Published by linker 5
Posted on July 8, 2020
5 min readLast updated: January 21, 2026
By Dr. Jim Hawley, Head, Applied Research, Truvalue Labs
Many market participants have been confused by the diverging signals between the real economy and equity markets, seemingly defying theory, intuition, and logic. But it does not defy history. Locked in people’s minds based on the 1929 crash is, ‘as the stock market goes, there goes the economy’. But actually, the market for the last few decades has been increasingly disconnected from main street or ‘the economy’. In the immediate Covid-19 emerging year there are at least four reasons that help explain this apparent cognitive dissonance:
On the environmental side, this is a known problem, triggered by the lack of natural capital pricing and effective scarcity signals, as well as the tragedy of the commons and public goods issues. On the social side, wage suppression at the low end of the ‘human capital’ spectrum continues to result in a concept we coined ‘over-earning’, transferring value to asset owners and managers while continually exacerbating structural economic inequality.
The stock market is dominated by large firms with significant cash reserves or those that are able to raise lots of cash in an extremely low interest environment (thanks to the Fed, see below). The profitability of these firms is unrelated to the vast majority of small businesses. For example, about 40% of the S&P revenues are earned outside of the U.S. This is an old story. Publicly listed firms, especially the largest, can survive, and sometimes thrive in very difficult economic times, although in the Covid-19 moment this is highly sector dependent (e.g. airlines, airplane manufacturers, hospitality industry).
While ownership in these firms is relatively widespread in the U.S. (about 50% of U.S. households have equity ownership through pension and 401-K type retirement plans), the actual amount of ownership is heavily skewed to the wealthy. The top 10% of income earners own about 84% of stock value, while the top 1% owns about 40%. Thus, the large ‘middle class’ has little current income-creating wealth in the market, and not much for long-term retirement savings either. This is main street not Wall Street pain on top of insecure jobs, medical care, potentially rental and mortgaged housing and far too often inadequate retirement savings or investments.
Investors, too, are looking past near-term financial dislocations and focusing on intrinsic value (for example, see Nikola’s valuation on no revenue) with comfort that the Fed and Central Banks will provide continuous support, with more fiscal stimulus being a bonus. Yet as of the end of June in the U.S. it becomes clear that the first virus wave has not passed, just shifted the region and demographic impacts. Epidemiologists expect these trends to continue absent widespread testing, masking and social distancing, and coherent government policies.
Equity markets are rarely far sighted, nor are they particularly rational, indeed as close to 100 years ago Keynes argued (and he was hardly alone) these markets resemble casinos. When or if the first virus wave increases and/or a second wave crashes down, markets will react, and likely overreact, as historically while over some multiple-year time-period markets reflect the non-financial economy, they typically under and overshoot. Such under or over shooting under certain conditions can impact the non-financial economy.
Many firms have been exceptionally creative in their ability to survive through this shock. As we discuss in our Research Brief highlighting Top Responders, companies across a wide swath of industries have repurposed operations to meet the moment. Meanwhile, the global pandemic has also accelerated certain behavioral trends that serve as a tailwind to some businesses, while other firms and sectors remain extremely hard hit. Such forces may for some period create a bifurcated economy with immediate impact on employment, medical care, housing, consumption patterns and the like.
Governments, at the federal, state and local level in the U.S. have been disconnected from each other with no federal coordination or long-term funding commitments. State and local governments have borne the major financial burden (as they must balance their budgets), and going forward absent federal aid will see even critical health infrastructure stress and potential breakdowns, to say nothing of other critical state level programs (e.g. unemployment, medical aid to the poor and increasing to the lower middle class losing employer health insurance, housing support). U.S. Congressional actions are hamstrung between a Democratic dominated House and a Republican dominated Senate, with the President not proposing any far reaching programs, especially focused on supporting state and local governments’ financial needs.
The only federal level agency which has taken consistent actions is the Federal Reserve (e.g. committing to long term low interest rates; and the purchase of corporate debt, read: nationalization of it). These actions have had a direct impact on buoying the stock and debt markets, which has increased their disjunction with much of the non-financial economy. It has, like the bailouts of the 2008 financial crisis, had the effect of further skewing income and wealth distribution, long and short term, a likely unintended (but hardly unknown outcome) of Fed actions.
Investors appear to be ignoring the current surge in cases all the while the S&P in June moved up and down within about 200-point band. The BIS (Bank for International Settlements) said in its annual report that markets have become ‘too complacent’ as markets are too dependent on central bank support.
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