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Egg on Your Face?

Precisely one year ago – on the 20th May 2019 to be more precise – the S&P 500 closed at 2,840.23 (Exhibit 1). Those were happy days. Few expected any dramas to unfold any time soon, and the biggest worry at the time was the so-called productivity conundrum – why productivity didn’t (and still doesn’t) grow any faster as new, supposedly productivity-enhancing, technologies continue to be rolled out. A luxury problem of sorts!

Exhibit 1: The S&P 500
Source: TradingView.com

Fast forward one year. The entire world is in disarray with the COVID-19 pandemic having a devastating impact globally. Precisely how bad it will be economically is still too early to say, but everybody agrees that it will be horrific. 2020 is shaping up to be only the second year since World War II with negative GDP growth globally.

Assuming the rest of the world won’t behave massively different when compared to the Chinese, the service economy won’t fire on all eight cylinders anywhere any time soon. People will go out less for quite a while, i.e. it will have an impact on retail sales, on restaurants, on airlines and on the travel industry in general. For an economy like the US economy, where consumer spending accounts for nearly 70% of GDP, the effect will be massive.

Now to my point. As at the close of last night (the 18th May 2020), the S&P 500 stood at 2,953.91, no less than 4% higher than at the same time last year. My sources tell me that institutional investors in the US have been net sellers of equities through the crisis, and so have foreign investors, i.e. the recent wave of buying can only come from US retail investors. The combined impact of falling earnings and rising equity markets have had the effect of driving P/E ratios in the US to new highs (Exhibit 2), and that is during the worst crisis since the Great Depression of the 1930s. Are they barking mad or am I? Only time can tell.

Exhibit 2: S&P 500 P/E ratio on forward earnings
Source: Wall Street Journal (The Daily Shot)
About the Author

Niels Clemen Jensen founded Absolute Return Partners in 2002 and is Chief Investment Officer. He has over 30 years of investment banking and investment management experience and is author of The Absolute Return Letter.

In 2018, Harriman House published The End of Indexing, Niels' first book.