What Does a Post Debt Crisis Equity Market Look Like?

The fundamental arguments against a still firm equity market over recent months are now more widely accepted.

When we were first forecasting a significant economic downturn for this period, in the midst of the post-Covid boom, few believed us and many dismissed our view out of hand. Now that we are here, both in the USA and Australia, stock markets have remained surprisingly strong. Even as sentiment became far more balanced, even bearish, from the previous euphoria of the industry. This was a truly major shift.

Yet despite far wider acceptance of the bearish, in some ways dire state of the US economy, a slowing global economy and China recovering but not spectacularly, stock markets have still remained firm and rallied strongly at times. The growing perception is that the rally from last year’s lows has been really about excess liquidity than anything to do with the actual fundamentals of the situation.

US equity markets are still down from their post-Covid highs, property prices are in decline, there is an on-going perhaps building in the background banking crisis, manufacturing is in recession, GDP more than halved in the latest quarterly data, and credit conditions are now tightening alongside a continuing tightening bias by the Federal Reserve. All in the context of continuing and very persistent extreme inflation. Which has become more widespread and entrenched. Particularly in the services sector. A wages/prices spiral may already be underway. Inflation expectations and core inflation data remain alarming to the nation’s central bank.

In what perception do these facts make for a bullish equity market outcome?

Only the wash of money that continues to circle the globe from the Covid crisis spending is likely still supporting these market levels. So much money is still looking for a home, that any upward momentum in any market is quickly joined.

It may also be the case that the simple fact of this extreme US government spending level, actually continuing to rise from the already elevated post-Covid levels, is simply generating too much cash in the economy for it to be able to be dealt with in normal productive ways. This excess has to find a home, and it has been doing so for the moment in the stock market.

If, as suspected, this is a liquidity rally rather than a truly fundamental trend, then all the while the elastic band between the reality of the US/global economy is being stretched further from the true fundamental situation.

Either the elastic band will snap from the weight of money and the market will run free, or we get a recoil of the stock market to the more pervasive reality of what is happening on Main Street.

In the first instance, this could happen in representation of a new world break between the rich and the rest. We all know the wealth gap has accelerated to obscene levels. Could it become a permanent historic break, splitting America in two, where companies and large brands can continue to do well merely by catering to the rich?

The second alternative is that regardless of wealth gap shifts, corporate earnings simply cannot be maintained in a declining economy in a way that would support ever higher stock valuations. In this scenario, the US stock market could be close to the beginning of a rather nasty convulsive decline?

Something has to break here, in a very big picture sense.

Either the stock market splits form broader Main Street realities, perhaps permanently, or it is about to fall with a crash back to earth.

Clifford BennettACY Securities Chief Economist

The view expressed within this document are solely that of Clifford Bennett’s and do not represent the views of ACY Securities.

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