When the dust finally settles late Tuesday afternoon, to the naked eye it will appear that June was a fairly placid month for stocks. A fully diversified equity portfolio, with a particular boost from international and emerging markets, will have closed slightly to the upside from its May close. But, like that metaphorical dog seeming to swim almost languidly on the surface, there was a tremendous amount of volatility paddling underneath, to include the Dow Industrials 4th biggest point loss ever, down 1861 on June 11. In so very many ways, it was a month of extremes.

The two-week May surge continued into early June…..

In some respects, the track for June was just like May, except in reverse, and on steroids. As noted in last month’s Update, May began with a two-week drop as traders questioned the durability of the then-immediate rebound in economic activity. However, as more and more states re-opened, that activity actually accelerated and stocks re-reversed into a strong month-end. That upside surge continued to a June 8 peak, at which point the S&P 500 had risen nearly 17% from the May 14 low. Befitting the back-story of economic renewal, leading that charge were more cyclical sectors, among them regional banks (+52%), small caps (+33%) and transportation (+34%). Within the last, airline stocks doubled. Parenthetically, I will say these are the kind of moves one would expect coming out of a major bear market bottom and a deep recessionary trough, such as occurred in 2009, rather than very late in an economic cycle which I would argue is the more appropriate comparative.

…but then reversed into month-end

But this stopped on the proverbial dime. With the growth of covid-19 cases no longer in decline and then surging into month-end, a heavy bucket of ice water was splashed upon stocks in the succeeding three weeks. Not all those gains were reversed – stocks hung onto roughly half of them – but the downside volatility, with the losses of June 11 front and center, grabbed investor attention.

Though I confess that this is hard to articulate correctly, one cannot ignore the impact of the vast number of protests engendered over racial injustice. Though the ensuing social change will make our society, and our economy, even stronger and more sustainable*, the uncertainty during the exploding magnitude of the moment had to have had some negative impact on short-term investor attitudes.

Retail “speculator” emerges

Quite noteworthy during this 3-week upside boom in stocks was the seemingly-overnight emergence of the retail investor, or perhaps one should say, speculator, somewhat reminiscent of the day-traders that came to fame and then notoriety in 2000. Perhaps, as one pundit on CNBC noted, these are the fantasy sports gamblers who have attached themselves to stock trading in the absence of that DraftKings ‘thrill’. Shares of the totally bankrupt Hertz Corporation, still trading while the company was working its way through Chapter 11, rose from 40 cents to more than $6. Newly bankrupt (a June 29 filing in fact) Chesapeake Energy shares rose from less than $10 to a peak of $78. Even though they certainly lost boatloads of money in the ensuing downdraft, their impact still hasn’t disappeared. Nobody can tell me that the massive move in mega-cap tech that roared to its own June 23 high wasn’t at least partially due to retail speculation. Since those day-trading escapades of twenty years ago ended in total tears, it’s hard not to worry about that same fate developing, at least to some degree, in the months ahead.

Mega-cap tech update

So let’s discuss mega-cap tech for a moment – Apple, Microsoft, Amazon, Netflix, Facebook and Alphabet (Google). On June 23, these stocks were up a full 17% year-to-date (versus a fractionally lower overall market) and together combined for 22% of the entire capitalization of the S&P 500, and 48% of the NASDAQ 100. This amazing level of concentration makes those halcyon days of the Nifty-Fifty (of ’71-‘72) and the Dot-Coms (’99-’00), both of which preceded severe bear markets, look massively diversified. There are a huge number of Wall Street pundits voicing those (‘famous last’ and truly wince-inducing) words – “It’s Different this Time.” Who knows, maybe it is…but maybe not.

Massive amount of corporate debt issued – a two-edged sword

Another market-based phenomenon worthy of mention is the massive amount of corporate debt that has been issued across the entire sector and quality spectrum. Never mind the reduced amount of economic activity that constrained revenues. Given the extremely low interest rates and the huge amount of capital made available by the Federal Reserve, it is no wonder that corporate treasurers took advantage of perhaps a generational opportunity to raise capital. This is a two-edged sword. On the plus side, this keeps potential future credit issues off the balance sheets of the banking system, the primary cause of the Great Financial Crisis on 2008-09. On the negative side, this does represent an aggregate weakening of the macro-economic balance sheet, with debt more and more prominent.

Economic recovery on the horizon?

I will again save you the narrative of how weak our aggregate economy remains. But another thing nobody can tell me with any degree of assuredness is that there is any true light at the end of the tunnel. Of course there was a bounce and every economic metric showed massive percentage improvement off the mid-Spring troughs. Five servers (out of maybe 12-15) back to work at the local watering hole represent an infinite increase in employment at that establishment. Even though the recovering economic back-story that helped drive that May 14-June 8 rally was widely hailed, it might have a limited shelf-life, which may indeed have already run out. I don’t think it was any coincidence at all that the June 8 top in stock prices came only one trading day after the release of the May jobs data which showed about 1.5 million ‘new jobs’ created. Yes indeed, this was much better than had been feared…but since more than 40 million first-time unemployment claims have been made since late February, those ‘new jobs’ plus whatever other ‘new jobs’ we’ll see created in this Thursday’s report from the June data, are still only a small fraction of those jobs either still in limbo or perhaps lost forever.**

What are the concerns as we head into July?

Among other concerns for July include the potential for a new ‘fiscal cliff’ on July 31, when those enhanced unemployment benefits under the CARES Act are scheduled to expire. Before that comes July 15, when all individual tax returns from 2019 are due, after being extended from April 15. On the geeky monetary side, the Federal Reserve’s balance sheet, which is essentially the genesis of the massive amount of liquidity available for economic consumption and investment, has modestly contracted in the past several weeks. Plus the polls are now pointing to the potential for a total Democratic sweep in November, which many analysts regard as quite negative for stock prices later on. Though I’m not sure I personally agree with this latter premise, the conventional wisdom can’t be ignored, and I’ll certainly have more to say on this topic in later Updates.

That said, all of those concerns are eminently reversible, at least over the short term. Especially if stocks sell off in early July, I can’t imagine Washington won’t quickly agree on removing that ‘fiscal cliff’ by extending the benefits and perhaps even re-extending the tax payment deadline to October 15. The Fed may well re-enter the conversation. Fiscal and monetary policies have already poured several trillion into the banking system. What’s another trillion or two! I suspect that, as the weeks and months go by, and if the polls remain as is, Wall Street will become more and more comfortable with a change in federal leadership. Even before all stocks peaked on June 8 and mega-cap tech did so a week ago, the vast array of political betting markets, with real money changing hands, (as followed by an organization called PredictIt) have tilted solidly blue.

What about corporate fundamentals?

Second-quarter earnings reports kick off the week of July 13 and though there is no question that they will be in the aggregate quite problematic, there will also be – no question – some major upside blowouts. Those aforementioned mega-cap techs are all bigtime net beneficiaries of the stay-at-home economy, as are newly super-high profile companies like Wayfair, Shopify and Zoom Video. Since those stocks are so heavily weighted in the major stock averages, it’s entirely possible that, no matter what the economy does over the next couple of months, that the aggregate market can hold up, or even advance, strictly on strong performance of those very few names.

But what about COVID-19?

But, but, but……there’s still that pesky virus, the 60,000 pound (maybe 60 million pound) gorilla in the room, which continues to defy the (so far delusional) wishes of certain policymakers to just simply disappear. As noted above, after some mid-spring so-called ‘curve flattenings’, the headlines have turned decidedly negative. A Gallup Panel noted by the Wall Street Journal switched from being a net 16% optimistic on June 7 to a net 13% negative late last week. Will it halt continued economic re-openings, or reverse some that have occurred? Will much of that economic renewal progress just prove ephemeral? Will we return to becoming a stay-at-home economy? Or maybe it will disappear. Only the virus knows and it’s not telling.

Quarter-end – and our conclusion

June 30 brings not only the month but also the quarter to a close. What a quarter it’s been! After recording its worst first calendar quarter ever, the 18% S&P 500 upside turnaround represents the best calendar second quarter in nearly 20 years. Volatility reigns supreme and, quite frankly given all the extreme headlines, it should. Though quarters like Q2 are, net net, a whole lot of fun, my experience over nearly 40 years on Wall Street tells me that extreme volatility after a long, long bull run must be respected more for its downside potential than for whatever upside might remain.

Therefore, though we continue to cheer on higher stock prices, we remain modestly under-weight stocks for client portfolios. The defense stays on the field!

*Please read our piece on the imperative of ESG (Environmental, Social and Governance) investing published earlier in June

**A statistic of interest. According to a CNBC report derived from several official U.S. government sources, even after a 1% rebound in May, the percentage of our nation’s entire population employed is 52.8%, the lowest since the beginning of WWII. The low during the GFC was about 58%. Some of this may be purely demographic. But not all!