The U.S. stock market is passing its first big test since March with impressive ease. Bulls have fought tooth and nail the last two sessions to hold S&P 3,000, and did it by buying up companies tied to the economic recovery. It's a bold first showing for an upcoming battle.
The incubation period for coronavirus is roughly within two weeks, which means we are quickly approaching the threshold for assessing the true remaining threat of the disease. If Covid-19 hospitalizations don't surge within the next week or two, market bears will be headed for extinction.
Massive protests and riots have been going on around the world since the start of the month. If there is not a surge in hospitalizations in New York, Chicago, San Francisco and other major metropolitan areas that were the biggest risk points for the original outbreak, the world can be certain that the worst is past.
If that's the case we can also be confident that life will eventually return to normal and there will be little in the way of a full commercial restart, which in turn increases the potential for a full economic recovery as well. `Potential' is a key operating phrase here — the economy doesn't actually have to get back fully to where it was for the equity market to go ballistic from here. Critics of this thesis will highlight a plethora of lingering structural issues — some old, some new, some convincing, some not so much — but that is not what will matter to stocks from here until the election. What will matter is that one of the most confounding, scariest threats to the global economy in modern history will be removed, and there is a ton of money still betting that it won’t happen.
Judging from investor surveys, cash levels, and fund flows, Wall Street has yet to fully buy into the stock rally. They think last week’s steep selloff is a sign a big turnaround could be in store. If one’s not, institutional investors and Wall Street players that have been sitting on the sideline lampooning day traders will have to chase them instead of rake them. If you run a mutual fund, hedge fund, or sell-side strategy team and you're getting smoked by Davey Day Trader at all-time highs, how do you salvage your job? By chasing the melt-up.
The lingering Covid bear case could be definitively disproven by anything equal to or better than a manageable jump in new cases by the end of this month. If that happens, there will likely be another Goliath lift to stocks as lopsided positioning forces investors to unload cash, bail out of bonds, and shift money market funds to riskier assets. With the 10-year yield now effectively pegged at zero by Jay Powell, it’s impossible to know just how frothy the scenario could be. The S&P 500 is expensive? Dot-com valuations were almost double.
If not, well, let's just hope we don't have to find out. It could get very ugly, fast. Monetary solutions are stretched, the fiscal situation is in limbo; the room for failure is thin. We saw last week the market does not survive on easy money alone. It sure doesn't hurt, but for a month now stocks have been led by banks, industrials, and small-cap domestic companies. This rally is now squarely pinned on the chances of an American comeback. Make it real, and everyday investors will win. Businesses will survive, and bears will be forced to become patriots.
This article originally appeared on Forbes.
