Stocks' Biggest Drop Since March

By Nicholas Jasinski |  Thursday, June 11

Correction. Stocks had their steepest decline in months today. The Dow Jones Industrial Average closed down 1,862 points, or 6.9%, for the third-straight down day of more than 1% for the index. The S&P 500 dropped 5.9%—also its third consecutive decline and its biggest drop since March. The Nasdaq Composite fell 5.3% from a record high set on Wednesday. And the Russell 2000 index closed down 7.6% after losing 4.5% over the previous two days.

Investors seemed to be grappling with heightened risks to the economic recovery—the market's driving force over recent weeks. The data show that coronavirus cases are rising in more U.S. states and other countries. Federal Reserve Chairman Jerome Powell emphasized the long, slow path back to previous levels of employment and economic activity yesterday afternoon. And another fiscal stimulus or support bill from Washington may be much smaller than some had previously assumed.

That doesn't mean that a dreaded second wave of the virus is here or that new economically destructive stay-at-home orders are imminent across the U.S. Reopening progress and resumption of economic activity continues to accelerate. And the fact that the economy might not need as much fiscal support should be a good sign.

None of the news was particularly new information for investors either. But coming after a more than 40% rise since late March and with stocks at pricey valuations, the market may have been due for a pullback anyway, and the recent days' reminders presented the catalyst.

And the violence of today's move was likely exacerbated by the speed of the rally that preceded it. With the S&P 500 flat on the year and the Nasdaq setting all-time highs earlier this week, the market’s outlook was decidedly rosy. Wall Street simply priced in greater odds of negative scenarios today, likely better reflecting the reality on main street. 

The factors that boosted the market in recent weeks are still almost entirely in place: a flood of liquidity and low interest rates from the Fed, sequentially positive incoming economic data, and consumers and corporations adjusting to life and business in a coronavirus world. They continue to point to improving corporate earnings and justify high valuation multiples.

The Covid-19 case data, however, will be particularly important in the coming weeks. How the numbers respond to the reopenings under way in all 50 states was always going to be a key driver of the market's direction. The early returns are far from disastrous, but less than perfect, and stocks just moved to reflect that.

If second-wave fears are realized and the economic recovery is significantly set back, then many stocks are likely still too expensive. But if rising cases level off, the drop today could just as easily become a chance to buy the dip for investors who missed some of the blistering rally since late March.

In the meantime, uncertainty could weigh on valuations. Expect trading to remain choppy until the longer-term trend becomes clear.