Wealth Shock?

As we embrace, and navigate, ‘correction territory’, the industry label assigned to market drawdowns of 10% or greater, a soothing message from the 52 corrections that have taken place since 1950: they happen, and frequently. Market volatility is the price of additional expected returns. Don’t panic, this too shall pass.

With that said, an additional factor in this cycle has our attention that may have important implications for the growth trajectory of America: ‘the wealth effect’.

Buoyed by abundant liquidity, euphoric consumer sentiment, and two sensational years of returns, American stock market holdings rose approximately $300 billion to $56 trillion in 2024, a record high, according to data from the Federal Reserve:

At a little over 43%, equities represent the biggest component of household net worth in the US. By implication, any correction in asset prices will be acutely felt.

Shown in the chart below, courtesy of 3Fourteen Research, is the drawdown of US household wealth as a % of GDP (rolling three-month basis for smoothing effect).

With equity holdings at elevated levels coming into this calendar year, the 10% correction in the bellwether S&P 500 index has already erased household wealth to the tune of 12% of GDP.

For reference, this level of ‘wealth shock’ has only previously occurred 12 other times since 1950 (as evidenced by the table at the bottom LHS of the chart). Importantly, of these 12 cases, half either led to, or occurred, during recessions.

The good news: viewed through the lens of history, the current 10% correction is par for the course.

The bad news: second order effects including the impact on consumer wealth indicate the consequences could be more severe this time around.

With the top 10 % of America’s income earners now responsible for half of US total consumption, vigilance is warranted.

(Cover Image Source: Zlaťáky.cz)