The stock market just had its best month since 1987. And the economy just had one of its worst months ever. How is this possible? What is going on? Is it all a conspiracy by the Fed? Are stock traders just insane? All of the above? What do we make of all this? Let’s talk about it.

First, the stock market is forward looking. So, while we see everything for what it is, the stock market is looking for what it might become. This ebbs and flows across time. The stock market’s fluctuations are a series of guesses about future outcomes. Warren Buffett always describes this as “Mr. Market”, a man (yes, a man) who is bi-polar, constantly screaming out his opinions in a manic way. Sometimes right, sometimes wrong, but never in doubt.

To better understand how the stock market thinks, let’s review the 2009 recovery. In November of 2009, when the financial outlook still looks dreary, the stock market was up 53% year-over-year, while the economy was up 1% year-over-year. The stock market is anticipating years of future growth. In that case, the market was obviously right. But, this is the way it will always look. The stock market will always sniff out a recovery before the data shows it because people are setting prices based on what they expect to happen, not what is actually happening.

But here’s the big thing the market is grappling with right now. As I noted in my piece saying this wasn’t the next Great Depression, the government’s response has been massive here. This is the kicker for the stock market:

Corporate Profits = Investment + Dividends/Buybacks – Household Saving – Government Saving – Rest of World Saving.

This is the Kalecki Profits equation. And it’s fairly easy to break down. Clearly, those first three items will be drags for the foreseeable future. Investment will collapse 30+%. Dividends and buybacks will slow 20+%. Household saving will spike 20+%. They’ll come back, but slowly. Government saving, on the other hand, has been a huge, huge boost.

The government’s deficit should be ~$3.7T this year. People don’t seem to understand how big this number is. And how big of a boon this is to corporate America because, ultimately, it all flows to corporations because Americans don’t save. Let me put it into perspective. Net investment, dividends/buybacks, household saving, and ROW saving all added up to $4.7 trillion in 2019. The government is going to generate 78% of that in 2020 all by itself.

So, here’s what the stock market is now grappling with – we have the potential for an unprecedented slowdown in the economy. Investment will collapse. Saving will spike. Dividends and buybacks will fall. But, then you have a colossal spending package from the government sector. So it’s not remotely surprising to me that the stock market has recovered, because it’s now trying to guess when those other variables recover. And if they do recover, then there’s a very real chance you’re going to see record profits in 2021 and 2022.

So, this isn’t some Federal Reserve conspiracy theory. This isn’t about the stock market being disconnected from reality. This isn’t the stock market enjoying death and job losses. This is mostly about an unprecedented government stimulus that is going to households and businesses and, let’s be frank, will not be saved by households because American households don’t save. And when that household saving number falls, which it will, the money flows right into the coffers of corporate America. The stock market isn’t dumb. It knows this. And it’s pricing that potential outcome in as we speak.