A stimulus package is a coordinated effort by the government to increase spending and investment to "stimulate" an economy out of a downturn. On March 25, 2020, in response to the economic impact of the lockdown needed to control the spread of the COVID-19 coronavirus, the U.S. Senate voted to approve a $2 trillion stimulus bill. This was quickly followed by similar acts enacted by governments worldwide, most notably the E.U. (€750 billion) and the U.K. (£30 billion).
How can I use news about government stimulus packages when I invest in stocks?
- You can use it as a gauge on how the stock market will perform in the near future. As a stimulus package attempts to increase aggregate demand and spending, you can expect stock prices across sectors to rise as buying demand is boosted. Before a stimulus package is approved or rolled out, investors may already start buying stocks as they are optimistic that the package will be rolled out and will boost the overall economy. For example, when U.S. Speaker of the House, Nancy Pelosi announced on October 22, 2020, that a stimulus deal is near, the Dow rose by 0.57% while the other indices like S&P 500 and Nasdaq Composite rose by 0.46% and 0.16%, respectively.
- However, not all stimulus package is good news for the stock market. In February 2009, when a $787 billion stimulus package was rolled out to boost the economy amidst the subprime mortgage crisis, the stock market still spiralled with the Dow falling almost 3%. Investors' pessimism triggered the major sell-off, on the belief that the government's intervention to jump-start the economy may not be bold enough to stimulate the economy. Thus, a stimulus package is only as good as investors' confidence in it, and you should research and understand the market sentiment well before jumping onto any "stimulus bandwagon".
- The medium-long-term stimulus also raises the prospect of inflation (there will be more money in the market), which tends to make equities more attractive.
- A stimulus package is usually a part of a more extensive quantitative easing ("Q.E.") program, which increases overall risk appetite, which in turn again makes equities more attractive (particularly momentum-driven or growth stocks) as investors "hunt for yield".
Debt to Equity Ratio
Used to evaluate a company's financial leverage and is calculated by dividing a company's total liabilities by its shareholder equity.
Profit is the financial benefit realized when revenue from a business is higher than the costs and taxes involved in operating that business.
Alternative investment class composed of funds that invest directly in private companies or that buy public companies and take them private
Time of declining economic activity, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and sales.
A stimulus package is a coordinated effort by the government to increase spending and investment to "stimulate" an economy out of a downturn.
Shorting a stock
Trading strategy that tries to take advantage of the decline in a stock price by borrowing a stock and sell it now while planning to repurchase it later for a lower price.
Market-capitalization-weighted index tracking the performance of the 500 largest U.S. companies