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Is A Stock Bubble Bursting? Thumbnail

Is A Stock Bubble Bursting?

Is A Stock Bubble Bursting?


Stocks plunged as much 6.6% last week, and, even though prices rebounded sharply by the end of the week, fear remains widespread. Despite the grim mood, the evidence is strong that the stock market is not in a bubble and that the economy is chugging along, on track for a long, slow ride to recovery.

For a bubble in stock prices, irrational exuberance must be widespread, like it was during tech bubble of 2000. It’s not! Nothing like that is happening now! Covid crushed consumer confidence in March and April.

Much of the uncertainty is caused by the runaway gains of the giant tech stocks. Facebook, Amazon, Apple, Netflix, Google, and Microsoft – the FAANGM – have led the recovery from the pandemic, leaving the broad market in the dust. And, because the major indexes are weighted by market capitalization, the super return on the giant FAANGM has powered a 42% gain in the S&P 500 since the March 23rd. 2020 bear-market low. The turbocharged returns of the major market indexes fueled by FAANGM are a Covid crisis anomaly, but FAANGM valuations are not out of control. The PEG ratios of the FAANGM – that is, their price-to-earnings ratios divided by the growth rate of their earnings, a more thorough metric than a standard P/E ratio, have not been outlandish, even as the price of the S&P 500 was breaking a new record high last week.

In the months ahead, due to Covid-induced economic anomalies, stock plunges should be expected. The anomalies are bound to add uncertainty along the road to recovery. In March and April, for insatnce, consumer spending plunged because people were not going out and spending. At the same time, government payments from the CARES Act arrived in consumer accounts, disposable income hit a new record high, and the savings rate simultaneously skyrocketed by nearly 400% -- and this was happening at worst point of the Covid crisis! These conditions are without precedent and may take months to unwind.

The latest economic data show a continued recovery in the manufacturing sector in August, with new orders booming. Meanwhile, in the much more-important service sector, responsible for 91% of jobs in the U.S., the latest figure – while not as a strong as expected -- remained strong in August, and the unemployment rate dropped much lower than the 9.9% rate that was expected, to 8.4%.

Amid the fear of a bubble in the FAANGM and anomalies of the Covid pandemic, the U.S. recovery is chugging along, slowly working its way back to the economic peak of 2019.

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