Adams Financial Concepts,  COVID-19,  Current Events,  The Investment Industry

Why the Market Drop?

You’ve heard the expression “The market is telling us … [fill in the blank]”. The reality is that the market cannot talk, cannot do a ZOOM meeting, cannot send us an email. It is not the market talking, it is the investors – human investors and  computer algorithms. To understand why this market drop I believe it begins with the process.

When you buy a stock, you buy it with the expectation that it will rise in value. When you sell short a stock, you sell with the expectation the stock price will sink.

Financial companies and institutions hire analysts whose job is to forecast future revenues and income. They attempt to look forward one or two or more years. Their forecasts often change. As my favorite philosopher, Yogi Berry, former New York Yankees catcher said, ”It’s tough to make predictions, especially about the future.”  Nevertheless, the analysts make their forecasts and that becomes the research investors and even computer algorithms rely upon.

Beginning in June, analysts, investors, and computer algorithms began to prepare for a Biden victory. While there was concern about taxes and spending increasing, there was an offset. A Biden victory might mean an end to tariffs and better trade relations. A Biden victory would be more positive to companies in alternative energy, healthcare, and infrastructure. A Biden victory would hurt fossil fuel companies, defense companies, big banks, and brokerage firms.

Looking at the market, indeed it was those stocks (the “Blue Stocks”) that would benefit from a Biden victory that began to do better and the stocks that would be hurt (the “Red Stocks”) seemed to stagnate or decline.

What changed last week was the outlook for COVID-19. If there were to be a Biden victory, investors began to realize, he would implement a national mask mandate and likely delay the vaccine in order to undergo further testing. If President Trump is re-elected the response to the COVID-19 pandemic also seemed to change this past week.

First there is the question of the vaccine: the Trump administration has been pushing forward with their “Warp Speed” program to develop and begin administering a vaccine as quickly as possible.

The standard process for developing a vaccine is a multi-year process. Once a company determines a vaccine candidate may work, having given it in animal models, a three-phase test is launched in humans. Phase I is a small group of people given a dose to evaluate if the vaccine candidate is safe. Phase II is larger and researchers test different dose sizes. Phase III is the final double-blind study in which the vaccine is tested against a placebo. In the case of COVID-19, the Phase III trial for each vaccine is 30,000 people split into two groups. 15,000 will receive the candidate vaccine and 15,000 the placebo. Then the groups will be followed and compared as to how well the candidate vaccine works.

That’s the background of the vaccine trials. What happened this past week was this: the Biden team said they would listen to the scientists as to whether the vaccine was effective. Investors realized the timeline for a vaccine could stretch well into 2021. That could have a significant negative impact on company revenues and profits.

On the other hand, the Trump administration seems to have done two things that are possibly very negative. First, Dr. Scott Atlas was added to the Coronavirus Team. Atlas is a radiologist, not a virologist or infectious disease expert. Atlas has been arguing for what seems to be allowing “herd immunity”. In other words, letting the virus spread and let the survival of the fittest govern. This week, estimates were made that herd immunity would result in as many as 2 million Americans dying from COVID-19. This has not been well received by the market.

The second is concern over the timetable and requirements for the vaccine that would be administered. In 1955, a polio vaccine was developed by Cutter Labs and given to 200,000 children. It was not properly vetted and proved defective. 40,000 children were infected with polio by the vaccine and 400 were paralyzed.

The vaccine candidates are being given mostly to younger, healthier participants and the end point is 50% effectiveness. The evaluation period to determine that is very short. There are considerable concerns that a vaccine will be released and given without enough evaluation by scientists.

All of that happened this past week. The rosy outlook for the market in 2021 turned cloudy. While it looks cloudy, it does not look like a market hurricane. Regardless of all the above, the number of unemployed, while still dreadfully high, is shrinking each month and will probably continue to do so. There are companies doing very well in the COVID environment and are increasing revenues and profits. That will probably continue regardless of the situation described above. 

Remember, too, that over 50% of S&P 500 company revenues come from overseas. Europe and Asia are handling the pandemic better than the US and getting closer to normal.

For my clients, I am building portfolios with “Purple Stocks” – those that should do well no matter which candidate takes the White House. These are the stocks that are benefiting from the changes in technology, demographics, and lifestyles.