Market Review Q220: Calibrating the Craziness

After a record drawdown in the first quarter and a record rebound in the second quarter, no one is disputing that the first half of 2020 has been memorable. What is open for question is whether the first or the second quarter is a better portent for the foreseeable future.

There is no doubt that public policy is part of the equation. While overwhelming policy responses to the Covid-19 related lockdowns certainly affected the markets, the Fed didn't force anybody to do anything either. The key to managing through this is understanding what has happened and why.

In a pattern to which investors have become all too accustomed, the Fed pounced into action soon after stocks fell precipitously in March. And pounce it did. In a set of measures that were mind boggling both in terms of magnitude and breadth, the Fed sent a strong signal of its commitment to support markets. In addition, it kept rolling out new policies throughout the second quarter in order to quell any remaining doubt as to its intent.

Not only did stocks rebound, but they seemed to be completely reinvigorated. As markets continued bounding despite evidence of a relatively weak economic recovery, commentators have tried to capture the growing disconnect. Michael Every from Rabobank proclaimed, "Markets are, across the board, totally divorced from reality. Facts no longer matter". Jeffrey Gundlach chimed in saying, "There's no price-discovery mechanism".

Nomi Prins exclaimed, “I call this a ‘Permanent Distortion.’ I have not used this term in prior books, but I am using it because . . . the disconnect between financial assets, equity markets and the real economy . . . has become massive..." Upon leaving ValueAct Capital, the hedge fund he founded, Jeff Ubben declared, "Finance is, like, done. Everybody's bought everybody else with low-cost debt".

Other phenomena have corroborated these observations. Retail trading picked up significantly and focused much more on "story" stocks than fundamentals. On the other side of the spectrum, high profile hedge funds continued to close down, further highlighting how troublesome the environment has become.

Criticisms abound and revolve around the same points. The economy is weaker than people believe. Asset prices are disconnected from economic reality. The markets are manipulated. Many blame the Fed. The idea is that stocks have become untethered from reality because central banks have hijacked the capital markets.