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US stocks down in September. A minor correction or a trend reversal?

Fri, 09/25/2020 - 15:49

When the coronavirus crash hit in late March this year, it was certainly unexpected. But despite the extent and speed of the decline, we were almost taken more by surprise at how quickly stocks recovered afterwards. It really was an unprecedented reversal. And while many had predicted a V-shaped recovery, the sharpness and seemingly unstoppable momentum of the subsequent uptrend was something nobody saw coming back in April. Despite losing over 30% in less than a month, the great barometer of US equities – the S&P 500 – went from market bottom to a new all-time high in just 143 days.

It seems, however, that stocks may be running out of steam in September, with the tech and energy sectors leading the downside. In what was one of the worst days for the market in recent times (23/09/2020), the S&P 500 slipped more than 2% while the NASDAQ fell 3%. This brings the MTD losses for these two key indices to 9% and 5% respectively. While not quite as severely affected, the Dow Jones is also down 2.5% MTD. It may well be the case that stocks usually don’t fare particularly well during this month, but the current decline is starting to look like more than just a seasonal correction.

Although it is still unclear whether this is just a correction or a nascent downtrend, there are several factors at play that could explain the negative dynamic.

Big tech is hugely overvalued

Looking back over the recent rally, we see that tech stocks led the way. This was perfectly understandable as they were some of the only companies that were not only largely unaffected by lockdown and quarantine but actually benefitted from it to some degree. Given the nature of the US economy, every major index has a significant weighting of internet-based and other technology firms in their make-up, so when this sector rises, it drives up the entire value of the basket. But after huge gains over the summer, household names like Amazon, Apple, Netflix and Tesla are now returning to somewhere closer to their fair value, which is dragging down the indices. This is why the tech-focused NASDAQ has lost the most among all the major US indices.

No stimulus plan

It’s no secret that the US economy is heavily dependent on in-person services and general consumption, which is precisely why it was so severely hit by the pandemic-induced lockdown. With many services unperformable for some time, the people who would usually perform them had literally no income. Luckily, the country’s government stepped up and provided its citizens with generous benefit payments of $1,200 per adult (plus an additional $500 for every child). Without this intervention, the consumption of non-essential goods and services would have almost certainly ground to a halt. Fast forward to today and — while many businesses have restarted operations — there’s still an army of unemployed workers who need another stimulus check if they are to have any hope of maintaining their standard of living. Both parties want a deal but simply cannot agree on the size of the eventual package. Until there is one, the previous level of consumption won’t be able to continue, which means many stocks are overvalued.

US Presidential Election imminent

The race for the White House is heating up as 3 November edges ever closer. Regardless of who ultimately claims the victory, the uncertainty that comes with any presidential election is always liable to unsteady the markets. But with Biden looking the likelier of the two major candidates, the destabilising effect is even greater. The Democrat frontrunner has repeatedly stated his intention to raise the corporate tax rate from 21% to 28%. That really couldn’t come at a worse time for Wall Street. After battling the coronavirus crisis to post better-than-expected earnings, many US companies are now facing the prospect of having their hard work undone. The historical data suggest that this volatility will subside a short time after election results are in. However, if we do see a Biden White House, the downtrend could be prolonged.

Get your piece of the action with Libertex

Whether you believe that this is just a minor bump in the long road to recovery or the start of a genuine trend reversal, you can always test your theories with Libertex. This is because we offer both long and short positions on a wide range of indices, including the S&P 500, NASDAQ and Dow Jones. That means we can help you invest your money whichever way you think these key indices are headed.