump 50% to 36%, just a week after a Fox News poll saw Biden leading 50% to 38%.
Biden has said he would raise the corporate tax rate to 28%, rolling back Trump’s 2017 corporate tax reforms. A report from Goldman Sachs estimates that such an outcome would shift 2021 earnings per share for the S&P 500 to $150 from a current estimate of $170.
The stock market’s upward trend could also suffer from a break in a trendline for a 10-year Treasury note. The yield on the benchmark 10-year broke below a rising trend line, catching a flight-to-safety bid, to push it 3.8 basis points (0.038) percentage points lower to a yield of 0.636%, marking its lowest yield close since May 14, according to Dow Jones Market Data last week. That move suggests that the uptrend off the COVID-19 low in early March has ended, and we may see lower yields in sessions ahead combined with a bigger equities retracement.