I hope everyone had a good summer. At times our great weather almost made me forget we are living in a COVID-19 world.
And then I looked at the daily health reports, the economy and the markets - and remembered that we are truly living in a time of pandemic. From a financial perspective, wherever you turn the signs are there: yet the stock and real estate markets seem to be vastly out of sync with the stark economic reality of the pandemic world. Let’s explore that disconnect.
Bay Street and real estate vs. main street
At the beginning of the pandemic, I like most of you personally felt the financial stress and dislocation caused by COVID.
But I also felt my clients’ concerns and worries, which were extremely distressing over the first couple months. Together we worked to solve the financial challenges related to their businesses (which were often temporarily shuttered), and to understand the government programs – which were released at what seemed like a daily clip and often revamped later on. During this initial period, the stock market fell 35% or so, as one might have expected, and the housing market ground to a halt.
However, after the initial drop off the cliff, the stock markets started a steady climb back to their January 1, 2020 levels, and the housing market heated up. I am aware of two cases in the Toronto area where not only was the sale price of houses substantially over the listing price, but there were so many buyers that the seller had the buyers write letters explaining why they want the property.
This return to form in the financial and housing markets continues — even as wide swathes of the Canadian population struggle. Millions of people are receiving the Canada Emergency Response Benefit (CERB). Small business owners can’t restart their business or are working just to break even or keep the lights on for better days. Employees across the country have been temporarily laid off or have lost their jobs.
Let us review the possible reasons for the financial and housing markets’ strength in a weakened economy.
Over the years, the stock market has taught us that we usually cannot predict its direction. As a result, it is generally best to hold your portfolio and even buy when everyone is running for the exits.
Yet COVID investing seemed different. While some of us were smart enough or bold enough to buy at the pandemic’s deepest lows in March (not me), most people needed all their discipline not to liquidate their equity holdings in some part. I am in no way a market historian, but this pandemic crash looked scarier. The world’s economy came to a standstill and the economic destruction seemed like it would take years to overcome.
So why did the markets turn on a dime and go bullish? Why have they showed no sign of flagging? Why do they continue to defy the larger economic trends? The reasons are varied, but based on articles I have read by financial experts and the numerous discussions I and my client's have been in with investment managers, these are the top ones I have read or heard:
- “Don’t fight the Fed.” It’s an American phrase referencing the Federal Reserve, but the point is valid in Canada too. The Bank of Canada (like the Fed) has provided an unprecedented liquidity injection to keep the market afloat.
- Markets reflect a long-term view. They have discounted our current economic and social issues for an expected brighter future.
- The markets have built in a vaccine discovery in the next 6-12 months.
- Interest rates are so low that you must be in equities or you will have a negative absolute return after inflation in GICs and T-bills. This reason is put forth by investment managers in every conversation I have been involved in.
- The travel, entertainment and retail industries do not have a significant impact on many stock market indexes.
- Technology and healthcare have flourished in many cases during COVID, and these sectors make up a significant portion of the U.S. indexes that many Canadians invest in. (On the Canadian exchanges, Shopify has also helped carry the Canadian market rebound.) The stock market recovery reflects the success of technology and healthcare - not the health of the larger economy.
- The larger companies have hoards of cash to keep them afloat and take advantage of companies with lesser balance sheets.
- Some people have flipped from being scared of being in the market to having a fear of missing out on the rebound.
In retrospect, maybe I should have seen the stock market bounce-back coming, but I clearly misunderstood. Based on the 8 reasons discussed above, clearly the stock market can be strong while the world’s economy is essentially shut down. But I have asserted only that I am blunt, not that I’m smart.
One would have thought that many people would hesitate to purchase real estate during COVID-19 due to the uncertainty of their jobs and the economy. However, the housing market in Ontario and many parts of Canada has seemed impervious to the pandemic, which I would not have envisioned in late March.
The experts seem to agree on the below reasons for a strong housing market. I’d also like to say a big thank you to my colleague George Dube – a veteran real estate investor and accountant – for his insight.
- Large shortages in the supply of homes and a relative abundance of buyers led to competition and bidding wars. On the supply side, many people just hunkered down and did not want to risk selling into a pandemic market.
- Those who were fortunate to keep their jobs had fewer places to spend and decided in many cases to renovate and fix their current homes rather than purchase a new home, reducing supply.
- Many people decided to purchase cottages rather than move to new city homes. If I can’t travel for vacation, people said, I want to have access to a cottage property. This is especially true while we still don’t know when COVID will recede and when we will see an effective vaccine. People staying in their homes reduced the inventory of homes for sale.
- Interest rates are so low, so the cost of carrying a mortgage for the foreseeable future is extremely low and unlikely to change based on government economic policy.
- The lack of activity in March and much of April led to a catch-up period releasing pent-up demand.
- People concluded working from home is going to be the new normal in some fashion. They realized the money they had saved to eventually buy a home in the city could be redeployed to purchase a home in the suburbs or in a more rural area. This led to a spike in many areas outside big cities. While this moderate exodus would theoretically soften prices in urban areas, the fact is that the fundamentals in those markets are strong enough to keep prices high. It should be noted that this exodus from the cities has reportedly caused some softening in the personal condominium market, as many of the people looking outside the large cities would have been condominium purchasers.
So, is the financial world out of sync? I personally feel the answer is still at least a lukewarm yes, if you like me feel there is or should be some kind of direct correlation between the economy and the stock and real estate markets. But as I have noted above, the correlations can sometimes run parallel and may not intersect, so that may be a misguided view. We shall see in another year or two whether the stock and real estate markets got ahead of themselves, or whether this was just the first phase of even stronger markets. Interesting times either way.
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