"Known Unknown": covid and MARKET VOLATILITY
December 3, 2021
The emergence of Omicron, a COVID variant discovered in South Africa, has recently triggered heightened levels of market volatility. While more knowledge of this variant will surface in the coming days and weeks, at this point it may best be described as a “known unknown.” Donald Rumsfeld, the late Secretary of Defense, coined this phrase to describe events of which we are aware but lack sufficient knowledge about their potential effects. More specifically, what may the effects be of this new variant on public health, the economy, and markets?
With respect to public health effects, more research needs to be done to understand the transmissibility, severity, and distribution of this variant. However, while this research is underway, it is important to note that our current level of defense far exceeds that of just one year ago. For example, as of November 29, 2021, 59.3% of the U.S. population has been fully vaccinated, 70.8% has had at least one dose, and 12.4% has already received a booster.
As Omicron is expected to expand its reach beyond the few countries where it has been detected today, a coordinated and global effort is underway to find answers to several key questions. For example, what will be the efficacy of both current COVID vaccines and recently developed anti-viral treatments? If vaccines need to be redesigned, the outlook appears quite favorable, as the CEO of Pfizer has suggested that an Omicron-specific vaccine could be produced in about 100 days. If new vaccines are necessary, both the states and the federal government now have experience in their distribution and administration. Overall, the public health sector appears poised to respond strongly to Omicron.
With respect to Omicron’s potential effects on our economy, the strengthened state of our public health defenses is a key factor. Lockdowns, self-isolation, and travel bans were the initial and primary means of virus defense before the advent of effective vaccines, anti-viral medicines, and treatment protocols. Brutal in their execution but somewhat effective, these actions took a toll on U.S. economic activity: after the virus first emerged, gross domestic product (GDP) plummeted -32.9% in Q2 2020 alone, but then recovered for an annual GDP decline of -3.5% in 2020.
Today, it is less likely that Omicron will necessitate such Draconian measures, and more likely that unemployment levels could keep falling, schools can remain open, factories can continue to produce goods, supply chains can adjust, and the service economy (78% of GDP before COVID) can recover as well. U.S. business capital expenditures (i.e., investments in equipment, structures, and software) are expected to rise by 14% in 2021. GDP is also expected to rise by 5.5% in 2021, following a forecasted 8% rise in Q4. While Omicron may initially impact some of this forecasted growth, the public health response should avoid any repeat of the 2020 downturn.
With respect to Omicron’s potential effects on the markets, its sudden emergence proves once again the old adage that markets abhor surprises or uncertainty. Long-term, markets are generally priced and valued on fundamental financial information, but that does not prevent short-term volatility that, like on November 26, 2021, can swiftly turn into panic selling. The panic was due primarily to very limited market hours on the day after a national holiday, the absence of most institutional traders and support staff, and inadequate liquidity to absorb such massive selling during such a short period. There is no assurance that such volatility could not occur again in the future, of course.
However, when looking at fundamental financial information for the S&P 500 Index, the markets appear to have an earnings trajectory that recovers strongly from the results during COVID’s initial emergence in 2020. More specifically, as shown in the graphic below, Goldman Sachs forecasts that S&P 500 earnings will increase by 36% in 2021, 5% in 2022, 5% in 2023, and 1% in 2024. Again, the public health response to Omicron could contribute strongly to the achievement of these forecasts.
Initial uncertainty about the Omicron variant should be reduced in the coming days and weeks. In the meantime, your financial plan is designed to help you maintain progress toward achieving your financial goals. Market volatility is stressful for everyone, but The Mather Group, LLC (TMG) employs a suite of risk management tools to support your plan’s investment objectives. Your trusted advisor at TMG is ready to respond to any questions or concerns you might have, and to help ensure that your financial plan remains both timely and actionable. Please reach out to your advisor for guidance at any time.
Data Sources: Bloomberg, US Bureau of Labor Statistics, US Census Bureau, Centers for Disease Control and Prevention, FACTSET, Goldman Sachs, Johns Hopkins Bloomberg School of Public Health, Pfizer, Reuters, The Wall Street Journal.
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