Campus WU

How is the stock market likely to develop?

15/04/2020

Answer by Josef Zechner, Professor of Finance and Investments.

Michael S.: Bear market bounce or early stage of a recovery? What do equity markets tell us at the moment?

Answer by Josef Zechner, Professor of Finance and Investments:

Although the first easing of restrictions on social and economic life in Austria has already taken place, the corona crisis will keep us in suspense for some time yet.  Simulations show that after a return to high levels of social activity as early as late summer or autumn, a further tightening may be necessary to limit a second wave of infections. The question is therefore whether the currently observable recoveries in price levels on the stock markets are sustainable, or are they merely technical rallies that can occur again and again in a longer-term bear market?

First of all, it should be noted that even after the most recent price rallies, most of the world's stock markets are still around 20% below their highs before the corona crisis. Assuming that the pandemic does not affect corporate profits or dividends after 2030, the 20% price correction means that investors can expect higher risk premiums on the stock markets in the long term. The only alternative explanation would be a complete loss of dividends over the next 10 years, which seems implausible.    

As a long-term oriented investor, one can therefore expect higher equity returns over the next few years than was the case before the Corona crisis. However, it is highly uncertain whether these higher returns can already be achieved over the next few months. Due to the major risks mentioned regarding the further development of the pandemic, there is a high risk of a price setback in the short and medium term. From an academic perspective, it is important to note that risk premiums after crises have tended empirically to be higher than the long-term average, and that it is important for a long-term investor to remain true to his principles. In other words, in the light of academic research, there is no reason in the middle of a crisis to actively reduce the long-term weightings of riskier asset classes such as equities.

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