Euphoria Now. But Three Fiscal Cliffs Loom Large

Score one for those who suggested risk assets were poised to rebound more quickly than most market participants thought possible considering the myriad calamitous outcomes triggered by coronavirus lockdowns across global economies.

It’s somewhat odd to observe the reactions from some commentators on social media and financial television. It’s one thing to suggest that equities are disconnected from economic reality (although that would hardly be a new development) and/or to posit another swoon in risk assets on a possible second and third wave of the virus (see Morgan Stanley’s projections in the figure).

It’s another to act disappointed that the selloff wasn’t deeper or more sustained.

(Morgan Stanley)

It is not generally a good thing for millions of people to lose their jobs, nor is it a positive development when the value of the equity market (no matter how inflated it may have been on some metrics) takes a 30% hit in the space of a couple of weeks. There was nothing “healthy” about this particular correction, nor was there any “silver lining” in the depression-like data that accompanied the lockdown protocols.

None of this is to suggest you should channel you inner Larry Kudlow (who had a lot to say on Tuesday, incidentally) or otherwise bet the house on a “V-shaped” recovery. It’s just to say that the faster people get their jobs back, the better, and if what you want is for valuations to “make more sense”, you should note that a crash in equity prices isn’t the only way to get there – a recovery in corporate profits will help P/E ratios normalize too.

In any event, Tuesday’s good vibes were obviously accelerated by a surprise rise in new home sales, which ticked up to a 623,000 pace from March, defying expectations for a drop to a 480,000 rate.

Amusingly, that pushed the biggest homebuilder ETF to the highest since March 6, which, depending on how you date the COVID crisis, means it’s all but recovered.

Consider that after plunging to a seven-year nadir late in March, the product has doubled the S&P’s bounce off the lows, surging a ridiculous 69%.

Through it all, it’s important not to forget to what we owe the rebound. It’s true that the latest gains come courtesy of reopening optimism, but the majority of the bounce off the panic levels comes courtesy of policy support, both fiscal and monetary.

The latter (i.e., the Fed) isn’t going anywhere, but as JPMorgan points out, we’re staring down a trio of “fiscal cliffs” over the coming months.

“For one, the Federal Pandemic Unemployment Compensation that adds an extra $600/week to regular unemployment benefit payments is set to expire on July 31”, the bank’s Michael Feroli writes, noting that on his estimates, the FPUC program as it currently stands “will add about $400 billion to personal income”.

But that’s not all. Consider the following from Feroli:

Second, PPP loans expire eight weeks after their disbursements. With the first round of payments made in mid-April and the second round in the first half of May, small businesses funding their payroll with these loans could come under renewed stress in June and early July. We don’t know exactly how many jobs are being retained by PPP funding, but we think the total easily could be in the millions.

A delayed tax deadline on July 15 also looms on the horizon.

The read through is that if Congress doesn’t move quickly to pass another aid package, things could get dicey in the dog days of summer, even as the economy gets back on its feet.

“These factors could add turmoil to the economy at a time when we think activity will be starting to pick up due to the easing of social distancing restrictions”, JPMorgan’s economists go on to write, adding that although “partisanship appears to be back in style in Washington, we think policymakers will eventually agree to some form of added stimulus ahead of these summer ‘deadlines'”.

Fingers crossed. Remember, as strange as it seems, the trillions in relief passed thus far is not properly “stimulus” given that, until very recently, there was nothing to “stimulate” – the economy was in an induced coma.

Feroli says that while “the exact outcome is highly uncertain, we look for $1.5 trillion of added stimulus to be passed”.

Of course, that will mean convincing Mitch McConnell. I’ll just leave that there.