US Markets Face Near-Term Volatility. Are We Headed For A 'Lost Decade'?

As the COVID-19 pandemic shows no signs of abating less than two months ahead of what is likely to be a highly contentious presidential election, some experts have issued grim near-term projections for the U.S. economy and markets.

Tony James, executive vice chairman of Blackstone Group, a New York-based global asset management firm, warned that the U.S. stock market faces a “lost decade” of weak equity returns and poor earnings.

“I think this could be a lost decade in terms of equity appreciation,” James, an attendant at the virtual Singapore Summit, told CNBC.

Since interest rates cannot sink any lower, they will eventually have to rise to more normal levels, he noted, thereby pressuring corporate earnings and stock prices. U.S. corporations will also face other challenges, he said, including higher taxes, increased operating costs, less efficient supply chains and the effects of deglobalization.

“All of that will [present] economic headwinds for companies,” he said. “So I think you can have disappointing long-term earnings growth with multiples coming in a little bit, and I can see anemic equity returns over the next five to 10 years.”

As for strong stock gains recorded since March lows, James attributed that largely to the Federal Reserve pushing interest rates down to near zero.

Since Mar. 23, the S&P 500 has surged 52% through Tuesday.

“Zero interest rates [are] the driving force here, near-zero interest rates,” he said. “There’s a hunger for yield so investors are coming off the sidelines – there’s still a lot of money on the sidelines, actually – and looking for investments that they can get some kind of returns.”

Although James thinks U.S. stocks are now fully valued, he praised the central bank for preventing a catastrophe through massive stimulus.

“The Fed move was unprecedented [in] size and speed ... without that, there was serious risk of spiraling down to a kind of depression and when you start having that credit problems, it will ripple through markets very quickly,” James added.

Meanwhile, Wells Fargo warned that stock market volatility may actually worsen after the November elections.

“Normally, you might think that it’s Election Day or Election Day plus one that is super volatile,” Michael Schumacher, managing director and head of macro strategy at Wells Fargo Securities, told CNBC. “But this year, markets are saying ‘Hey, wait a minute. We see a lot of [volatility] after the election.”

The CBOE Volatility Index, or VIX – popularly known as the “fear index” – has spiked recently, attributed largely to uncertainty over who will win the election and how calm any transition of power will be.

Schumacher suggested that volatility expectations are climbing because the election may have “a messy result.”

“Maybe the results aren’t even clear for a few weeks [after Election Day],” he said. “Maybe [uncertainties surrounding] Brexit gets onto the scene, as well.”

Schumacher also said that these concerns might drive investors deeper into safe-havens like Treasury bonds.

But Schumacher asserted that the COVID-19 pandemic remains the market’s biggest worry.

“It’s COVID number one, election number two, and the Fed probably number three,” Schumacher said. “If there’s a significant change in the progression of that disease, we think that could make yields go quite a bit in either direction, frankly.”

Also, JPMorgan Chase & Co reported that an enormous amount of cash may move out of stocks in the third quarter, pressuring share prices.

Strategists led by Nikolaos Panigirtzoglou said on Tuesday that as pension and sovereign wealth funds rebalance their portfolios – in order to adjust their holdings to desired limits -- they will jettison about $200 billion of equities.

“This negative rebalancing flow becomes even more problematic given this month’s sharp decline in equity market depth,” JPMorgan wrote.

Nonetheless, the JPMorgan strategists generally remain optimistic on stocks.

“For the medium to long term, we still see plenty of upside given still low overall equity positioning,” they said. “A retreat in equity and risk markets over the coming weeks would likely represent a buying opportunity.”