The unemployment rate is expected to continue to drop as the economy recovers. However, only the Great Financial Crisis and the recession of the early 1980s have provided unemployment rates higher than 7.9% in the last 40 years. As temporary layoffs from the spring turn into permanent layoffs, recovery in the labor market is forecast to be steady but slow. Evercore ISI forecast the unemployment rate at the end of 2021 to be 6.0%, which is near the levels of unemployment at the height of the tech bust and the early-1970s oil embargo.
In our previous report, we stated “that it is important to remember what the stock market is, and what it is not. It is not a gauge for the well-being of U.S. citizens.” We emphasized this point as many have had difficulty reconciling the stock market’s strong rebound during a period of shocking unemployment and economic difficulties caused by the terrible devastation of the COVID-19 virus. Small businesses, which tend to be more focused on direct customer interaction and have less financial cushion, have suffered disproportionally relative to larger companies with publicly traded stocks. As such, the stock market is dispassionately reflecting the relatively stronger current position of larger companies as well as the potential for future market share gains as many small businesses disappear. One does not have to like this signal, but markets are cold and calculating machines. Larger companies are likely to enjoy even stronger market positions the longer it takes to develop and distribute a reliable vaccine.
The massive amount of governmental stimulus is having an impact on the securities markets as interest rates have been reduced to historically low levels. This has resulted in an enormous increase in money supply, which can affect asset prices. However, it is difficult to ascertain the degree that asset prices have been increased from the amount of stimulus alone. Further stimulus could be on the way in the form of a new economic theory known as Modern Monetary Theory (MMT), which is based on the premise that a country in control of its currency can operate with high budget deficits financed by heavy debt issuance. In short, the theory is based upon the idea that a country issuing debt in its own currency can never run out of the money necessary to service the debt. According to MMT adherents, government spending can increase up to the limits of full employment which will be signaled by an increase in inflation. At that point, spending could be decreased and/or taxes increased to slow the economy and create enough slack to reduce inflationary pressures.
Even if one believes the government will be responsive to inflationary trends and make the tough political choices to reduce spending and/or raise taxes, MMT is based upon continued demand for the currency in question. For decades, the United States dollar has enjoyed an “exorbitant privilege” as the international reserve currency, which allows for the importation of goods and services along with debt issuance, in dollar terms. If the U.S. dollar’s reserve status weakens, foreign goods could cost more, and debt issuance may become increasingly difficult. Loss of such reserve status would harm the economy deeply. We are not MMT adherents, but rather are trying to gauge the likelihood that such policies could be implemented and the likely subsequent impact to financial assets
We remain humble given the number of unknowns. We continue to spend significant time and resources researching historical data and relationships to help develop an improved investment posture. Nonetheless, the confluence of the evolution of the virus, the election season, horrifying fires, and a seemingly never-ending list of calamities and misfortunes have made the current environment very difficult. We are not ashamed to admit it and shake our heads at those offering confident, if not brash, projections with accompanying recommendations promoting risky portfolio positioning.