Declining Confidence

By Matthew Klein |  Friday, July 17

From V to W. There wasn’t much economic, financial, or even virus-related news today, which helps explain why U.S. markets were essentially flat on the day. Oil, gold, Treasury yields, and the major equity indices barely budged. The S&P 500 index ticked up slightly, with 292 components rising and 208 falling, while the Dow Jones Industrial Average fell slightly, with 17 stocks falling to 13 rising.

This may seem perplexing given the recent run of positive surprises to economic data, most notably in retail spending. But investors are taking the good news with a hefty grain of salt. After all, the positive numbers may have been published this week, but the underlying data describes the world of mid-June. That was when new infections, hospitalizations, and the positivity rate of new tests were all far lower than now.

Since then, the viral outbreak has gotten far worse, and the high-frequency data on everything from restaurant reservations to gasoline demand has either flat-lined or gone negative. Tellingly, the stocks that did the worst today include regional banks, American Airlines and MGM Resorts, which are all particularly sensitive to a worsening virus outlook.

IHS Markit wrote that “impressive gains in several measures of spending and production over the final two months of the second quarter will be followed by softer figures in July” and warned that “the risk of a ‘W-shaped’ recovery, where the initial sharp upturn would be followed by another decline before a second and (hopefully) more lasting recovery takes hold, has become an increasingly plausible alternative to our base forecast.”

Regular Americans agree. According to the preliminary estimates of July sentiment from the University of Michigan’s Survey of Consumers, expectations for the future dropped sharply even as estimates of current conditions held relatively steady. The shift was particularly stark among self-identified political independents, who reported being less confident about the future than at any time since early 2012. Republicans also marked down their expectations sharply after a big rebound in June from the lows in May. (Democrats have been consistently dour ever since the viral outbreak hit in April.)

The real danger is that the weak fundamentals are compounded by the premature withdrawal of income support by the federal government. As I wrote a few weeks ago, Americans are rapidly approaching the edge of an “income cliff.” Unless something is done within the next week, the economy could end up getting a lot worse before it starts getting better.

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