GE and other industry stocks are pricing in a Covid recession. What there is to know.

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A caterpillar removes the remains of a demolished house

Denis Lovrovic / AFP via Getty Images

Investors should be concerned about second quarter earnings. But Covid has become the main concern of investors. Industrial stocks are a good indicator for the overall economy. The massive sell-off of these stocks sends a warning signal: another Covid-related recession is possible.

Recession is a scary word for investors. Still, they shouldn’t overreact. Things shouldn’t be as bad as they were in 2020, but if it does, stocks are sending another signal, too: don’t panic.

In the age-old struggle between fear and greed, fear wins out. the

Nasdaq Composite Index,

the

S&P 500,

and the

Dow Jones Industrial Average

are all down over 1% and the Dow Jones is down over 2%.

This cascade of drops is interesting. The Nasdaq is home to many high-value tech stocks that have performed well in 2020, amid fears of a maximum pandemic. Software companies have been able to move businesses to the cloud and keep home workers productive.

The Dow, on the other hand, is home to many industrial stocks from the old economy such as

caterpillar

(CAT) and

Exxon Mobil

(XOM). The more pronounced drop in this index indicates that investors are a little worried that 2020 will repeat itself.

Dow Jones industrial stocks are hit harder than the index itself. Caterpillar’s stock is down more than 3%, while the commercial aerospace giant’s stock

Boeing

(BA) is down more than 5%, as is the inventory of power generation and aerospace equipment supplier General Electric (

GE

). It appears that after a very strong cyclical recovery coming out of the Covid-19-induced recession, investors are starting to take profits in their cyclical industrial trading.

Monday, however, is only part of the problem for the industrial sector. Stocks were down from recent week highs. Caterpillar stock is down nearly 20% from its 52-week intraday high of $ 246.69 per share, while shares of GE and Boeing hit their 52-week high in March. Both are down about 17% from those highs. Additionally, all three stocks have fallen about 15% in the past three months.

Declines of 10% or more are not that rare or worrisome. Market and market corrections are generally defined as declines of 10-20% from recent highs. Corrections are part of any bull market and can create buying opportunities. For this to be a typical fix, however, fears will need to subside quickly, but they will not be if new lockdowns related to Covid-19 emerge. And there are reasons to expect they won’t. Billions of people around the world are vaccinated. While that doesn’t prevent all infections, it should keep hospitals from being overwhelmed.

Investors could expect a re-emergence of mask-wearing mandates and social distancing guidelines. But at this point, they shouldn’t assume another blackout for the US economy.

Even if Covid infections increase from here, most of the bad news could already be reflected in industrial inventories. A few calculations help justify the argument: Shares of Caterpillar, Boeing and GE returned around 40% of their post-Covid earnings.

At one point, this trio were up about 110% on average from recent lows. Now they are up about 70% from those lows.

If the aftermath of Covid-19 isn’t as bad as the original, investors shouldn’t expect those dips to be retested. If the second part of Covid is half as bad as the original recession, then industrial stocks are expected to fall, perhaps, by 50% from post-Covid highs. This implies another average decline of around 10% in stocks such as Caterpillar, Boeing and GE. Painful, but still only about half of what has happened before.

It’s one way to assess the potential decline – and the desirability – of Monday’s Covid fears. The calculations may sound strange, if not a little optimistic, but a lot of bad news from Covid seems to have been reflected in industrial stocks ahead of Monday’s stock market meltdown.

Write to Al Root at [email protected]

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