The S&P 500 has had a tremendous recovery since its March 23, 2020 low. The unprecedented economic stimulus, coupled with a receding virus resulted in skyrocketing corporate profits and record stock market levels. It is hard to overstate the size and scope of the government intervention in the U.S. economy. Congressional stimulus packages injected $7 Trillion into the economy, while the Federal Reserve intervened with Trillions more, lowering interest rates and increasing the money supply. Investors have reaped the benefits as the S&P 500 hit record after record during 2021. Looking backwards, it is hard to argue with the success of such steps. However, looking forward it is hard to see how the economic environment could get any better. Even as the stimulus tailwinds begin to recede, headwinds begin to appear. Here are a few of the headwinds the market is facing.
1. Virus
It is apparent that the Covid-19 virus is not going away. Indeed, a new study conducted by the Mayo clinic has raised concerns about the efficacy of vaccines, calling into question the current strategy against the virus, and prompting Pfizer to launch a booster program. The study showed that both the Pfizer and Moderna vaccine effectiveness against infection dropped sharply in July to 76 percent with Moderna and 42 percent with Pfizer. The study concluded that ‘Based on the data that we have so far, it is a combination of both a reduction in effectiveness over time and a reduced effectiveness against Delta.”(1) Thankfully, the virus also appears to be less deadly with deaths still barely ticking up despite a surge in cases.(2) Deaths are a lagging indicator, so the verdict is not clear, but initial indications are hopeful. A combination of Delta’s lower severity, partial effectiveness of the vaccine, natural immunity, and improving treatments, make the virus a persistent but lower threat.(3) The biggest risks for investors remain a repeat of government shutdowns, or a dampening of consumer spending due to heightened fear. For now, neither prospect appears to be likely.
2. Parts Shortages
If you have attempted to remodel your home, buy a car, or simply pick up some new furniture then you are well acquainted with the shortages plaguing many industries right now. One of the worst shortages is in semiconductors, but semiconductors impact many industries. For example, General Motors announced that chip shortages would force them to idle three North American Pick-up Truck factories. Meanwhile, Toyota announced that it would reduce output by 40% in September due to chip shortages. The result is that both companies will not be able to make deliveries, dampening profits.(4) The good news is that once parts become available there should still be plenty of pent-up demand.
3. Labor Shortages
Another major headwind is the lack of workers to meet consumer demand. According to the National Federation of Independent Businesses (“NFIB”) July survey Small Business Survey 49% of small business owners reported job openings that could not be filled, a 48-year record high. The quality of labor was ranked as the “single most important problem” facing small business.(5) Future earnings growth could be stunted by the inability to find workers to meet demand.
4. Federal Reserve Tapering
As we have mentioned above, the ‘easy money’ policies of the Federal Reserve over the past 18 months have been a primary driver of the rise in stock prices. However, the same policies now appear to be overheating the economy as inflation rises. The party cannot continue forever, and the Federal Reserve is likely to start ‘tapering’ this fall, a step that could result in higher rates and slower growth.
5. Higher Taxes
It seems clear that the current Democrat majority in Congress would like to raise taxes, but there is considerable disagreement on how. As a result, we expect higher taxes in the future, but the details are still cloudy. The most likely result is that we see higher corporate tax rates, and higher individual tax rates in 2022. Depending on how this plays out, the higher taxes will be a headwind to higher stock prices simply because they leave fewer dollars in investors pockets.
Will the above list result in a dramatic pullback in stock prices? On the one hand, it is a considerable list, but on the other hand U.S. consumers still have tremendous amounts of cash. The most likely outcome is that the spending of consumers will win, but investors should be aware that risks are rising, and headwinds abound.
Source:
1. “Biden Admin Concerned as Mayo Clinic Study Shows Pfizer Vaccine Dropped to 42% Effective.” Human Events, 11 Aug. 2021, humanevents.com/2021/08/11/biden-admin-concerned-as-mayo-clinic-study-shows-pfizer-vaccine-dropped-to-42-effective/.
3. Weiland, Noah, and Rebecca Robbins. “As Virus Cases Surge, Biden Administration Encourages More Use of Antibody Treatments.” The New York Times, The New York Times, 12 Aug. 2021, www.nytimes.com/2021/08/12/us/politics/biden-covid-monoclonal-antibodies.html.
4. Boudette, Neal E. “Toyota, Hurt by the Chip Shortage, Will Reduce OUTPUT 40 Percent in September.” The New York Times, The New York Times, 19 Aug. 2021, www.nytimes.com/2021/08/19/business/toyota-production-slowdown-chip-shortage.html.
5. “Small Business OPTIMISM Dips in July as Labor Shortage Remains Biggest Challenge.” NFIB, 10 Aug. 2021, www.nfib.com/content/press-release/economy/small-business-optimism-dips-in-july-as-labor-shortage-remains-biggest-challenge/.
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