Over the last several months, the U.S. equity markets have staged impressive rebounds to recoup most of the losses that occurred in late February and March. After a peak-to-tough decline of approximately 37% for the Dow, 30% for the Nasdaq, and 34% for the S&P 500, the major indexes have rallied approximately 38%, 40%, and 36%, respectively. As of this writing, the Dow, Nasdaq, and S&P 500 are approximately 13%, 2%, and 11% off all-time highs. While the rally has been impressive and encouraging, the current environment is unclear and uncertain with the potential for additional bouts of volatility as we move forward.
The major factors undergirding the rally include positive developments surrounding the coronavirus, simulative fiscal and monetary policies, and a slight pickup in U.S. economic data. As for the coronavirus, advances have been made in learning more about the virus and possible treatments that may combat the virus. There is more clarity today than there was a couple of months ago. As for simulative macroeconomic policies, the Federal Reserve has been proactive in reducing interest rates and launching initiatives to keep credit flowing throughout the economy. In conjunction with simulative monetary policy, simulative fiscal policy, i.e., the CARES Act, has been implemented to blunt the economic and financial fallout from the coronavirus. While not a panacea, the macroeconomic policies implemented have served to eliminate some of the more dire economic outcomes. And lastly, we have seen a pickup in several U.S. economic indicators. For example, the ISM manufacturing and non-manufacturing indexes both increased slightly from April to May. The ISM manufacturing index increased from 41.5% in April to 43.1% in May and the non-manufacturing index increased from 41.8% in April to 45.4% in May. Furthermore, the most recent employment report surprised on the upside with 2.5 million jobs added and a reduction in the unemployment rate to 13.3%. While some misclassification errors appear to have impacted the data and unemployment rate, the overall report was a positive development as compared to consensus expectations.
Despite these positive developments, the current environment is unclear and uncertain. While much more is known about the coronavirus, a vaccination against the virus does not appear imminent. In addition, while macroeconomic policy measures have been positive and recent U.S. economic data points have been encouraging, it is far from clear that the economy is poised for an immediate rebound. More simulative measures may be needed, and it is unclear whether they will survive the political process. One of the biggest risks facing the U.S. equity markets at this time is a resurgence of the coronavirus. If this occurs, the equity markets will most certainly move lower, with a possible retest of the March lows or lower lows. Additional risk factors include recent social unrest, the upcoming U.S. presidential election, and the fact that the equity markets look due for a period of consolidation following the sizeable advances over the last several months. The magnitude of the rallies we have seen in the major U.S. equity indexes are not sustainable indefinitely.
While we are optimistic and look forward to a continuation of positive trends, the environment is cloudy and market volatility should not come as a surprise. At this time, it is important to ensure your portfolio closely matches your goals, risk tolerance, and time horizon.
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