No…it’s not just the Fed printing a ton of money.
March in the stock market went exactly as someone would have predicted…given the pandemic and lockdown.
Stocks went on a fire sale as many companies and indexes cratered. The S&P 500 falling below 2,000 points was a very realistic scenario.
The economic numbers haven’t been promising to say the least, but the stock market…wow.
The S&P 500 is poised to reach new highs from pre-pandemic levels in a few days if the momentum continues, and the NASDAQ has already reached new highs.
It’s easy to point to the Fed printing money and some people using their stimulus checks to give the stock market a try. But there’s more to the story.
The Stock Market Is Not The Economy
Some people see investing into the S&P 500 as investing into the economy. Then why has the S&P 500 rallied so much since its March lows while we can’t say the same about the economy.
And no, stop saying it’s the Fed.
One principle to understand about indexes and individual stocks is that they are all priced based on future earnings and potential. Early Tesla investors for instance did not buy Tesla because of its balance sheet.
Tesla’s balance sheets weren’t exactly desirable in the early days, but investors kept piling into Tesla because they saw future potential.
Some companies can quickly rocket to billion dollar market caps and even reach $100B market caps without a single quarter of profitability. Stocks and indexes are always priced based on what the underlying company or basket of companies in the case of an index will look like a year or two out.
Stock prices are never based on the current outlook. The S&P 500 is priced based on the economy recovering in 2021 rather than what it currently looks like.
The economic recovery won’t be like hitting an on/off switch, but once it’s safe to end the lockdown, the acceleration will start and compound quickly.
This future outlook is the reason several stocks have already recovered.
Indexes And Investors Play Favorites
Every investor has their favorite set of stocks. Indexes are the same. Based on the criteria that comprise an index, some stocks will be favored more than others.
Based on the way the DOW is constructed, Apple’s split will actually hurt the value of the DOW since Apple will be a lower percentage of the DOW’s value.
The DOW’s basket is based on 1 share of each company. Since Apple is doing a 4-for-1 split, Apple stock’s weight on the DOW would go down from a little over 10% to around 2.7%.
On the other hand, the S&P 500 and NASDAQ both rely on market cap weighting to determine the percentages each stock has in the overall index.
The bigger a company, the more of it will be in the S&P 500 and NASDAQ indexes.
While there are plenty of stocks in each one, the majority of the indexes are big companies.
In the S&P 500 in particular, 25% of that index comprises of Facebook, Amazon, Apple, Google, and Microsoft. The other 75% goes to the other 495 companies in the S&P 500.
All five of those companies have been doing well during the lockdown. Record earnings with more growth along the way. Each of these 5 companies feels unstoppable in their own way.
So a good chunk of the S&P 500 is just 5 companies that are doing very well during the lockdown. That helps a ton with allowing the S&P 500 to start retesting its pre-pandemic high.
If a smaller company in the S&P 500 plummets, you’ll barely see that in the S&P 500’s price…if you even see it at all.
Yes, the Fed printing money like there’s no tomorrow helps, but there’s more to the stock market’s swift recovery than that. The top 5 companies in the S&P 500 are fundamentally solid, and there are several (mostly digital) companies growing because of the lockdown.
The economy is one of the many factors that influences stock prices. While it is a strong factor, there are a variety of other factors that can offset a lagging economy and produce the types of gains we’ve seen since the March lows.