Markets Can’t Ignore These Four Crucial Uncertainties

Mohamed A. El-Erian

02 Apr 2020, 01:47 PM IST

(Bloomberg Opinion) -- Falsely reassured by large end-of-quarter rebalancing inflows into stock markets, many analysts and market participants still seem to be resisting four significant uncertainties. Until these are incorporated into corporate earnings expectations and asset valuations more fully, the risk of sudden bouts of market volatility and dislocations could spill over into an economy already hard hit by the coronavirus.

Toward the end of the first quarter, with stocks down 20% to 30% in many markets around the world, astute market participants positioned ahead of what they expected would be a heavy inflow into equities because of automatic portfolio rebalancing. They covered their shorts and some went outright long on equities to ride the wave triggered by this rebalancing. That combination contributed to the best week of U.S. stock market performance since the 1930s and led some to declare that the market has bottomed and act accordingly.

Such a short-term market reaction is consistent with what is still considerable resistance to the sweeping uncertainties surrounding four issues that are crucial to economic, social, corporate and market well-being:

The duration and severity of the economic sudden stops caused by the coronavirus, something that will be determined by medical issues and not economic and financial ones.
The time it takes for the policy-driven cash to get to struggling businesses and households and, therefore, to prevent liquidity problems from becoming more devastating solvency ones; and how some of the more financially exposed countries, including in the emerging world, will afford the required policy interventions.
The tricky restart for interconnected national, regional and global economies that were never wired to withstand a sudden stop well.
The changes to the post-crisis landscape that will include greater emphasis on resilience and a move away from efficiency; a lot more corporate debt in the context of poorer earnings prospects for many companies; a much larger differentiation between winners and losers; much greater entanglement of governments in private-sector activity; and a deglobalization trend, just to name a few of what is already a full one-page list I have on my desk.

The resistance to fully internalizing and pricing these large uncertainties should not come as a huge surprise. As I’ve noted repeatedly, economic sudden stops were familiar only to people exposed to fragile and failed states, or communities struck by a large national disaster. They have never been seen at the level of large economies, let alone the global economy as a whole. No economic model or corporate valuation model I know of can easily incorporate the range of uncertainties associated with the known-unknowns cited above, let alone what is likely to be considerable unknown unknowns.

As high as the overall operating uncertainty is, both in the immediate and longer term, the response of economists and market participants should not be paralysis either. But rather than try to provide precise economic forecasts or call a specific market bottom, they should opt for trends, ranges and principles. These are likely to guide them better in the bumpy journey ahead than attempts at inevitably false precision, as tempting as that is.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

Mohamed A. El-Erian is a Bloomberg Opinion columnist. He is the chief economic adviser at Allianz SE, the parent company of Pimco, where he served as CEO and co-CIO. He is president-elect of Queens' College, Cambridge, senior adviser at Gramercy and professor of practice at Wharton. His books include "The Only Game in Town" and "When Markets Collide."