The major stock indices plummetted by over 3% on Wednesday in one of the worst declines in months. Stocks recovered a small portion of the loss on Thursday, but as of late Thursday night, futures are once again pointed lower.
The S&P 500 is down 4.5% this week and nearly 8% from the September high. The reasons are fairly obvious—Congress has failed to agree on a second economic stimulus package prior to the election; COVID-19 is surging nationwide again and lockdowns are increasing; and this year’s Presidential election may very well be contested. Before delving into what you as an individual investor can do to protect yourself—besides avoiding heated political discussions with loved ones and wearing a mask—let’s take a closer look at each of these threats and how they are impacting the market.
Congress has yet to agree on a second economic stimulus package
That the Republicans and Democrats in Congress could not agree on the size and terms of a second economic stimulus package is not shocking. Treasury Secretary Steven Mnuchin and House of Representatives Speaker Nancy Pelosi are still formally negotiating, but Senate Majority Leader Mitch McConnell has already adjourned the Senate until November 9th. The Democrats in Congress are pressing for a $2.2 trillion stimulus package while Republican legislators are holding firm on a package capped at $1.9 trillion. While the two sides agree that individual taxpayers should receive direct payments similar to those disbursed in March, the negotiations have also stalled over the inclusion of a national COVID-19 testing and tracing plan and allocation of direct stimulus money to cities and states. Further complicating the discussions are assertions by Republican lawmakers that they would oppose any stimulus bill exceeding $1 trillion, despite Trump’s claim that he would approve a spending package even larger than the $2.2 trillion for which Pelosi is advocating.
This failure of lawmakers to approve economic stimulus legislation before the election calls into question the fate of any stimulus package at any future time. The election’s results will directly affect the nature of any future negotiations among lawmakers, and could result in the passage of stimulus legislation being delayed until 2021 or not occurring at all. The U.S. equities markets are reacting to this uncertainty in an expected manner, as evidenced by the recent declines. Most of the federal relief measures approved by Congress in March have already expired, and without the passage of new stimulus measures, investors are anticipating that the U.S. economy will falter as small businesses and unemployed workers continue to struggle. Federal Reserve Chair Jerome Powell is urging Congress to prioritize the passage of another stimulus bill, asserting that too little federal aid “would lead to a weak recovery, creating unnecessary hardship for households and businesses.” Market analysts are anticipating that the U.S. economy at the end of this year will have contracted by 2.5 percent on a year-over-year basis, and that the market correction that began in September has not yet fully played out.
COVID-19 is surging nationwide and lockdowns are being imposed
Just in the past week, a record number of Americans—about 500,000—have tested positive for the coronavirus. This third surge of the virus is more widespread than the waves that occurred in spring and summer of this year, as evidenced by an increase in hospitalization and death rates in a whopping 38 states. The average number of daily new cases, as calculated in terms of a seven-day moving average, has increased by about 20 percent in just this past week. Monday’s tally of new cases nationwide—69,967—marked a record daily high, according to data released by Johns Hopkins University.
This surge in cases of COVID-19 is prompting the renewed imposition of lockdowns in some parts of the country, in an attempt to prevent the virus from further spreading. New York City has required schools and non-essential businesses to close in certain neighborhoods of Brooklyn and Queens. El Paso, Texas, and Newark, New Jersey, are introducing city-wide curfews. Chicago, starting today, is reinstating strict restrictions on bars and restaurants by prohibiting indoor service. Chicago residents are also being prohibited from gathering in groups of more than 25 people, and may not exceed a room’s capacity by more than 25 percent. Other nations including France and Germany have just announced even stricter, more widespread lockdowns on their residents.
Coronavirus surges, and lockdowns especially, make stock market investors understandably nervous. Lockdowns cripple economies and spark recessions, which may or may not exhibit V-shaped recoveries. In addition to the ramifications of imposed lockdowns, voluntary social distancing further drives economic contractions as consumers willingly do and buy less. The onset of winter and limitations on occupancies of indoor space further exacerbate the potential severity of both the virus itself and its looming economic impacts. The pervasiveness of lockdowns, both abroad and in the U.S., directly and inversely correlates with the performance of the stock market.
Next week’s Presidential election may be contested
With Trump repeatedly asserting that next week’s election could be marred by voter fraud, and record numbers of pandemic-wary voters utilizing mail-in ballots to cast their votes, the potential for this year’s Presidential election to be contested is at an all-time high. The final result of the election may be delayed only by the time required to count all absentee and mail-in ballots—a scenario that would create uncertainty for only 1-2 days. A very close election or claims of state-level voter fraud would create substantially more uncertainty, but a third scenario—in which a contentious legal battle ensues, akin to what occurred following the 2000 Presidential election in which Florida’s votes had to be recounted manually—would be potentially the most impactful. Both Trump and Biden have preemptively assembled robust legal teams in anticipation of encountering any of these post-election scenarios.
Aside from the first scenario, in which election results are just slightly delayed, the U.S. stock market is expected to adversely react by dropping further. An election with very close results or one that is marred by allegations of voter fraud is predicted to cause equity indexes to plunge by as much as 10 percent. A legally-contested election could provoke similar consequences, as evidenced by the 8 percent drop in 2000 experienced by the S&P 500 in the days between the election and when Al Gore conceded the victory to George Bush. Trump’s and some election officials’ assertions that validating the election could take weeks or even months is further anguishing equity investors, and leading analysts to predict that a legally-contested 2020 election would cause stock indices to contract by more than 10 percent. The potential for the election results to remain uncertain could persist either until the U.S. Electoral College delegates formally cast their votes on December 14th, or until January 6, 2021, when Congress meets to officially count the electoral votes. As evidenced by the recent market slump, U.S. stock indices are already contracting in anticipation of any combination of these possible events.
Protect your assets—and even profit!—as the stock market declines
With all this doom and gloom afflicting the stock market, how can you as an individual investor protect your assets? Or perhaps even gain as the market declines? While no strategy is foolproof to counteract a recessionary or bearish market, here are some possibilities:
- Convert to cash—Sell stocks to instead hold cash, thereby avoiding further losses. Holding cash is psychologically soothing for many nervous investors because cash does not dramatically lose value overnight. The downside to converting into cash is that your paper losses become actualized or real losses that are then “locked in.”
- Hedge your equity investments—Offset the losses of your equity holdings by employing one or more of these hedging strategies:
- Buy U.S. Treasury Bonds: The value of U.S. Treasury bonds almost always increases when the stock market declines, as bonds are considered safer than stocks and U.S. Treasuries are considered as the safest type of bond. Purchasing U.S. Treasury bonds during market downturns is a standard hedging strategy employed widely by professional financial advisors.
- Invest in gold: The value of gold is also inversely correlated with the performance of the U.S. equities markets. When the S&P 500 declined by almost 40 percent in 2008, gold’s value increased by 5.6 percent. You can invest in gold just like you would stocks and bonds—no need to start hoarding actual gold bars in your physical possession.
- Purchase inversely-correlated equities: Although the perfect hedge does not exist, purchasing the stocks of companies poised to benefit from the pandemic is a viable strategy to offset your other losses. Here are a few broad investment ideas to get you started—
- Medical supply manufacturers: Companies like 3M are manufacturing N95 medical masks and other medical supplies at a rapid pace, with increased production set to continue as the pandemic persists.
- Pharmaceutical companies: Major pharma companies, especially those involved in the race to develop a coronavirus vaccine, are maintaining strong outlooks.
- Online retailers: Online shopping has never been more popular, and companies like Amazon are reaping the benefits.
- Technology providers: Working from home is also becoming the new normal, and technology companies like Zoom are thriving as a result.
- Invest in money market funds—Although the upside is modest, investing in money market funds is another way to offset equity portfolio losses. When stock values decline, the returns on money market funds remain stable. Accounting for inflation, money market funds may deliver a real return of approximately zero—but in a market that is rapidly contracting, a zero percent real return is still vastly preferable to returns that are negative.
- Re-allocate funds from stocks into Bitcoin —The Bitcoin price is up over 80% YTD, while the S&P 500 is up less than 3%. The price has more than tripled from the March lows. Over the past month, Bitcoin has become less correlated to stocks and may act as a safe-haven and store of value in the event that the correction in equities continues. The chart below shows the performance of Bitcoin (blue line) versus the S&P 500 (red line) so far in 2020.
The deeply divided US Congress cannot agree on the specifics of another round of stimulus, even with our livelihoods and those of countless small businesses hanging in the balance. The coronavirus is staging a major resurgence, with case counts, hospitalizations, and deaths on the rise once again. The election next week might drag out for a while with uncertain results and both sides already crying foul.
With this high level of uncertainty, we believe it is wise to move to cash and reduce exposure until after the election. With stocks near record highs and new lockdowns being announced in Italy, Germany and parts of the United States, the pain could last throughout the winter months.
Fortunately, there are several strategies available to you to protect your holdings. If you would like to receive our research, view our model portfolios, and receive trade alerts whenever we are buying or selling, click here to get started right away.
Article written by Allie Grace