Already, 2020 has turned out to be quite the year for the FTSE 100 index, even though we are just one quarter in.
From an economic standpoint, the COVID-19 pandemic will most likely plunge the global economy into a recession. A recession is defined as two quarters of negative GDP growth. Some banks are estimating U.S. GDP will shrink by 25% in this quarter alone.
While we do need to be cautious, there are plenty of reasons to think the FTSE 100 stock market could bounce back. But given that the index currently trades around 5,660 points, is 6,000 points overly ambitious? Let’s look at the reasons first.
1. History shows a V-shaped recovery
When we have seen a drop of 25% or more in the past, the market has bounced in a V-like formation. This means that the sharp fall is the first part of the V, and the sharp rally straight after is the second half of the V. I’m hopeful that as quickly as the market fell, it can retrace higher just as quickly.
2. Bad news is already priced in
The steep fall to current levels reflects investors’ concerns about the UK economy as a whole. Given the size of the fall relative to the actual, confirmed economic data, any releases that are better than expected should see the index rally.
3. Sentiment is already becoming more positive
In the past few days, China reported no new virus deaths for the first time. Numbers in Italy also appear to have peaked. Should this global news continue to improve, investors will likely return to buying into FTSE 100 stocks.
4. Dividend cuts will support mid-term share price growth
Several FTSE 100 firms have trimmed or cut dividends completely, retaining needed cash flow for business. This should aid mid- to longer-term profitability, translating into higher individual share prices. As a whole, this should push the FTSE 100 index higher.
5. Generous government support
Policy measures such as the ability to furlough staff enable companies to reduce costs while unable to operate at full capacity. This should reduce indirect costs and help firms operate efficiently in the short term with limited detriment.
Given all of the above, I think that the downside in the stock market from here is limited. I agree the disruption caused by the virus will linger for a long time. That is why I am not making an outlandish claim of 7,000 points or similar. But 6,000 points by year-end reflects a 6% gain from current levels. This gain won’t happen in a linear fashion, as volatility is likely here to stay. But that volatility should start to take on more of a positive nature.
To capitalize on this potential bounce, look at two of my favourite stocks stocks within the FTSE 100.
Jonathan Smith and The Motley Fool UK have no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.