The global market’s rally provides reason to be optimistic
but investors should remain cautious going forward
On Monday, the S&P 500 rose by more than 7% and today, at writing the market is up almost 2%.
Around the globe, the situation is similar: Since April 3rd, the French CAC 40 is up 6.4% and the Japanese Nikkei is up by more than 7%.
Investors are baffled: The coronavirus is still spreading and causing victims, Europe is in total lockdown, America is implementing confinement measures, consumer spending is drying up, businesses either going bankrupt or going deeper in debt to pay the bills, and as a result, unemployment claims are skyrocketing.
Why are global markets rallying?
Apparently, markets are reacting to several factors:
- Signs that we may be at or nearing the peak of the pandemic
- Oil prices on the rise following persisting rumors of a Russia-Saudi agreement to cut production
- Falling US Treasury bond yields signalling that investors are currently preferring to invest in equities rather than bonds.
Ultimately, it is not surprising that investors are rushing to buy equities as the stock market is still down 20% from its 2020 high.
Further, investors believe that the incoming bailout may save the economy.
If the bailout is successful, then the current mass unemployment may only be temporary. In theory, the bailout ensures loan forgiveness to businesses who spend 75% of the aid on payroll, benefits, mortgage and utilities payments and rehire their workforce once the crisis ends.
Further, the bailout considerably beefs up the unemployment benefits program: Benefits are extended to categories of workers who would not have benefited before and provides an extra $600 per week on top of the payments provided by state unemployment.
These two factors are not only encouraging companies to lay off workers but also enticing workers to apply for unemployment as they should receive generous compensation.
Is this rally sustainable?
Some people claim this rally will be short lived because it is not based on solid fundamentals.
Despite the incoming bailout, which has yet to come into effect, many companies will go bankrupt. As a result, not all of the recently laid off workers will be rehired once the crisis is over. Even if the economy recovers quickly, unemployment could remain high for months to come.
Further, there is a growing fear among small businesses that banks will shortchange them and and keep a hefty chunk of the bailout loan money for themselves.
These fears are legitimate because this is what happened in 2008: Banks received hundreds of billions in bailout money they were supposed to reinject into the real economy but didn’t. Instead, they used those funds to buy equities, merge with other banks and pay themselves huge bonuses.
There is already news circulating that banks are submerged with applications and that many businesses are being refused help. Critics of the bailout point to the lack of governmental oversights as a sign that this scenario was inevitable.
Lastly, many observers believe that the total bailout for small businesses is simply insufficient. With under $500 billion in federal aid for small businesses, they are convinced that Congress will be called upon to provide more money. Mnuchin has already declared that he is willing to ask for more funds as Congress has shown massive bipartisan support for these measures.
The question is how long will it take to obtain these funds and how many businesses will go under by the time the money is made available?
What about the cruise lines?
Despite Trump declaring that he was a big fan of cruise companies, they have been left out of the federal bailout. Two reasons motivated lawmakers’ decision to cut them out: They are incorporated overseas and the majority of their workforce is foreign.
The Trump administration offered the cruise lines federal aid only if they agreed to incorporate their business in the US. Realizing that this would signal the end of their tax advantages forever, the companies declined the proposal. They would rather take on more debt than pay taxes in the US. This selfish position cost them their bailout money.
In order to raise cash and cover their expenses, Royal Caribbean secured a $2.2 billion loan while Carnival Cruise Lines is issuing $6 billion in stocks, bonds and other securities. Some of Carnival’s bonds are sold with an incredibly attractive 12.5% interest payment. Apparently, cruise lines are still desirable: A Saudi Arabian investment fund just acquired an 8% share of Carnival.
In sum, despite all their recent struggles, investors are hopping on the cruise line stocks again: Since April 2nd, CCL stock is up 50% and RCL is up 45%.
Norwegian Cruise, the third major cruise line, also took on an extra $1.5 billion in debt to ensure it has enough cash on hand to survive the year. Its stock is up 47% since April 2nd.
When will the US reopen?
While the virus is still spreading, it appears that Trump’s wish of reopening the economy as soon as possible will come to fruition.
Indeed, some experts suggest that the outbreak could be reaching its peak: Analysts believe that the deceleration of infections in New York is a good sign for the rest of the country.
This doesn’t mean that the pandemic is under control but it does provide some room for optimism as to the economic outlook of the next few weeks.