Economists See ‘1960s-Style Growth’ as Markets Tango With Stimulus Deal, Inflation

Progress on a $1.9 trillion stimulus package has markets hopeful, even as inflation concerns continue to build, pointing to a potential bubble.

(Image by mrc_evifile from Pixabay via Courthouse News)

MANHATTAN (CN) — Markets on Friday were unable to completely right themselves after a rout the day before, capping off a wild week in equity and bond markets.

Compounding its losses from Thursday, the Dow Jones Industrial Average fell 475 points, a 1.5% decline, while the S&P 500 lost just 0.4%. The Nasdaq, which has suffered the most this week due to its tech-heavy listings, managed to gain back some of its losses, gaining 0.5% by the closing bell.

As indices alternately popped and dropped, two words have dominated the conversation on Wall Street this week: stimulus and inflation.

On Friday, the House passed the Biden administration’s $1.9 trillion legislative proposal, which now heads to the Senate. Democrats, who also hold a majority in that chamber, hope it will make it through quickly and be on the president’s desk by mid-March.

Many on Wall Street are banking on the third relief package, having praised the continuing effects of the previous two bills, particularly the $900 billion package approved in December. 
“The second round of government money is doing its job,” wrote consultant Joel Naroff on Friday, noting stimulus checks from January had caused a “massive rise” in household income that helped prop up the economy. “Without the welfare being paid out, the economy would be limping along. Instead, we could see growth in excess of 4% both this quarter, and if the next stimulus round is as big as projected, for the entire year.”

Other experts, like Libby Cantrill and Tiffany Wilding at Pimco, are similarly bullish on the U.S. economy, saying the upgraded fiscal picture will lead to a return to “1960s-style growth” and at least 7% increase in gross domestic product.

Cantrill and Wilding predict a quick spike in inflation over the next few months but that core inflation will end the year around 1.5%.

However, the assured influx of more government dollars — including talk of $3 trillion in infrastructure spending to come — have some worried about inflation, which has in turn caused ripples through certain stocks. 

“Bond traders wasted little time pricing in a hyper-stimulated and inflated return to normalcy, triggering massive sectoral dispersion with technology stocks,” wrote Stephen Innes, chief global market strategist at AXI Trader. “Tech stocks are susceptible to rising yields because their value rests most heavily on future earnings, which get discounted more negatively when bond yields go up.”

While bond prices and stock prices are often at odds, bond yields typically expand when investors believe the economy is improving. But on Thursday markets were rattled as bond yields skyrocketed. The rout left the Dow down 561 points Thursday, while the S&P 500 and Nasdaq suffered some of their worst losses since last October.

Innes noted that bond yields moved through tech stocks “like a wrecking ball” as many traders are growing wary of the Federal Reserve’s approach to inflation. “Pressingly, as U.S. bond yields continue to march higher, this continues to suggest the heavily weighted tech sector could be on the cusp of a very unpleasant near-term valuation test,” he wrote.

Others worry that the spending out of Capitol Hill and the sanguine attitude at the Fed toward inflation could become disastrous.

“This brings back memories of previous bubbles where they let markets run too hot before reacting too late,” James Vogt at Tower Bridge Advisors wrote in an investor’s note. “Inflation is likely to be a short-term issue, but that won’t stop a valuation correction from happening.”

Conversely, earnings continue to be a source of pleasure for many investors. According to an analysis by John Butters at FactSet, 5% increase in bottom-up earnings per share estimates so far for this quarter is the second-highest increase since the research firm began tracking the metric in 2002.

Bottom-up EPS estimates take the aggregate of median EPS estimates for the quarter thus far for all companies in the S&P 500.

Last month, FactSet found similarly record-breaking news out of earnings in the S&P 500. For the fourth quarter of 2020, FactSet reported the largest batch of positive earnings on the S&P 500 since FactSet began tracking such data in 2006.

Earnings releases this week have largely been good for companies well-situated for lockdowns and relatively poor for those who have been unable to adapt. 

In its fourth quarter release, Lowe’s reported nearly a 29% year-over-year increase in same-store sales across the United States. Online sales skyrocketed 121% during that same period.

The home improvement company logged $978 million in net earnings last quarter despite investing more than $100 million in Covid-related measures for its hourly employees, compared with $509 million a year ago. 

Competitor Home Depot also once again saw its needle pointing up. The company reported a $2.9 billion profit during its fourth quarter, about $400 million higher than it reported in Q4 2019. Overall, for 2020 Home Depot saw its sales jump by nearly $22 billion across the board.

Hope for an economic recovery is waning for some businesses, though. Cruise company Royal Caribbean posted a $1.4 billion loss for its fourth quarter, bringing its total 2020 losses to $5.8 billion. “These results reflect the staggering impact that the pandemic brought to our company and the whole industry during 2020,” CFO Jason Liberty said in a statement.

All this depends, however, on the path of the Covid-19 pandemic. The vaccine rollout hit a road bump earlier this month due to weather conditions across the nation, and officials at the Centers for Disease Control and Prevention noted Friday that herd immunity for the virus is a long way off.

“We may be done with the virus, but clearly the virus is not done with us,” said CDC Director Rochelle Walensky warned during a Friday briefing. A leading agency epidemiologist, Adam MacNeil, noted during the briefing, that the United States is “nowhere close” to having herd immunity to the virus.

According to Johns Hopkins University, more than 113 million cases of Covid-19 have been reported worldwide, with more than 2.5 million deaths. In the United States, well over 28 million Americans have contracted the disease, while 509,000 have died.

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