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4 Reasons There's A Disconnect Between The Red Hot Stock Market And Ice Cold Economy

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4 Reasons There's A Disconnect Between The Red Hot Stock Market And Ice Cold Economy

Last Thursday, the U.S. Labor Department reported nearly 1.2 million Americans filed for unemployment benefits for the week ending Aug. 1, the 20th consecutive week of at least one million new unemployment claims. Yet since March 23, the SPDR S&P 500 ETF (NYSE: SPY) is up 50.9%, including one of its best four-month stretches in history.

For some investors, the disconnect between the stock market and the real economy may seem random or even nefarious. Wall Street critics often claim the stock market is “rigged” or the result of pure manipulation by investment banks and hedge funds. However, LPL Financial analyst Jeffrey Buchbinder said Monday there are several perfectly reasonable explanations for why the stock market is performing so well while the economy is performing so poorly.

Reasons The Stock Market Is Rising: The first reason for the stock market’s resiliency is that the cause of the economic recession has a clear end date. Few investors believe the pandemic will last forever, and Russia even claimed on Tuesday it has approved the world’s first COVID-19 vaccine. Buchbinder said investors are already anticipating an end to the pandemic at some point in the coming quarters.

The second reason stocks are performing so well is because of the Federal Reserve slashing interest rates to near 0%. The yield on 10-year U.S. Treasury bonds is currently 0.64%. These historically low interest rates are forcing cash out of the bond market and into stocks.

In addition, Buchbinder said the Fed has pumped trillions of dollars of stimulus into the economy to support it, essentially pledging to prop up the stock market no matter how much it costs. In fact, the U.S. money supply (M2) is already about 25% higher than it was a year ago, and more stimulus is likely on the way.

Finally, Buchbinder said not all companies are hurting in the shelter-in-place environment. Technology, digital media and e-commerce stocks are thriving, and those stocks make up about 40% of the S&P 500 index.

How To Play It: Looking ahead to the second half of the year, he said those four factors driving stock prices higher will likely remain in play, regardless of if or when the real economy starts to rebound.

“With the S&P 500 already having eclipsed the high end of our year-end fair-value target of 3,300, and given a number of risks in addition to COVID-19, such as the upcoming US presidential election and escalating US-China tensions, the upside for stocks over the rest of the year may be limited. But we would say the same thing about bonds, which leads us to maintain our tactical overweight equities allocation,” Buchbinder said.

Benzinga’s Take: The stock market has always been considered a leading economic indicator because investors are able to price future expectations into the market in real-time, well ahead of the release of actual economic numbers. While it may seem like the stock market has dissociated from the real economy in 2020, it's simply reflecting expectations of a sharp real economic recovery in 2021 and beyond.

 

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