Today marks the fifth anniversary of the stock market’s bull run in the wake of the financial crisis. Yet despite the strong performance posted by equities—or perhaps because of it—investor sentiment remains cynical and fearful.
Maybe a five-year bull market hasn’t made believers out of a lot of investors because 2008 cut them too deep. Or maybe it’s because the recent exuberance doesn’t quite match up with the improvement in fundamentals. Either way, there’s still a lot of money on the sidelines—far too much for a rally of this size and length.
Looser for Longer
But investor anxiety over the stock market is shortsighted for two very important reasons. First, we expect the Federal Reserve to remain very accommodative. Just look at Friday’s release of the February employment report.And the subsequent reassuring comments from New York Fed President and FOMC Vice Chair William Dudley, who told the Wall Street Journal that the “economy should do better” this year and the bar is “pretty high” for changes to the pace of tapering.
“With monetary policy likely to remain supportive, or ‘looser for longer,’ stocks should continue to benefit. ”
Even though the jobs data was surprisingly positive, it doesn’t mean the Fed will change its taper timeline or when it starts to raise the federal funds rate. Second, monetary policy, while used to maximize employment and maintain price stability according to the Fed’s mandate, is most effective in inflating prices of stocks and homes. With monetary policy likely to remain supportive, or “looser for longer,” stocks should continue to benefit.
So while investor sentiment remains tepid, it’s likely to improve. Investors’ reluctance to move out on the risk curve may ease as they recognize the Fed’s accommodative policy stance and an economy that continues to recover, albeit unevenly. And that not only bolsters the case for stocks, but also breeds higher confidence.
High on a Feeling
Interestingly, the Fed last week released the most recent balance sheet of US households and nonprofit organizations, a measure of Americans’ net worth. For the purposes of this survey, net worth includes homes, stocks and other assets minus their debts and other liabilities. Not surprisingly, household net worth increased by 14% in 2013 to its highest level ever: $80.7 trillion.
If the “wealth effect” theory holds, then this increase in net worth should help boost consumer confidence. Why? When the value of net worth rises due to higher stock and home prices, people feel more secure about their wealth, which leads them to spend more money. With home prices and stock prices up significantly in the past few years, it’s reasonable to assume that consumer sentiment and spending will also rise.
However, with both retail sales and consumer sentiment data scheduled to be released later this week, it’s not clear whether the increase in household net worth will actually translate into higher confidence and more spending. That’s because the improvement in net worth has been concentrated among more affluent households and older Americans.
A recent paper released by the Weidenbaum Center at Washington University entitled “Inequality, the Great Recession, and Slow Recovery” argues that the bottom 95% of American households, in terms of income, have experienced rising income inequality since the 1980s. That trend has “contributed in an important way to the unsustainable increase in household leverage that triggered the collapse in consumer demand and the Great Recession,” according to the paper.
Further, the authors argue that rising income inequality has negatively impacted demand growth since the Great Recession, dampening the recovery. Whether it continues to hamstring the recovery remains a big question mark that’s predicated on the extent to which the “bottom 95%” own stocks and homes.
“With fewer stockowners and homeowners post-2008, will the “wealth effect” still translate into higher investor and consumer confidence?”
Wages: More Than a Feeling
But it’s not net worth that may make the biggest difference for the bottom 95% of Americans. It’s an improving labor market. The February jobs report showed that shorter-term unemployment—the number of people who have been jobless for 26 weeks or less as a percentage of the overall labor force—has finally reached its long-term average, which is the point when we’ve historically seen upward pressure on wages begin to materialize. Perhaps not coincidentally, the February jobs report also showed a solid 0.4% monthly increase in hourly earnings.
Fittingly, the wealth effect and pay increases set the stage for this week’s retail sales and consumer sentiment data. Hopefully, even if most Americans haven’t participated in the stock-market rally or the recovery in home prices, enough are experiencing an improved job market—especially higher pay—to make a difference. That could translate into better consumer moods and higher spending soon—if it hasn’t already.
Kristina Hooper, CFP, CAIA, CIMA, ChFC, is US head of investment and client strategies for Allianz Global Investors. She has a B.A. from Wellesley College, a J.D. from Pace Law and an M.B.A. in finance from NYU, where she was a teaching fellow in macroeconomics.
Purchasing Managers’ Indexes (PMI) are economic indicators derived from monthly surveys of private sector companies. The Chicago-PMI survey registers manufacturing and non-manufacturing activity in the Chicago region. Investors care about this indicator because the Chicago region somewhat mirrors the nation in its distribution of manufacturing and non-manufacturing activity.
Thomson Reuters/University of Michigan Surveys of Consumers is a consumer confidence index published monthly by the University of Michigan and Thomson Reuters. The index is normalized to have a value of 100 in December 1964. At least 500 telephone interviews are conducted each month of a continental United States sample (Alaska and Hawaii are excluded). Five core questions are asked.
The material contains the current opinions of the author, which are subject to change without notice. Statements concerning financial market trends are based on current market conditions, which will fluctuate. References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities. Forecasts and estimates have certain inherent limitations, and are not intended to be relied upon as advice or interpreted as a recommendation.
Past performance of the markets is no guarantee of future results. This is not an offer or solicitation for the purchase or sale of any financial instrument. It is presented only to provide information on investment strategies and opportunities.
A Word About Risk: Equities have tended to be volatile, involve risk to principal and, unlike bonds, do not offer a fixed rate of return. Foreign markets may be more volatile, less liquid, less transparent and subject to less oversight, and values may fluctuate with currency exchange rates; these risks may be greater in emerging markets.
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