The shockingly smooth ride on Wall Street is suddenly bumpy again.
Coronavirus fears are back, bringing an unwelcome return of the turbulence that rocked financial markets in March.
The Dow plunged 6.9% Thursday, managed a shaky rebound on Friday and promptly sold off again Monday as it briefly tumbled below 25,000 – before rapidly recovering once again.
Investors’ nerves make sense. The 44% spike in the S&P 500 since March 23 was overdone. The pandemic isn’t over. Nor is the economic pain from the crisis. And the recovery faces real challenges – including a potential second wave of infections – that weren’t being priced in.
The VIX (VIX) volatility index has nearly doubled in the past week to levels unseen since late April. And the CNN Business Fear & Greed Index of market sentiment has flipped out of “greed” territory.
But the return of volatility is also a signal from Wall Street to Washington that its work to rescue the American economy isn’t nearly done.
“Markets are starting to believe more fiscal stimulus is needed, and soon,” Nicholas Colas, co-founder of DataTrek Research, wrote in a note to clients Monday.
‘Warning sign’ from Wall Street
Although wild swings may seem commonplace lately, last week’s market mayhem was historic.
The S&P 500’s 5.9% plunge on June 11 was just the 27th time the index has ever dropped by 5% or more.
Five of those mega-selloffs have occurred since March, making the coronavirus crisis the second largest driver of US market volatility ever, according to Colas. It’s now ahead of the Black Monday crash of 1987, the late 1990s emerging market crises and the bursting of the dotcom bubble in 2000.
“When +5% days cluster around an event (Financial Crisis, now Covid), they are invariably a warning sign that government policy is lagging economic reality,” Colas wrote.
Not only are “investors coming to grips with how slowly the American economy is recovering,” Colas said, they are also warning policymakers that more stimulus is needed “to tide consumers and small businesses over for another few months at least.”
In other words, the surprisingly strong May jobs report doesn’t mean the economy is out of the woods yet.
Goldman Sachs economists wrote in a report Sunday that upcoming events will “increase political pressure” on lawmakers to take further action by the end of the summer. Failure to do so, the report warned, could have negative consequences for the recovery.
The economists see Congress enacting additional fiscal stimulus in four key areas:
- More targeted small business relief
- Enhanced unemployment benefits
- Additional stimulus checks to consumers
- $250 billion of aid to states
All together, Goldman Sachs expects an additional $1.5 trillion of fiscal stimulus.
The unemployment benefits debate
The biggest risk surrounds unemployment benefits. The extra $600 per week of jobless benefits approved by Congress in March expires at the end of July.
White House economic adviser Larry Kudlow told CNN’s Jake Tapper on Sunday that the extra $600 of unemployment checks “may well stop” because they are a “disincentive” for Americans to return to work.
But they’re also padding Americans’ wallets at a time of mass unemployment. Goldman Sachs estimates that the extra benefit will boost disposable personal income by 3.4% in the second quarter.
The $600 unemployment benefits, coupled with the previously booming stock market, may also be bolstering consumer confidence.
The extra cash has “shielded millions of people from the financial consequences of unemployment,” Ian Shepherdson, chief economist at Pantheon Macroeconomics, wrote in a note to clients on Monday. Stopping them “would trigger a financial hard landing for everyone who has not been called back to work.”
Goldman Sachs said it will be “politically challenging” to let the payment expire completely. The Wall Street investment bank predicted there will be a compromise to lower the payments to $300 weekly through the end of the year.
More stimulus checks on the way?
Treasury Secretary Steven Mnuchin has confirmed the administration is “very seriously considering” another round of stimulus checks to Americans.
Goldman Sachs said that the first round appears to have “materially boosted consumption” in late April and May – before many US states reopened.
Failure to send out more checks would “put downward pressure” on consumer spending, the report said.
The pandemic has already crushed state and local budgets through lower tax revenue, forcing them to cut costs. While Congress already provided $275 billion in aid to states, more will be needed: Government payrolls already plunged by 585,000 jobs in May alone.
“Without an infusion of federal funds they are likely to cut spending and employment more substantially,” Goldman Sachs economists wrote.
More help from the Fed?
The Federal Reserve has already taken unprecedented steps to revive the economy and fix broken financial markets. Beyond slashing rates to zero, the Fed has promised to buy an unlimited amount of bonds and unveiled a series of emergency credit facilities.
The central bank launched on Monday a Main Street lending program that aims to encourage banks to lend to struggling small and medium-sized businesses. The goal is to limit bankruptcies following a string of major filings in recent weeks by JCPenney (JCP), Hertz (HTZ), J.Crew and 24 Hour Fitness.
The Fed is also for the first time experimenting with junk bonds. The Fed announced Tuesday that it will begin scooping up corporate debt, including risky junk bonds. The central bank’s Secondary Market Corporate Credit Facility already began buying corporate debt ETFs last month.
Yet the Fed has said it’s prepared to take further steps, if necessary. It can’t cut interest rates any further without going negative – an experiment Fed officials have signaled they’d like to avoid.
But the Fed has acknowledged it’s considering yield curve control, a tool that aims to stimulate the economy and soothe financial markets by keeping borrowing costs ultra-cheap. The Fed would promise to buy enough long-term bonds to keep rates from rising above a given level.
Of course, further stimulus from Congress and the Fed won’t stop the pandemic. But it can prevent market panics, boost confidence and limit the risk of permanent damage to the economy.