From the stock market peak of February 12, 2020 to its low point on March 23, the Corona Crash plunged the Dow and other market indexes almost 40%, wiping out nearly $10 trillion in market capitalization. The world’s 500 richest people lost more about a trillion dollars in wealth on paper. Collectively, Warren Buffet and Bill Gates lost about $10 billion each. Bill is now down to his last $100 billion. If you’re feeling sorry for him, you might start a Gates Go Fund Me account.
If your 401-k now seems more like a 301-k, you may be wondering where all the money went. Good question. While part of a company’s stock price is, indeed, based on its tangible net worth (the amount by which its assets exceed its liabilities), most of it is its projected value. Financial markets look to the future, and the value of a company’s stock is based on its prospects — good or bad -—as perceived by investors. The stock of companies whose futures look bright can sell at multiples of twenty or more times their earnings. The stock of innovative start-up companies, like Google and Amazon, sold at spectacular price/earnings ratios long before they were turning a profit.
Yes, you can cash in on the market value of your stock the day you sell it, but if you don’t sell it that day, you take your chances on what it will be worth tomorrow. Even the price of gold, a very tangible asset, goes up and down based on perceptions of changing conditions that might affect the economy like inflation, war or pestilence. An oil-drilling lease is worth a lot more before drilling starts than after a few dry holes. A house you bought for $200,000 could triple in market value over time, at which point you might calculate it in your net worth at $600,000. If the housing bubble bursts and the market value of your house drops to, say, $300,000, it takes your net worth on paper along with it. That’s still $100,000 more than you paid for it, but it feels like you just lost $300,000. It’s the sa
me with stocks.
Here’s another way to look at it. Assuming we have an NFL season this year post-virus, imagine you make a $100 pre-season bet in Vegas that the Broncos will win the Super Bowl. Given the team’s poor recent showing, let’s say you get 100-1 odds, which would yield a payoff in February 2021 of $10,000! Hypothetically, suppose the Bronco’s win their first six games. There’s a secondary market for that transferable $100 bet you’re holding. With the Broncos at 6-0, the odds they win the Super Bowl drop to 10-1, and someone offers to buy your Vegas ticket, for $1,000, making you a tidy profit of $900 on your initial investment. But you turn it down and go for riches. Then, the Broncos lose the next 10 games, finish at 6-10 and your bet is now worth zero. Where did the money go? Well, you never actually had it. The grand payoff prize was only a potential future value that didn’t materialize. In the end, you’re out a hundred bucks.
Collective optimism in a bull market drives up stock prices, in general. But bull markets don’t go on forever. Inevitably, the Law of Stock Market Gravity comes into play: “What goes up eventually must come down.” Collective pessimism has the opposite effect as demonstrated by the fear of impending doom brought on by COVID-19. Historic market crashes in 1929, 1987, 1999 and 2008 were driven by major financial shocks from things like over-leveraging, the S&L collapse, sector bubbles, the mortgage-market implosion or “irrational exuberance,” as Alan Greenspan put it. The Corona Crash is something entirely different. It isn’t a typical market correction. It’s a natural disaster, an international plague from an outside source that we couldn’t prevent. Mitigation was the best we could do.
From its pandemic bottom, the stock market has bounced back about 30% through mid-May as public spirits have lifted somewhat. To fully erase the Corona Crash, stock prices would have to rise about 60% from their low point, so there’s still a ways to go to get even.
As a future investment strategy, you might take Will Rogers’ sage advice on making money in the stock market: “Don’t gamble! Take all your savings and buy some good stock and hold it till it goes up, then sell it. If it don’t go up, don’t buy it.”
Longtime KOA radio talk host and columnist for the Denver Post and Rocky Mountain News Mike Rosen now writes for CompleteColorado.com.
