If you’re here for the GameStop drama, we’ll get there. But first...
After the economy shrank 32.9% last year, few people thought a record-breaking stock market rally would come next. But that’s exactly what happened. And by midnight on December 31, the three major US indexes had notched over 100 record closes for the year. Then last week happened, and those same indexes each fell over 3%, wiping out the year’s marginal gains and posting their worst week since October. Now every investor wants to know if the dip is routine turbulence or the first clue that a larger crash is coming. To help you make sense of it all, we’re breaking down the main talking points from both sides of the aisle.
Reasons to feel assured…
They aren’t called stock futures for nothing
Scenes of empty supermarket shelves might haunt us forever, but stocks aren’t stuck in the past. Their prices reflect investors’ expectations of how companies will perform in the future, and the high prices we’re seeing today could simply be based on traders anticipating an economic recovery in 2021 as we inch closer to herd immunity. Even if we do see some pullbacks along the way, investors are betting Covid-19 has done its worst and any future drops are already priced into share costs.
2020 wasn’t bad for every company
Peloton and Zoom were the most buzzed-about winners of the stay-at-home economy, but plenty of other, larger companies came out ahead, too. Amazon gained 76% for the year and Apple became the first $2 trillion company, ever. Facebook, PayPal, and Nvidia were other pandemic winners, while Tesla was in a class of its own, surging 743% and earning its spot in the S&P 500. These companies' high valuations means they play a major role in how large stock indexes perform overall, and their gains helped the S&P 500 pop 16% for the year, climbing up 65% from March lows. Meanwhile the tech-heavy Nasdaq popped 44% in 2020.
Recovery stocks could bring more gains
While major stock indexes are breaking records, some single stocks have a long way to go before they recover to pre-pandemic prices. Companies like Carnival, Boeing, and United Airlines were among the hardest hit when travel ground to a halt in March. All are trading for a half to a third less than they were nearly a year ago, but a future return to normalcy could quickly change that.
Reasons to worry...
Over 10 million Americans are still unemployed
It’s difficult to gauge the direct effect of unemployment on the stock market, but when unemployment is high, consumers have less buying power, which can cause corporate earnings to drop, and stock prices to follow close behind. Capeesh? Even when the economy does reopen, don’t expect all the jobs that have been lost to return automatically. Millions of jobs lost in 2020 may be gone forever, partly as a result of the shift to permanent WFH in some sectors.
Fear and volatility indexes are spiking
No one can predict the stock market, but a few indexes try to do just that. The VIX spikes when it sees a volatile month ahead. It hit its peak in March 2020 and spiked in tandem with the dot com bubble and 2008 housing market crashes. But a VIX spike doesn’t always mean stock prices will tank. Its last surge came just before the November election, and stocks soared in the wake of Biden’s win. Another number worth noting is 79: as in the number of companies whose prices have hit “ludicrous” levels, according to the Bespoke Investment Group. To fit the bill, companies must be worth at least $500 million, have a price-to-sales ratio greater than 10, and have a share price that’s doubled in the past three months. To put that number into perspective, at the height of the dot com craze in 2000, Bespoke counted 120 companies as ludicrous.
The rally rests on a shaky foundation
The recent stocks rally may be shored up in part by the Fed, the promise of stimulus, and since November, the vaccine rollout. Some say the Fed’s ongoing purchases of Treasury bonds and mortgages to the tune of $120 billion a month has artificially inflated share prices above their worth. And two months into a shaky vaccine rollout, it’s clear we have a long way to go before states can fully reopen. Meanwhile, the Dem-controlled federal government has yet to pass the stimulus package some investors are counting on. And we can’t overlook that 2020 was a huge year for IPOs, especially in tech. The rush of IPOs earning sky-high valuations despite meager earnings has some investors seeing dot-com déjà vu.
Now, to address the elephant, er — bull, in the room
Wall Street scrambled when GameStop shares skyrocketed 400% last week. ICYMI, amateur /wallstreetbets Reddit investors bought up stocks to thwart short-sellers’ plan of profiting off of GameStop’s demise. The coordinated charge has so far cost major hedge funds billions and led some investing apps to halt purchases of GameStop (GME) stocks on Thursday.
The criticism was swift, contending the apps were violating their marketing mythos of democratization — that is, allowing traders from all experiences and backgrounds to participate in the industry — in favor of Wall Street behemoths. Robinhood quickly reversed course, allowing “limited buys” of GME by Friday, which sent share prices roaring back to $325. And while some of these Redditors may be looking at a reasonably quick cash day, for the average investor, experts say mutual funds are probably the better (much less risky) bet. The popular S&P 500 for example, has returned steady annualized returns of 13.6% for the past decade.