The stock market is likely to trade cautiously over the next couple of weeks as it awaits more evidence regarding the extent of re-opening of the economy. Upcoming data are for May and should show a partial recovery from their April plunges. But, substantial strength in the key data due the first week of July -- the June Mfg ISM and Employment Report -- may be needed to reignite the market rally.
The latest stock market sell-off was explained a number of ways. They included: /1/ news of a spike in coronavirus infections in some states that had opened up, raising the risk of a second economy shutdown, /2/ a pullback from technical resistance, exacerbated by algorithmic trading, /3/ the stock market had gone up too much too fast, and /4/ disappointment that the economy's bounce-back is not as strong as expected.
The market is jittery about the possibility of a 2nd wave of the coronavirus. But, not all is bleak.
/1/ The latest spike in coronavirus infections may have reflected an increase in testing to some extent rather than a post-opening spread of the virus, according to state officials. It is too soon to say for sure, although it is noteworthy that not all states that re-opened early experienced an increase in infections. /2/ News about advances in treatment and vaccinations seem to be very promising. The consequences of being infected should become much less severe than what they've been. As a result, a pickup in the infection rate may not prompt a second economy shutdown. /3/ Curiously, the change in social behavior, including washing hands and social distancing, could reduce the incidence of other diseases, like the flu, making them less disruptive of economic activity in the fall and winter than is typically the case.
A pullback from technical resistance triggered by disappointment about the speed of recovery makes the most sense as an explanation of the sell-off. The Fed's Central Tendency Forecasts, released on Wednesday, call for a moderate above-trend pace of Real GDP Growth from H220 through 2022. But, the market might have been disappointed they did not build in a more pronounced V-shaped recovery. Economists at the Fed (and, for the most part, on the Street) would likely be cautious in doing so at this point, however. Also, these forecasts were done before the May Employment Report was released. Note that a V-shaped forecast would throw doubt on the need for additional Fed easing -- a reason the Fed would not make such a forecast at this point.
Fed Chair Powell's congressional testimony this week should repeat the message from the Statement and his post-FOMC Meeting news briefing. It should acknowledge the damage done by the coronavirus and keep open the door for more monetary policy easing. He will make positive comments about the May Employment Report, but likely express the Fed's goal of ensuring that job gains continue. If asked about the shape of the recovery, he'll stick to the Central Tendency Forecasts.
The surprisingly strong May Employment Report seemed to allay fears of a weak recovery. But, a technical question about the calculation of the Unemployment Rate and the need for confirmation of the job improvement may have caused the market to pull back from its initially exuberant reaction. When Thursday's weekly data showed that Initial and Continuing Claims remained high, the market sold off. Further declines in Initial Claims to under 1 Mn per week may be needed to start pulling down Continuing Claims significantly.
The Bureau of Labor Statistics raised a technical question regarding the March, April and May Unemployment Rates. It believes that some of the responses to the Household Survey were incorrectly recorded as employed rather than unemployed. BLS said, "As was the case in March and April, household survey interviewers were instructed to classify employed persons absent from work due to coronavirus-related business closures as unemployed on temporary layoff. However, it is apparent |that not all such workers were so classified." BLS estimated how much higher the Unemployment Rate would be if these workers were classified as unemployed (called BLS-Adjusted in the table below). In May, the Rate would have been 3% pts higher than the reported 13.8%.
One way to evaluate the significance of the BLS concern is to compare the official and BLS-Adjusted unemployment measures to an independent measure, such as Continuing Claims. The one more closely related to the independent measure may be the more accurate, although the relationship between Continuing Claims and Unemployment is not exact. It turns out the Official Unemployment measure moved more closely with Continuing Claims than did the BLS-Adjusted measure in April while the opposite was true in May (see table below). Over the entire March-May period, the Official measure was closer than the BLS-Adjusted measure to Continuing Claims. So, this comparison throws some doubt on the BLS concern.
Measures of Unemployment
(m/m change, mn)
Continuing Claims * Official BLS-Adjusted
March 0.1 1.4 3.0
April 16.2 15.9 19.3
May 2.8 -2.1 2.6
March-May 19.1 15.2 24.9
* change between survey weeks.
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