Hope Over Experience

By Matthew Klein |  Friday, April 24 Reopening. Georgia was one of the last states to address the novel coronavirus, and now it has some of the worst outbreaks in the country. Nevertheless, the state government reopened gyms, nail salons, and barbershops on Friday. Movie theaters will be allowed to reopen next week. Despite the end of formal restrictions, the Wall Street Journal reports that few customers are showing up and that some business owners may voluntarily close again. Confidence triumphed over reality. Stock market investors can relate. Despite the relentless onslaught of bad news -- no reduction in America’s daily death toll, no progress in testing, and another brutal week of layoffs -- the trailing price/earnings ratio of the S&P 500 stock index is still over 20, with the large-cap index gaining 1.4% on Friday. The gains were broad-based, with all 11 subsectors up for the day, led by tech, consumer discretionary, and materials. Meanwhile, some analysts now think the entire U.S. corporate sector could fail to earn a single dollar of profit in the second quarter as mounting job losses strangle consumption and discourage business investment. The obvious explanation for the current market pricing is that stock market investors believe -- on average, anyway -- that the hit from Covid-19 will be severe, but temporary, and that the subsequent recovery will be swift. Whether that’s right or wrong, the massive gap between the grim reality of today and the hope for tomorrow is also mirrored in surveys of American households. The University of Michigan has been running a survey of consumer sentiment since the 1950s, with separate questions focused on people’s assessment of current conditions and their expectations for the future. I took a look at the latest numbers, which were released today, and found that the recent drop in sentiment can be explained almost entirely by revised opinions about what’s happening now, with relatively little change in opinion about what the future will hold. Thus, “the average American has the same opinion about the present that she had at the end of 2009 and the same opinion of the future that she had in the beginning of 2014.” Historically, gaps this large between expectations and current conditions are rare. Aside from one-month blips attributable to political news, the only precedents for today’s readings are the business cycle troughs of 1982 and 2009. Back then, sentiment identified turning points. If this is the bottom and good times are around the corner, both the market pricing and the sentiment data will be validated by events. If not, expect some sharp moves down in both the survey and in valuations. For what it's worth, the commodity, currency, and interest rate markets are telling a much less optimistic story.