A dangerous difference to the financial crisis

The ifo business climate for Germany was published the day before yesterday. The index has risen for the third time in a row, which confirms the turnaround in economic development. For July, the index is now at 90.5 points, after (revised) 86.3 the previous month. The consensus estimate was 89.3.

ifo business climate

This shows an increasingly V-shaped course of the economy, which the stock markets have already anticipated with their rapid price recovery. And so this rapid price recovery also seems justified, especially since the current “V” of the corona crisis is much narrower and steeper than the “V” during the financial crisis in the years 2008 to 2010 when looking at the chart above.

So can the economy recover faster than various experts and institutions have predicted and I have described and analyzed it here at Börse-Intern? I do not think so! The expectation remains that the economy will still need some time to reach its pre-crisis level. And that is also signaled by the stock markets.

Stock indices have not yet reached their pre-crisis level

Neither the DAX nor the Dow Jones or the S&P 500 were able to regain their February price level. And while the DAX, for example, went down for less than a month in March (see red rectangle in the following chart), the price recovery has now lasted more than four months without reaching the February high (green rectangle). The recovery on the stock market is therefore much longer than the slump.

DAX - slump vs. Recovery in the corona crisis

The price development of the stock indices also corresponds to the course of the crisis: the measures taken, with the almost complete lockdown, quickly led to massive disruptions in the economic cycle. The price slump in equities was accordingly violent (see red rectangle in the following chart). The subsequent easing enabled the companies to restart their production relatively quickly. The course recovery was correspondingly dynamic (dark green rectangle). However, the sales (and profits) of the companies are not yet back to pre-crisis levels. And due to a change in consumer behavior, it will also take a while before the remaining sales gap is closed. The rise in the DAX has therefore clearly lost momentum (light green rectangle).

DAX - course recovery tired

And basically, at the end of July, the DAX was still at the level of early June. The stock markets are currently hinting that the economy is either not going up at all or is only slowing down. The reason could be the “consumer gap” that I reported on April 21, when I wrote that people will consume less in the foreseeable future because they will have to accept a drop in income, for example due to unemployment or short-time work, or at least fear them. Therefore, less is consumed and more is saved.

The price trends look very similar in the Dow Jones and S&P 500. In spite of their strong price recovery, the stock markets in the USA are also showing that the return of the economy or companies to the pre-crisis level will take significantly longer than the crash. It is important to note that the stock markets are early indicators, which means that they are ahead of actual developments. That means that companies are still far from recovering as far as their share prices.

Future expectations and assessment of the situation diverge widely

And that is also shown by the data from the Ifo Institute. (For better readability, I’ll show the chart above again.) The strong recovery in the ifo business climate is currently almost entirely driven by business expectations. At 97.0 points, the business expectations index (green line in the chart) is now well above the level that was marked in February shortly before the drastic slump (92.9 points). The situation assessments (blue line), on the other hand, currently only amount to 84.5 points, after 81.3 points in the previous month and 78.9 points in the low of May.

ifo business climate

While the index of the situation assessment has only increased by 5.1 points since its low, the business expectations are a proud 27.4 points. This harbors the risk of an expectation correction if the actual transactions do not meet expectations in the near future. But that remains to be seen.

The situation regularly lags behind in a recovery

Incidentally, even during the financial crisis, it was initially the case that expectations improved significantly and the companies gradually began to assess their situation better in the further course. It is also completely logical. In the current crisis, many companies have struggled with the measures taken to combat the spread of the corona virus and are in financial need. The easing has resulted in shops reopening and (more) sales. This trend is expected to continue. But among other things, borrowings have to be repaid first, which is why the current situation is assessed by companies even less than the future. However, the more the expectations are fulfilled, the better the situation of the companies will be assessed in the future. It was similar in the financial crisis.

A dangerous difference to the financial crisis

By the way, during the financial crisis the DAX surrendered for more than a year (see red rectangle in the following chart). In the subsequent first major price recovery, the index made up 89% of the price losses (green rectangle). However, it took more than 2 years for this.

DAX - slump vs. Recovery in the financial crisis

With this relatively rapid downward movement and a relatively longer upward movement in comparison, the course of the financial crisis is strongly reminiscent of the current price development in the corona crisis. Especially since the price trends in the green rectangles are similar, including the consolidation in the middle. However, the downward and upward movement in the current crisis was generally much shorter.

DAX - slump vs. Recovery in the financial crisis
DAX - course recovery tired

But there is one major difference: when the DAX made up 89% of the losses in 2011, not only was the ifo index’s business expectations above the pre-crisis level, but also the assessment of the situation. (And yet it took another 2 years for the DAX to exceed the pre-financial crisis level.) In the current crisis, the DAX has so far made up 91.3% of the losses. So far, something like that. However, in contrast to the financial crisis, companies’ assessment of the current situation is still miles away from the pre-crisis level. Accordingly, the stock prices have risen too far too quickly. And that’s exactly what I had criticized in the past.

Interim correction like 2011?

Reminder: The previous forecasts – without the Federal Government’s economic stimulus package – assumed that economic output in Germany would not exceed the pre-corona crisis level until 2022 (see Börse-Intern on June 9th – “The DAX is recovering significantly faster than that Economy”).

Gross domestic product (GDP) Germany forecast

With the economic stimulus package (including a reduction in VAT), this goal may be reached a little earlier. However, the location component of the ifo index has so far confirmed that it will still take a few months before “target achievement”. And since the stock markets have gone too far, we fear that by then we may see an interim correction in the DAX and other stock indices, as we saw after the first major price recovery in 2011. That would not only match the economic trend, but also the seasonality and the increasing tendencies of a second wave of infections. – How Mark Twain is said to have said: The story does not repeat itself, but it rhymes.

I wish you success in your trading
Sven Weisenhaus


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