STOCKS COULD PLUNGE 50% IF WE HAVE A POWERFUL SECOND WAVE OF COVID-19 / MONEY TRENDS

Stocks Could Plunge 50% If We Have a Powerful Second Wave of COVID-19

By Andy Krieger, Editor, Money Trends



The stock market continues to amaze.

Despite a 34% sell-off this year, the S&P 500 is now almost back to where it was last fall.

But consider the dramatic differences between the economic conditions last year and today.

Our economy was growing fast last year. And unemployment was at just 3.5% – a 50-year low.

Now our economy is suffering from the worst downturn in almost 90 years.

Unemployment levels are above 20%, with 40 million people out of jobs. This year’s second-quarter GDP will show a collapse of nearly 40%. Interest rates have been lowered effectively to zero.

Meanwhile, the Federal Reserve has ballooned its balance sheet by $2.5 trillion… and the Treasury has increased its debt by $3 trillion!

These are staggering numbers. The fact that the stock market is anywhere within shouting distance of last year’s levels is mind-boggling.

In fact, as I explain below, I believe we’re in for a 30%-50% sell-off.

But first, we must answer the question: If things are so bad, why are people buying stocks with such abandon?

Bizarre Economic Follies

You may say the market’s performance is driven by gains in the FAANG stocks – Facebook, Amazon, Apple, Netflix, and Google’s parent, Alphabet. But that’s too simplistic.

The FAANGs comprise 17.5% of the total index value. So that still doesn’t explain the overall performance of the market, which flies in the face of logic and sound fundamental analysis.

It used to be that price-to-earnings (P/E) ratios – which measure how much investors are paying for each dollar of a company’s earnings – meant something. The P/E ratios today are flat-out whacky.

Will they ever mean something again? Absolutely.

But as I’ve learned through more than three decades of experience, the true beauty of markets is that they are driven by people. And people have the amazing ability to suspend disbelief… and ignore the warning signs.

People have been swept away in bizarre economic follies and manias for hundreds of years. The dot-com bubble in the U.S. that burst in March 2000 is a great example.

I remember trading stocks during that period. I was astonished by how foolish people were for assigning such crazy values to certain stocks… just because they sounded like something technological and showed a vague promise of future revenues.

Forget profits. They were irrelevant. P/E ratios were also deemed no longer relevant… until they were, and the Nasdaq collapsed. Prices fell by over 83%, and the market didn’t make a new high until August of 2016 – almost two decades later!

I figured that one day the market would wake up and come to its senses. So I only played it from the short side once it finally broke.

Warren Buffett, meanwhile, was heavily criticized for missing out on the Nasdaq boom.

Analysts said he was too old to understand tech stocks, that he was out of touch, and that he was not worth paying attention to any longer.

Well, that same “out of touch” investment genius has liquidated stocks during the current folly and gone even more heavily to cash. Yup, he is waiting for stocks to become attractive again at sensible valuations.

Please note he was a heavy buyer of stocks right after the stock market sell-off in 2008 and 2009. He is not afraid to buy when other people are afraid. He just needs to have a good reason to do so.

He doesn’t have that reason today, and he didn’t have that reason two months ago. That should tell you something.

Vicious Sell-Off Ahead

At this point, you may be wondering: Are we staring at another bubble today, just like the dot-com bubble of the 1990s?

Yes. But while the current irrationality is extreme, that doesn’t mean it can’t persist for a while longer.

It does mean, however, that one day the markets will find a more reasonable valuation.

Reaching that level of valuation will almost certainly lead to great pain for many.

There is a limit to the number of times the U.S. Treasury can issue an extra $3 trillion worth of bonds… which our central bank will dutifully purchase, even though the bonds are paying almost no interest.

Once we hit that limit, interest rates will start rising so fast, you will get whiplash as you watch the yield shooting up. That is the ultimate doomsday scenario, and I pray we can avoid it.

But what about an imminent drop in the stock markets? Am I forecasting that? Not necessarily. The reason is that, as I said, this insanity can persist for a while.

If scientists can miraculously produce an effective COVID-19 vaccine in massive quantities that gets distributed quickly to a large chunk of the global population… we might even have a V-shaped recovery.

The world could go on a wild spending and investment binge, hiring tens of millions of workers and setting in motion a breathtaking economic recovery.

In such a scenario, the stock market’s hyper-optimism could prove to be justified. However, I give this outcome about a 0.1% probability.

More likely, it will take 12-18 months to produce and distribute an effective vaccine. In that scenario, the current stock market valuations will prove unsustainable.

And if we get a nasty second wave of COVID-19 – let alone a third wave – stocks would likely be headed for a 30% to 50% drop from current levels.

That stock market sell-off will be fast and furious. But for traders, it could be the opportunity of a lifetime.