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by Charles Dumas, Chief Economist, and Andrea Cicione, Head of Strategy

The damage done by Covid-19 will result in a major recession and the bear grip on equity markets will tighten even further.

DM discretionary consumer spending is typically one third of GDP. A cut of 5% in Q2: GDP would fall 1.7%, (6½-7% SAAR). It could be more, it could be less – nobody knows, and there are no precedents. Such a Q2 decline would certainly spill over into Q3, reinforced by falling business capex and hobbling the nascent housing recovery. European consumer reactions to the threat of Covid-19 are likely to be as strong as in the US. And this doesn’t even start to consider second-round effects.

For the Stock Market, valuations tend to be 1 p/e point below average during a slowdown – though they dip more than that at the trough. Expecting, that the appropriate p/e to use is 16-16.5x forward earnings, we’re easily looking at the S&P near 2500 – itself a 26% drop from the February highs. If we get a p/e one standard deviation below average – not at all unreasonable in case of a recession? 14.5x forward EPS implies S&P 2,200-2,300.