How Have the Stimulus Checks Affected the Stock Market?

Paul Winkler: And welcome. This is the Investor Coaching Show. Talking money, investing, as best we can create confident investors. And that’s a lot of what I’m going to be talking about, we’re going to be talking about, today. Jim is in here with me, Jim Wood.

Jim Wood: Hello.

Paul Winkler: All right, man. You ready? ‘Cause we gotta, we got to try to create confident investors. Some of these investors out there are just not terribly confident.

Jim Wood: Let’s work on that.

Paul Winkler: I think we better work on that. Why is it that they’re not confident? Well, you know, it’s kind of hard when you’re listening to talking heads out there, the media, out there all day long. It’s hard to get confident, because you got to realize that they’re making their money by making you a little bit uneasy.

It’s their job — make you not terribly excited about the future. Make you uneasy, make you wary, make you distressed, make you sit on the edge of your seat, because you’ll continue to listen to them to get the answer as to what you ought to do about your lack of ease.

So it didn’t make sense to me. I mean, I totally get why that is, why they do it. I mean, who on earth tunes in to something where you feel really confident and everything sounds great? Well, hopefully you’ll listen to this show for that reason, but in general, how often do people do that?

Making Sense Out of Investment Advice

Jim Wood: Well, I’ve always told clients that if there was a really good, true investment show, it would be about five minutes long every day, kind of go over some of the things that we talk about on this show, and touch on highlights, and just remind people of a couple of things for five minutes. And then they’d put on a cartoon for the rest of the show.

Paul Winkler: Right, right, right. So that’s why we have to deal with so much more than just investing here, on the financial planning side of things as well. But a lot of what I try to do here, and what we try to do here, is offset what you’re hearing other places. Why are they saying what they’re saying? You know, make it make some sense.

Because the more you get the angle that these investment companies and investment people come from, and quite frankly, the media, if you listen to — and instinctively, you tend to think, Oh man, I’m hearing this. And we connect dots, and we think this is what’s going to lead to this. And then everything’s going to fall apart.

And in general, as humans, we are more prone to try to protect ourselves from loss than we are to go for gain. I want to protect myself from losing everything. So what I will do is I will be very vigilant and on guard for anything that could possibly — it could possibly threaten my survival.

And that’s what it really gets down to is we want to survive. We want to be okay. And what we’ll do is, I want to talk a little bit about, “Okay, so what do you do? How do you protect yourself?” And we’ll talk a little bit about that.

Leads to a question. And I’m going to get into — you know, we have questions that you can ask. Go to PaulWinkler.com/question, and you ask questions. And what we’ll do is we’ll send you the answer once we answer it on the air.

The Effect of the Stimulus on the Economy

But Joey is asking the question, “What effect did the federal government stimulus check of 2020 and 2021 have on the economy? Does it create a temporary or artificial increase in the stock market for the short term?”

Good question. I mean, yeah. Does money being thrown at the market, you think about it, what — where’s Joey coming from? Well, Joey’s coming from a very rational place.

You know, you have supply and demand. If you have a new supply of money that’s coming in — and there are only so many stocks to go around, you don’t have an unlimited number of stocks to go around — and that money flows, let’s say, into the stock market.

That might be one possible thought that you’d have: money’s gonna flow in the stock market. And because there are a limited number of stocks, demand is fixed — or supply is fixed, excuse me.

And you have more demand through a new supply of money coming in. Then what happens to the price? The price should go up, right? So it’s a very rational question.

Now, the thing that I would bring up is number one, what’s the other possible thing that it could be doing? Well, it could actually be creating more demand in the economy as well because there’s new money flowing in. Now people have money, and they’re going to use that money to do what? Buy stuff.

When they buy stuff, that drives up earnings. And earnings and stock prices should be related to each other, right? Kinda the whole idea is that when we have higher earnings, if stocks typically sell for a multiple of earnings, let’s say that they — some areas of the market sell for 10 times earnings, let’s say. The value companies.

Now let’s say that all of a sudden earnings go to $2 from $1. What’s going to happen to my price? Well, to keep the ratio the same, it’s going to be 20-to-2. So the price goes up. But what happens when those earnings go back down to one? Well, the stock price drops back to 10.

Known Effects Are Built into the Market

So that’s really where this would be coming from. So it’s a very, very rational question. Now, number one, what I would do is I would say, “Okay, is this general knowledge that we have, number one, that there is stimulus money out there?” Would we, Jim, say that this is general knowledge that people have?

Jim Wood: This is general knowledge.

Paul Winkler: Absolutely. Everybody knows it, right? So what happens with general knowledge? It gets built into stock prices. And automatically gets built in. So the knowledge that this money was going to be coming out there — and it was going to be short-lived, it wasn’t going to last forever — was out there, right?

Now, the knowledge that it could also have an impact on the federal debt was also out there too. And that wasn’t an asked question, but that’s kind of behind the scenes, how people are thinking about that. And we’ll deal with that more as time goes on as well.

Now, if we look at this money flowing in and say, “Well, what was going on here?” Well, it was replacing money, in essence, that was coming from somewhere else before: the sale of stuff.

You know, if you have restaurants that are closed down, if you have factories that are closed down, if you have offices that are closed down, and companies aren’t selling things anymore, they don’t have money to pay their bills. And one of their bills is what? Well, your wages.

So in effect, what happens when you don’t have that money flowing in from the sale of stuff? “We’ve got to replace the money from someplace” was the rationale behind this. “And we’re going to replace it with deficit spending.”

“Yeah, we’re going to create some debt. And we’re going to run up a bill at the federal government to pay this money out to the public. And when we pay this money out to the public, they’ll spend it.”

But it’s in lieu of money that they would have spent earlier if the companies had been open, and they’d been doing business as usual and would have been earning profits and therefore paying bills and paying for people to actually work and earn the income and go spend it — the way it normally happens, right?

To See the Effects, Look at the History of the Market

So, in essence — well, “Has this ever happened before?” is a question I would ask. And this is typically a good way of answering a question like this, “Has it ever happened before?” Because if it’s ever happened before, we can take a look at it and go, “Okay, well, what happened last time this happened?”

I mean, I guess we can put it that way. And I harken back to the 1930s. That is one time that happened. You know, when we look at — government spending started to increase, and people were really against it. I mean, FDR and people — very debatable, you know, whether this was, in the long run, good or not. I’m not going to get into that debate.

But I will say that there was a lot of government spending back in the 1930s. And work projects. I remember — you’ve probably heard of the WPA program. And that was jokingly called, “We Piddle Around.” It was just making a bunch of projects for people to give them work to do. It was pretty much all it was.

And a lot of people will say, well, the projects engaged in were rather questionable. And you can debate that all day long or whatever. But you look at that and you say, “Okay, well, what else happened?”

Well, we also had, of course, a war that we had to deal with. And there was a lot of spending that took place there. But there was this philosophy — and still is out there quite predominantly — that the reason that the government spends when things are down and out, when the economy’s down and out and there are problems, is because maybe they’re the only ones that will spend. Because they can print money, right?

So we look at that and go, “Okay, they can actually go out and create new money. So it’s not a big deal for them to actually create more spending.” Well, if we look at what happened to the market during those years, when all of these spending projects took place, it went up significantly.

You know, 1933 was a banner year in the stock market. And that was right in the middle of the Depression. 1934 — banner year. ‘35 — phenomenal. ‘36.

The Market Drops When Risk Goes Up

Now we had, of course, toward the end of the ‘30s, you had Hitler making some waves over in Europe. So there was a downturn in the market as a result of that. Naturally being, because when there’s more risk, now you look at that and go, “Well, was it because the economy was bad? Or was there something else?”

Well, there could be two things. Number one, the economy could be a little bit shaky during those types of things, but also risk goes up.

So let’s say that I require a 10% return on my money. That’s what I need. I’ve got to have that. During normal times, I need a 10% return.

And let’s say that there’s no growth in earnings. Let’s just use that price that we pay. Historically for stocks, we pay $10 for every dollar of earnings. Okay. So I get a dollar of earnings for each $10 that I pay. One divided by ten is 10%.

Okay. Now let’s say that all of a sudden, I go, “Oh man, you know what? No, no. I need a 20% return on my money. Things are just too risky. I see things going on in Europe. It’s scary.” Whatever.

So what do I do? I go, “I’m not going to pay $10. I’ll pay five. I’ll pay five for that dollar of earnings.” Well, one divided by five is 20%.

So what have I done? The market dropped. Why? Because earnings dropped? No, earnings stayed the same. It’s still one, right? The reason it dropped was because the risk was higher. So that is another factor in all of this.

Now, when the market dropped, it dropped because of risk. And we could say, “Well, if the risk didn’t show up” — which was brand new information, and we go back to what we were just saying. Was it brand new news that the government stimulus was going to be out there? And was it something that nobody knew? No, obviously it was known by everybody.

When Our Own Bias Confirms Our Reasoning

Now if, all of a sudden, we have a brand new piece of information that comes out that nobody knows about, then yes. Absolutely. That can affect the stock market. But what we’ll do is we will actually equate the two. We’ll say, “Oh, you know, the reason it happened …”

And people do this because, you know, I have something called confirmation bias that eats my lunch. I don’t know about you, but we kind of look for information that confirms what we believe. It’s a human thing.

And let’s say if I believe that because of the stimulus that the stock market’s going to go down — if the market goes down, no matter what the real reason is, then what I’m going to do is I’m going to say it was because of the stimulus. Because that’s what I expected.

So we don’t like being disappointed for some reason by, like, being right. I mean, that’s part of being human. We want to be right. Because we look good when we’re right. Well, if I come up with this belief that the market’s going to go down and it’s going to be stimulus related when it goes down, I’m going to blame it on that. And so there’s a lot of psychology that goes in all of this.

Jim Wood: I think there’s a lot of psychology in just about every aspect of what we do. And I mean, life in general, but so much in what we do. And this question really gets back to me. And it’s an excellent question. And it’s a very common question. But it’s a question at its heart, and what it’s really asking: “Is there some sort of market timing that I should be doing?”

Paul Winkler: Oh, sure. Yeah. That’s really what it gets down to. I think that’s primarily what we want to do is protect ourselves as investor from loss. And one of the ways that we do that is get out before markets go down and get in before they go up, if we can. And that’s the natural desire of all humans. And the reality is we can’t. That’s getting to the heart of it. Yeah.

Jim Wood: Not only that we can’t, but the professionals, as a whole, fail miserably at trying to do that.

Paul Winkler: Well, I think I’m a professional. So no, I can’t. And you know, it’s the height of ego to think that we can do it. And that’s exactly what happens is ego gets in the way of so many things. And our ego, as one of my friends put it one day, he says, “Well, your most expensive asset that you own is your ego.” And I think he’s dead-on right about that.

So we look at this and we say, “Okay, so this stimulus check, you know, can it decrease the stock market?” Well, what happened last time we had lots of stimulus? Well, lots of stimulus was in the 1930s, right? And lots of stimulus in the 1940s with World War II.

And did the market go down? Well, it took years. The stimulus started, really, and you’re going — ‘33, ‘34, ‘35, ‘36. It’s going up and up and up and up and up. So will it go down? Yep. Yeah, no question. It will. When is the thing that we never know.

Which Areas of the Market Benefit from Increases?

You know, you’ve heard me talk about this before, but you have downturns in the stock market of 5% or more happen about three times a year, downturns of 10% about once a year, historically. So if we look back through history, we go, “Yeah, downturns are very, very common.”

What do we attribute it to is the real challenge. And when we look at this stimulus and go, “Okay, so what did it do?” Well, it bridged a gap, is one thing that it did. Now, when will — and what’s happening to take its place right now? Well, what’s happening is places are opening back up.

Now, what we don’t know, necessarily, is what areas specifically are going to benefit more than others. So this is why we diversify so broadly. Now I said all of that. Now, if you look at various market segments and we say, “Did it temporarily increase the value of the stock market?”

And then we have to ask ourselves, “Which stock market?” would be the next question that we want to ask. If we look at large U.S. stocks, those companies are selling for about $27 right now for every dollar of earnings. And that is partially because if you look at earnings over the next year or so, they’re going to be so much higher than the normal, and because of the growth in earnings, because earnings were so stymied for so long — last year, just being kind of nothing happening — that the growth in earnings is actually expected to be much, much higher. So that higher price, that $27, is higher than normal, historically normal.

But is it obscenely high? No, not at all. Why? Because the number in the denominator, that $1 of earnings — so it’s price divided by earnings, 27 divided by one — that $1 in the denominator is expected to grow much more rapidly. Why? Because it was so stifled for so long.

So if that grows to, let’s say it’s 30 just to keep the numbers nice and round for you. Let’s say it’s 30-to-1. If, all of a sudden, that grows to $2, because simply we’re starting to sell, we’re opening up things and starting to sell more things. Now that number, if it grows to two, now it’s 30-to-2. Right now, if it’s 30-to-2, what’s the ratio? It’s 15-to-1. Comes down to something much more reasonable, number one.

Number two, large U.S. stocks is really the only area of the market that’s up at that level when we look at it. And we see that other areas are, like, 18 and 14 and 10. If we look at emerging markets, value companies, about $10. And if you look at small-value companies, about $14.

So already most areas of the market out there are in much, much lower prices compared to earnings, even considering that the growth and earnings that are likely to happen over the next year are going to be greater than normal. And we hear about that too. What are the growth in earnings? What’s expected? What kind of growth rates are we going to be seeing over the next year?

And right now you’re hearing that number being much more inflated than normal. Why? Because of literally what I’m talking about here.

Expect Downturns to Occur Regularly

Now, if we look at other things like what are companies selling for compared to the book values, the assets, we see that those numbers are very low as well. You know, if we look at large U.S. companies, it’s over $4 for every dollar of assets that the company has. Well, that may be a little bit higher than normal, but it’s the only area of the market that’s up that high.

I’ll just run through them without naming names on asset categories: 1.36, 2.04, 2.25, 1.33, .96. Yes, under one: .96. And then you got 1 and 2.09, and .85. Those are all prices that companies are selling for compared to book value in other asset classes around the world.

Now you look at those numbers and go, “None of them are really that high, terribly.” I mean, seriously, a historic norm for the S&P 500 is about 2.4, 2.7, somewhere in that neighborhood. And you look at that and go, “Yeah, well, you just said — I heard a bunch of under ones and some ones and 1.33, and so on and so forth.”

So you look at that and go, “Wow, okay. Maybe the market’s not overpriced. And there isn’t all this ‘irrational exuberance’ going on, as Alan Greenspan said in the mid-1990s. Maybe it’s not so terribly awful out there. And maybe a lot of this stuff about the stimulus being overblown and it being a surprise, certainly, is not necessarily right.”

So does it mean the stock market can’t go down? No. Like I said, you can expect about a 5% downturn about three times every single year. Throughout history for the last hundred years, that’s about what happened. 10% returns, intra-year. Now that doesn’t mean the market stays down for the year.

Jim Wood: And each one is going to be reported as if it is the next apocalypse.

Paul Winkler: Yeah. That’s absolutely true. You know, you take a 10% decline in a stock market, and that’s a huge number right now. It’s a huge number right now. But the reality of it is, does that even mean that the market will be down for the year? No, not at all.

You have — once a year, I said, 10% downturns occur. Well, if you look at the years, you hear me say two out of three, three out of four years, the market’s up. So obviously if you have 10% downturns every single year, on average throughout history, then that must mean that markets recover far more than what the loss was.

When it goes down 10, it must come way higher than 10 at some other point in the year to more than make up for the loss to end up at a gain most of the time. So just keep that in mind.

Great question. And you know, if you’ve got a question that you want to run by us here, PaulWinkler.com/question is how you ask that. And actually we’re going to email you the segment after we record it, if you don’t happen to hear it live. So thanks. Appreciate it so much, Joey.

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