Post-COVID-19 stock market prices
Two non-standard hypotheses for current high stock market prices
Let's explore two uncommon reasons why the stock market might still enjoy such high prices despite a significant number of indicators being deep in the red.
Obviously, fast and massive Quantitative Easing (QE), as well as passive index funds/ETFs maintaining their target allocations, are main engines behind those sustained prices.
The two hypotheses I want us to explore below are less standard than those two classic root causes.
Hypothesis 1 - regular stock markets participants do not feel the crisis first-hand
I think one of the reasons stock markets are so optimistic is that most participants are also the ones who can work from home. The part of the population who hardly feels the pain.
Higher-earners are much more likely to be invested in the stock market than lower earners.
And not only do they participate more in numbers, but they also participate much more in amount.
The data is eloquent: higher-level of income and income security strongly correlates with the ability to work from home.
Putting this all together: as far as individual investors are concerned, the stock market is largely dominated by people who can work from home. Those people (me included) do not feel the COVID-19 with the same level of intensity as the part of the workforce who cannot work from home.
I argue that current stock market levels are partially fueled by this biased optimism.
Hypothesis 2 - the COVID-19 (pre-)crisis stock market correction attracted lots of first-time investors
The market cap of the 5 largest S&P 500 companies has disproportionately increased to unprecedented levels. This cannot be explained by their newly-found potential for cheap M&A due to smaller companies struggling - most of the S&P 500 should "enjoy" this uplift.
Instead, I believe that this effect comes from an inflow of novice traders joining the stock market following the recent COVID-19 (pre-)crisis. Uninformed participants, going for get-rich-quick, and disproportionately buying super-blue-chip FAANG.
And indeed, looking at recent French data from the AMF, stock markets are seeing a significant inflow of new entrants.
Please note that I would still be interested to control whether they are all true new entrants, and not existing participants trying to buy the dip due to valuations more attractive than in the past few years.
This seems corroborated by other ways to look at is as well.
As Lyn Alden Schwartzer shows it quite clearly, "Warren Buffett sold his airline stocks to Robinhood traders."
Putting this all together: the COVID-19 (pre-)crisis seems to have attracted a significant number of new (inexperienced) investors. This new-entrants inflow to have contributed to keeping valuations high regardless of underlying economic/financial indicators.
I am still surprised by the stock market consensus: we are back to 2019 Q4, despite many economics indicators being in the red.
I believe that the two hypotheses above might explain why this is the case, even though it is most likely part of the underlying reason only.