A look at the state of the stock market a year since its peak before Covid

Despite all the unprecedented events and unforeseen consequences of the past year, the current market conditions are quite close to those seen in mid-February 2020, when stocks peaked just before the Covid crash.

In the six months leading up to its February 19, 2020 peak, the top in the indexes, the S&P 500 had risen 15.8% to a string of new record highs. Today, the index is up 15.9% over the past six months and has been clicking on new records for most of that period.

A lot of the talks in the market are similar too: concerns that too much of the market is being dominated by some massive growth stocks (the top five S&P stocks were then 20% of the index and are now 22%) and that investor sentiment might have become too complacent.

Then, as now, the S&P was at its 20-year high in terms of valuation, the long-term price / earnings ratio just above 19 and now above 22 – but for those who choose to compare returns on stocks to the yield on government bonds is reasonably close: 3.7 percentage points then versus 3.3 now.

The spread on high yield bonds has taken a near-perfect round trip over the past year, right at extreme lows, in line with the feeling that generous credit markets are lubricating the economy and markets.

Here’s how this support of stocks and assets from forgiving debt capital markets was featured in this column a year ago this weekend:

Real returns of investment grade corporate bonds are barely above zero. The Chicago Fed National Financial Conditions Index shows that the liquidity background is as loose as this cycle … A clear majority of S&P 500 stocks have a dividend yield of over 10 years. Treasury bond yields. While there is no perfect relative value indicator, it tends to provide a buffer below equity valuation.

That all applies today as well. And that includes feverishly buying a stack of expensive ‘story shares’ that excite younger and more aggressive investors, while the traditionalists get a little nervous.

A year ago, “A cluster of what could be called ‘idiosyncratic speculative growth’ stocks are also doing pretty frisky this year, a sign that investors are aggressively grabbing the next big thing (or maybe just the next quick cash).” Then it was Tesla, Beyond Meat and Virgin Galactic. Today, it’s a few dozen names from GameStop to Canadian cannabis to fuel cells to early-stage fintech apps.

So the echoes are pretty clear as this anniversary approaches. However, the differences are many, important and make today’s market more dynamic in both beneficial and – potentially, ultimately – dangerous ways.

Let’s be clear that noticing the similar market set-up now is not even remotely like a repeat of the market collapse and economic calamity that began to unfold in late February last year. The spread of the coronavirus was a real external shock, the forced global economic shutdown a first, the five-week free fall of 35% unprecedented.

Which brings us to some of the more crucial differences between now and a year ago. The collapse set the clock on the economic cycle and policy rates at zero. From 2019 to 2020, Wall Street was engaged in an end-of-cycle vigil, with the economy nearing its employment peak, the Treasury yield curve flat, corporate profit margins nearing its peak and earnings expected to be flat.

The Fed was on indefinite hold in February 2020 with short-term interest rates of 1.5-1.75%, but a significant minority of Fed officials predicted an interest rate hike in 2021.

The flash recession and earnings collapse triggered about $ 5 trillion in more likely deficit-funded fiscal aid, and made the Fed cap easy for a long time, with the intention of waiting for a return to full employment and a sustained rise in inflation before any tightening movements.

So yes, valuations are now higher and investor expectations can become unrealistic.

But Corporate America has been refinancing itself for years at invitingly low rates against a Fed backstop, earnings will be back above their previous highs this year, the government is eager to keep the economy warm and (arguably) policymakers have just made a repeatable process performed. circuit a recession.

Another way things have changed in a year is the heady rush of smaller investors in the market, who felt invincible after weathering the crash and rebounding nearly 80% in the S&P 500.

Investors’ willingness to take advantage of leveraged upside bets in the form of call options in unprecedented volumes and the immediate mark-up of new IPOs such as DoorDash, Snowflake and AirBNB to tens of billions of market value at sky-high revenue multiples shows a new, more aggressive and risk tolerant ethos on the tape.

Some of this energy started flowing a year ago, but it had not gained nearly as much momentum or a viral character. The Russell Micro-Cap Index is up 65% in 3 ½ months. The amount of money has increased fivefold in the same period. Total trading volume is rising even as the indexes pick up – the reverse of the typical pattern and harking back to a similar pattern from the late 1990s. Stock inflows in the past week have set a new record.

Social media stamps brought GameStop stock back from $ 12 to $ 400 to $ 52 in the past two months, then brought Tilray back from $ 18 to $ 63 to $ 29 in two weeks. Volumes are now in fixed S&P 500 ETFs. fallen to lows in several years, apparently not spicy enough for the fringe buyer.

That entire litany describing the untamed animal spirits running through Wall Street says this is a powerful and well-sponsored bull market as well as increasing the risks of a wild overrun. On the other hand, everyone knows they are building and have been sounding the alarm for a while.

Does the fact that sub-sectors of Reddit stocks and fashionable green energy games are exaggerated and then punctured without undermining the big-cap indexes mean they are not dangerous? Or is the fact that a few days of headlong buying in small short-squeeze stocks caused a rapid 4% S&P 500 spill late last month, a warning that the erratic tremors cannot always be safely dispelled by the foundation of the market?

A year ago, Bank of America global strategist Michael Hartnett told investors to keep playing risky assets “until investors become more clearly” euphoric, “which he says will mark the moment of” peak positioning and peak liquidity. ” Hartnett maintains that. same vigil now, its Bull & Bear indicator is correctly keeping investors engaged, but is moving up to a contrary sell threshold (which had preceded corrections in the past and was last hit in early 2018).

All of this goes back to the thought aired here in early January that 2021 presents as a new mix of 2010 and 1999 – the first full year of a new bull market with long-acting recovery, mixed with the last year of a vigorous bull. market that shot through each upward target creating levels of excess that took a few years to clear up.

Interestingly, however, the core market being captured by the S&P 500 is metabolizing this mixture with a rather steady and well-behaved – you might even say boring – uptrend. At least for now.

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