The Market vs the Economy

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I hope you and your family are managing to navigate your way through this crisis. All of us are all facing uncertainty. No one knows how the crisis will play out. 

Given the severe economic slowdown, many people are questioning how the stock market can be within 10-15% of all time highs. The following questions which I posed six weeks ago remain unanswered:
  • What will be the pace of effective health intervention including testing, tracing and, ultimately, vaccines?
  • What level of economic activity will be achievable without sparking uncontrolled spikes in infection rates?
  • What industries will remain impaired post crisis?
  • What will be the impact of increased government, business and individual debt levels?
  • When will employment, consumer spending and, ultimately, corporate earnings return to pre-crisis levels?
These questions undoubtedly imply a heightened level of risk. So what gives?

I believe the strength of the market rally is based on two main factors:

1. Governments and central banks have so far demonstrated they will do whatever it takes to prevent economic meltdown. This backstop has provided stability and taken the worst case scenario off the table. So in this higher risk environment, even if earnings will be lower for some time, owning a diversified mix of great companies still looks like a good long term bet.

2. Returns on "safe" investments are downright miserable! Most Canadian and US government bonds yield less than 1% p.a., below recent inflation levels, and prospects for higher interest rates going forward are dim.

I don't know your circumstances so I can't make personal recommendations but will leave you with three reminders.

i. Expect continued volatility.

ii. Your most important investment decision is determining your overall mix of stocks (growth potential but volatile) and bonds (safe but near zero returns). Check out Chapter 9 of the book for a quick refresher on making that decision and sticking to it.

iii. If you expect to draw cash from your investment portfolio within the next two or three years, I suggest you have some short/medium term federal or provincial government bonds, bond ETFs (which hold largely government bonds), insured GICs, insured bank savings accounts or cash to cover those withdrawals.

I welcome your questions and feedback. 

Good luck and stay safe!
 
Larry

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