U.S. GDP plunges at record rate. Is the economic recovery still on track?

On the latest edition of Market Week in Review, Senior Investment Strategist Paul Eitelman and Senior Client Investment Analyst Chris Kyle discussed second-quarter GDP (gross domestic product) numbers from around the world, in addition to second-quarter earnings season results. They also provided an update on efforts by the U.S. Congress to pass a second coronavirus stimulus package.

U.S., Europe post record quarterly GDP declines

On July 30, the Commerce Department announced that U.S. GDP fell at an annualized rate of 33% during the second quarter, Eitelman said—a staggering drop that’s far and away the country’s worst on record. “This historically awful decline in GDP is solid proof that the coronavirus massively disrupted the performance of the U.S. economy—particularly in March and April, when entire industries were essentially shuttered overnight due to widespread stay-at-home orders,” he explained.

As terrible as the GDP number was, it didn’t come as a huge surprise, Eitelman said, noting that consensus expectations among analysts were for a slightly worse reading of -34%. “This is why the impact to U.S. markets was relatively limited,” he remarked.

Similarly bad GDP numbers for the April-to-June period are starting to trickle in from other developed markets, Eitelman said, with France reporting a 45% annualized drop, while Germany recently announced a 35% decline on an annualized basis.

The path forward for the global economy looks a bit better, he said, noting that recent data showed a bounce-back toward positive growth during May and June. “While an increase in COVID-19 infections in parts of the U.S. has slowed the pace of the nation’s economic recovery, it still looks like a recovery is ongoing nonetheless,” Eitelman stated. He added that in Europe, there are signs at the margin that the region’s economic recovery is further ahead, due to lower infection rates in recent months.

“Ultimately, the virus will continue to be a major swing factor when it comes to assessing the health of the economy in the months ahead,” Eitelman concluded.

Second-quarter earnings surpassing expectations

Turning to second-quarter earnings season, Eitelman characterized it as one in which companies are typically beating extremely low expectations. Consensus expectations for the April-to-June period called for a 45% decline in earnings growth, and approximately 80% of companies that have reported so far have beaten that number, he noted. “Make no mistake, we’re still on track for a very negative second-quarter number—but it looks closer to -35%, instead of -45%. Overall, there’s some evidence that companies may have improved a bit during the latter half of the second quarter,” Eitelman stated.

In addition, tech giants Amazon, Apple and Facebook reported second-quarter earnings that smashed expectations, Eitelman said, providing a bit of a tailwind to the U.S. equity market. Overall, better-than-expected earnings helped the S&P 500® Index chart modest gains the week of July 27, with the benchmark index rising approximately 1% on the week, as of midday Pacific time on July 31.

Can Congress find common ground on coronavirus relief?

Shifting to discussions over a second coronavirus relief package in the U.S., Eitelman said that he believes a deal can be reached between Democrats and Republicans in the next two weeks. “While progress toward an agreement has been frustratingly slow so far, I believe both parties’ proposals have enough in common for a deal to be struck,” he stated.

There are four key areas of focus to the proposed new bill, Eitelman noted: Stimulus checks, support for small businesses, unemployment benefits and aid for state and local governments. Both Democrats and Republicans in Congress are in agreement on the first two, he said. “Both parties want to provide another round of stimulus checks amounting to roughly $1,200 per individual—similar to what was seen in the CARES Act—and both sides also want to provide grants, or forgivable loans, to severely impacted small businesses,” Eitelman explained.

He said that the tension between the two parties lies largely over the degree of unemployment benefits and state/local government aid. For instance, while both Democratic and Republican party leaders are in favor of providing federal unemployment benefits, Democrats want to continue the benefit at $600 per week through January 2021, whereas Republicans want to lower the amount to $200 a week. Party leaders are at similar odds over the amount of aid to allocate to state and local governments, Eitelman added.

“At a high level, Democrats want to provide $3 trillion of support in the next coronavirus relief bill, which is an extremely massive amount. Republicans want to provide $1 trillion of support, which is also massive—just not quite as massive as the Democratic Party’s proposal,” he said. All told, Eitelman and the team of Russell Investments strategists believe the two parties will ultimately find a middle ground—perhaps to the tune of around $1.5 trillion in aid. Such a package would help keep the economic recovery that began in late spring on track, he said.

“Ultimately, we believe that the business cycle in the U.S. and other developed markets should remain well-supported over the next six to 12 months, as governments continue to take action to propel an economic recovery” Eitelman concluded.


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