The S&P 500 hit a record high yesterday, officially ending the shortest bear market in history. But how and why is the stock market setting records when unemployment rates are still over 10%, our economy is still (technically) in a recession, and some industries have been decimated and may not recover for years?
The are several answers to these questions. Here are just a few of them:
The Stock Markets Are Foward Looking
Investors look toward future earnings to determine stock prices. It’s all about income, growth, and potential. Right now, there is a lot of hope that the economy will continue to recover, and with that will come more jobs and more spending.
Many investors are also hopeful for a viable coronavirus vaccine, which would hopefully put an end to social distancing requirements and help improve parts of the economy that are currently hurting the most (travel, dining, hospitality, events, and in-person entertainment).
Government Stimulus Efforts Have Smoothed the Way
The government has pumped trillions of dollars into the economy in the form of direct stimulus payments, loans to small and large businesses, extended unemployment benefits, and additional spending.
The Paycheck Protection Program helped save thousands of small businesses by providing a lifeline to help them maintain payroll and keep people off unemployment. The government also included targeted loans to some businesses in specific industries, again preventing the layoff of thousands of employees and potentially keeping entire industries afloat.
Finally, the extended $600 weekly unemployment benefits were designed to replace income up to the national median income when combined with state unemployment benefits that average $378 per week. This benefit kept many people afloat.
The S&P 500 is a Weighted Index – And the Big Are Getting Bigger
The S&P 500 is comprised of 500 of the largest companies in the United States. But it’s not a simple average of the stock prices for every company in the index – it is weighted based on market cap. This means the largest companies have a greater impact on the value of the total index.
Case in point – the five largest companies in the index are Apple AAPL , Microsoft MSFT , Amazon AMZN , Facebook, and Alphabet (Google’s parent company). Together, these companies account for roughly 23% of the S&P 500 index value (as of yesterday’s market close).
To put this in perspective, the 100th largest company in the S&P 500, as of yesterday’s close of business, is Morgan Stanley MS . It only accounts for 0.217% of the total value of the S&P 500. There are still 400 companies with lower market caps than Morgan Stanley. The doubling or tripling or quadrupling of any of these companies would have a minimal impact on the value of the entire index.
The top companies in the index have also experienced outsized growth this year as people have spent more time online or have shifted their spending to online companies and investors have been looking for greater returns.
This brings us to the next point.
The Stock Market is One of the Best Current Options for Investors
Interest rates have plummeted, with most bank accounts, CDs, and government bonds paying much less than 1% interest. Many investors who are searching for yield have turned to the stock market and dividends as a way to generate a return on their investment.
Consumers Have Shifted Their Spending
The coronavirus pandemic hasn’t had a negative financial impact on everyone. But it has shifted how many people are spending their money.
A prime example is spending that would have been earmarked for summer vacations. Fewer people are traveling, staying at hotels, or eating out at restaurants.
But that doesn’t mean they aren’t spending money elsewhere. Instead of spending money on airline tickets, hotels, and restaurants, they may be shopping online or spending more money on hobbies or home improvements.
And of course, some of that money may have ended up in the stock market, further pushing up stock prices.