The equity market recovery that began in late March picked up steam throughout the second quarter. The S&P 500 Index jumped 20.5%, its biggest quarterly gain since the fourth quarter of 1998. Given extremely depressed investor sentiment, as well as anticipation of massive declines in economic activity, it did not take much to exceed expectations. Investors were encouraged by the reopening of the economy, signs of improvement in economic data, generally positive demand commentary from corporate earnings calls and the speed and aggressiveness of the monetary and fiscal policy response. Optimism surrounding potential COVID-19 vaccines and therapies also provided a positive narrative throughout the quarter.
Fixed income performance was also notably strong. Treasury interest rates were little changed, and generally fluctuated within a tight range, but Federal Reserve efforts to repair bond market function and aggressively boost credit translated to significantly higher corporate bond prices. The fixed income rebound was particularly evident in more credit sensitive segments such as high-yield bonds.
Below is a summary of the performance results for the major indices:
As the second quarter progressed, we saw broad-based economic improvement that the market sniffed out several months ago. Not surprisingly, the start of the economic bottoming process aligned very well with the U.S. and global economy’s reopening. Quarterly highlights included a May retail sales report showing the largest monthly gain on record and solid employment reports reflecting 7.5 million jobs added in the final two months of the quarter. High-frequency indicators also showed a pickup in travel and leisure activity, evidenced by increases in air travel, public transit use, truck traffic, driving-direction requests, restaurant reservations, hotel occupancy, beach visits and vacation rentals.
While we’re encouraged by these improvements, we recognize numerous counterpoints as well. Pessimistic investors make the point that many of these “strong” data points are measured against the lows of one of the largest economic declines in history, and still represent very depressed levels compared to 2019. It is also clear that government stimulus checks and enhanced unemployment benefits have propped up both businesses and households. While the consumer will most likely benefit from additional fiscal stimulus in the near-term, this support cannot last forever, and the reins will have to be passed back to organic, private sector growth at some point. Importantly, the late-June surge in COVID-19 cases in the South and West also raises concerns about the trajectory of any recovery. The uncertain economic and public health backdrop leaves plenty of room for differing views and opinions. Our view is that the worst of the economic plunge is behind us, and that the hurdle for another nationwide economic shutdown is considerably higher than back in March.
During the depths of the first quarter market plunge, we discussed our view that the stock market would rebound well before the economy improved or COVID-19 was contained. History has taught us that equity markets do not wait for all the bad news, economic fallout and earnings declines to end before looking to the future. This time was no different.
The S&P 500 Index bottomed on March 23rd, a day when the cumulative global COVID-19 case count was less than 380,000. We’ve now passed 13 million cases worldwide, after suffering one of the largest economic contractions in history. Aggregate second quarter earnings are expected to decline by more than 40% in the United States. Despite all this dreadful data, the S&P has rocketed higher, up roughly 40% from the March low and within sight of all-time highs. While the disconnect between the current gloomy state of the economy and the extraordinary equity market rally is apparent, it aligns well with the “move on” phase we discussed last quarter.
It feels like stating the obvious that thus far 2020 has dealt us unexpected events, extreme volatility and uncertainty around every corner. And we’re only halfway through the year! Developments over the last six months highlight the importance of sticking to a well-grounded investment plan in good times (like the second quarter) and bad (like the first quarter).