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Anybody’s Guess

Dennis Friedman  |  May 5, 2020

IT’S OFTEN DIFFICULT to fathom what causes the stock market to rise or fall. The market doesn’t always reflect how the economy is currently performing—and sometimes the disconnect can seem huge.

This sentiment was captured in a recent MarketWatch headline: “‘The world is more screwed up’ than the stock market is currently reflecting, warns billionaire investor.” The article was reporting on comments made by Oaktree Capital founder Howard Marks, who told CNBC, “We’re only down 15% from the all-time high of Feb. 19… it seems to me the world is more than 15% screwed up.”

Yes, the stock market has indeed performed remarkably well in the face of terrible news. We’ve seen huge unemployment claims in recent weeks. Some 70,000 Americans have lost their lives to the coronavirus. The director of the Centers for Disease Control has warned that a second wave of coronavirus infections later this year may be even more devastating.

Given all that, why isn’t the stock market down even more? Here are five reasons for the disconnect—and what it means for your portfolio:

1. Investors look forward, buying and selling stocks today based on expected future earnings. In other words, share prices are predicated on what the economy will look like in the future, not what it looks like today. Investors are anticipating the economic recovery, rather than focusing on today’s terrible economic numbers.

Takeaway: Don’t buy stocks based on what’s reported in the news today. That news is usually already fully reflected in current share prices.

2. The market likes certainty. As some of the uncertainty about the coronavirus and the economy has been addressed, share prices have climbed. We’ve seen a flattening of the curve for new coronavirus cases in some foreign countries, as well as in parts of the U.S. Projected U.S. fatalities, which had been as high as 240,000, could be more than 100,000 lower, though the range of possible outcomes is wide, according to the University of Washington’s Institute for Health Metrics and Evaluation.

Takeaway: Investors will always confront some degree of uncertainty. The best way for investors to cope with that uncertainty is to own a well-diversified portfolio that includes both stocks and bonds.

3. Individual investors may get emotional, but the stock market doesn’t. According to business columnist Michael Hiltzik, “The point is that the stock market doesn’t care about your feelings. Nor should it. Individual investors are often guided by emotion, but the stock market is structured to neutralize the emotions of individual investors.” You and I might be scared by the high numbers reported for fatalities and unemployment claims, but those numbers only affect the overall market to the extent that they tell us something about future corporate earnings.

Takeaway: Want to keep your emotions in check? Dollar-cost averaging and diversification can help you stay the course in both bull and bear markets.

4. The stock market often sees bad news as good news. For instance, investors saw high unemployment numbers as a sign that the Federal Reserve and Congress would provide more stimulus money for the economy—and that, in turn, would boost future corporate profitability.

Takeaway: It’s best not to buy or sell stocks based on the latest news. Your interpretation of that news might be different from how the overall stock market views it.

5. The market is unpredictable. It’s nearly impossible to forecast the stock market’s short-term performance. For proof, look no further than recent returns. The S&P 500 fell 34% from Feb. 19 through March 23, only to rally 27% since then.

Takeaway: Since we can’t predict what will happen in the short term, we should take a long-term approach to investing. According to Hartford Funds, “Markets are positive a majority of the time. Of the last 91 years of market history, bear markets have comprised only about 20.5 of those years. Put another way, stocks have been on the rise 77% of the time.”

Dennis Friedman retired from Boeing Satellite Systems after a 30-year career in manufacturing. Born in Ohio, Dennis is a California transplant with a bachelor’s degree in history and an MBA. A self-described “humble investor,” he likes reading historical novels and about personal finance. His previous articles include Don’t Count on MeDon’t Go It Alone and Lost and Found. Follow Dennis on Twitter @DMFrie.

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