Forecast: Second-Quarter Earnings & Other Headwinds May Test the Markets

July 17, 2020

WITH SECOND-QUARTER EARNINGS KICKING OFF this week, investors may begin to see some renewed volatility in the markets, says Chris Hyzy, Chief Investment Officer for Merrill and Bank of America Private Bank. After several months of remarkable recovery, investment markets could face periodic challenges throughout much of the rest of 2020, he adds.

“We’re in stage four of an eight-stage investment cycle that started with the onset of the global pandemic,” Hyzy says. “While the latter stages of this investment cycle should lead to a new era of innovation and expansion, this current stage is defined by headwinds.” Headwinds include low second-quarter corporate earnings, nervousness over the November elections and fallout from the regional new outbreaks of the coronavirus across the southern United States.

For investors, the best course is to take a long-term view, avoid overreacting to periodic volatility and consider strategic investments, where appropriate, to prepare for a new economy ahead, Hyzy believes. Though the precise timing will depend on a number of factors, including progression of the disease, here’s how the eight steps of the investment cycle may play out:

Where We’ve Been
Stage 1 (March to mid-April): Impacted by the pandemic, business closings and job loss, equity markets plunge 30-40% from February. Massive government stimulus helps bring stability.

Stage 2 (Late April and May): Markets respond favorably as economic support for families and businesses creates a “bridge” to potential recovery.

Stage 3 (June): Many countries, regions and businesses begin to reopen, creating a series of sharp but narrow “V-shaped recoveries.”

Where We Are Now
Stage 4 (July through late 2020): As second-quarter corporate earnings are unveiled, they likely will reflect deep shocks from the pandemic, raising concerns about earnings for the rest of the year, Hyzy says. A contentious presidential election and new outbreaks of the coronavirus create challenges for the economy and markets, with the potential for periodic volatility.

Where We May Be Headed
Stage 5 (Late 2020 or start of 2021): “We think market expansion will resume, with some surprising areas of corporate profits as companies get better at managing their operating expenses,” Hyzy says. “But much depends on the levels of consumer confidence.”

Stage 6 (Early 2021): “We believe the markets will start pricing in that global expansion in Stage 6,” Hyzy says. “The growth engines will be the U.S. housing cycle and Germany and the rest of Europe supporting expansion rather than austerity.”

Stage 7 (Mid-2021): Depending on the election outcome, new government policies could create market challenges, Hyzy believes. The election outcome could also have implications for U.S.-China relations. And unemployment, though likely to be improved, may stall temporarily at about 6%.

Stage 8 (Late 2021): “The final stage of this early expansionary period is a pricing in of the new normal—including a longer term profit cycle,” Hyzy says. “That’s where new industries are born, innovation adds to productivity and the unemployment rate heads back towards levels we saw pre-pandemic.”