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1) David it seemed like last week lasted a year instead of 5 business days, but this time last Monday when we spoke I don’t think either of us could have predicted what would unfold. That day, S&P broke thru the 2200 level and the markets had their worst day since 1987, only to be followed by an almost 20% moved back up b/w Tuesday thru Thursday!! I have heard that Bear Market rallies can be violent, some even call them “rip your face off” rallies. Is that what happened and maybe more importantly is that what we can expect going forward?
In broader terms, the MSCI All Country World Index plummeted roughly -34% from its February record high to its recent low on Monday 3/23/20. So far, it has recovered more than 25% of that loss. To our view, it reflects the “buy the rumor” effect of the U.S. Government providing large scale fiscal and monetary stimulus in the hopes of tiding over the economy during the worst of the COVID-19 Coronavirus (“COVID19”) outbreak. The $2 Trillion fiscal relief package was a record. Record relief served to generate a record relief rally.
However, now investors will have to contend with following “sell the news” phase as there still remain significant “known unknowns” and “unknown unknowns” that will likely serve to keep financial markets volatile. Nevertheless, there is encouraging news in that Congress is already at work on a Round 2 fiscal relief package and The Federal Reserve (the “Fed”) is fully committed to providing further monetary relief, both of which may be necessary should COVID19 containment measures effectively shut down the U.S. economy going into May 2020.
2) In addition to the market movements, we have some very good news out the Fed last week. They unleashed an unlimited QE for pretty much anything and the stimulus bill doubled in size ($1 trillion to $2 trillion) So, does all that justify potentially the best week for stocks since the 1930s?
Thankfully for us all, The Fed following the 2008 Financial Crisis put in place an annual Stress Test to ensure that should a similar financial meltdown occur that the U.S. banking system would be adequately capitalized. Now, instead of a regulatory exercise, the Fed finds itself essentially living in its own simulation.
Relative to a range of metrics, the current downturn is tracking close to levels the Fed had anticipated. For 2Q20, GDP growth is likely to be -10%. The unemployment rate is forecast to hit 6.1%. The yield for 10-year Treasuries bottoming at 0.7%. For corporate BBB bonds, the spread widening out to 550bp by 3Q20. The DJIA bottoms at 16,581 in 4Q20. At the worst close of 2020 on Monday 3/23/20, the DJIA was just 11% away. Not a bad call, in other words.
The Fed has its eye on the ball and investors should be encouraged by that.
3) Thursday’s historic (not in a good way) jobless claims was something for the record books. 3 million claims was essentially 5X the peak of jobless claims during the financial crisis. Was it simply an anomaly related to the virus (mostly restaurant, hotel and other service jobs that will come back) or does this set up for something worse?
Depending on how long it takes to contain COVID19, there are going to be long-term shifts that affect how different sectors perform once the broader economic recovery takes root.
For example, with a constant effort to sustain profitability, corporations will take this time to consider what is the right size of their current employment footprint. The sudden shift to “work from home” leads to a distributed workforce that now no longer needs office space previously used. Considering that long-term leases comprise a substantial fixed-cost, managements may decide shifting to a more distributed workforce is a viable option in light of how well the arrangement performs in the current economic downturn.
At the same time, technology companies who provide the platforms used by this new distributed workforce will see a structural shift in their favor. So, some of what we are experiencing in the unemployment rate is clearly a reaction of shutting down the travel, leisure & recreation service sectors, but there will be a longer-term trend that reflects corporate “right-sizing.”
4) I touched on the Stimulus package at the beginning of the show and while it’s big I am concerned about its true effectiveness. I read a report where an economist tried to gauge how much time the $2 trillion stimulus would buy the economy by using the 2019 total dollar U.S. GDP, which was $21.43 trillion. The $2 trillion figure is about 9.3% of last year’s GDP so he took 9.3% of a calendar year 34 days or just over a month. From a very high level, it looks like the stimulus will “buy” the economy a little over a month of partial shut-down. So if we go back and say essentially the economy began to shut-down on around mid-March (say March 15 for illustration) then that means the stimulus can help offset the loss of growth essentially to late April. That is scary when you realize that the new cases of the virus might not have even peaked in the US by that time. Should we expect another package or was his math wrong?
As mentioned earlier, Congress is said to be at work on a Round 2 fiscal stimulus package. This is most likely to be confirmed shortly as over the weekend federal social distancing guidelines have been extended to Thursday 4/30/20, something that will clearly serve to suppress the U.S. economy into May 2020.
While the Round 1 package had significant relief for businesses, it will be interesting to see if the Round 2 package offers more consumer-oriented measures such as student debt relief. Remember there are elections coming up in November 2020, if not sooner.
5) As we bring another episode to a close David, is there any guidance you could offer to our audience as they are trying to navigate these markets? For example, I have been asked a lot recently when is the bottom and when should I start buying and my response has been the only people who really “nail the bottom” are liars and lottery winners.
Nothing moves in a straight line, except perhaps a line drive in the now non-existent baseball season.
We expect markets to be volatile as investors are buffeted by negative COVID19 news reflecting what is truly a global tragedy. Nevertheless, investors should understand that substantial fiscal and monetary relief will continue and not just from the U.S. but from other countries as well. This flood of liquidity should serve to provide a floor under the markets.
That said, there are “unknown unknowns” that have not by their very nature been priced into the market. Should there be a sudden shock from an “unknown unknown” that creates a -15%+ decline (2100 on the S&P, in round numbers), that would fit with the 2008 playbook we have discussed previously. Buying that new low would feel awful, but it would also be a signal to policymakers that they will need to take further steps.
Know that in periods of crisis, capital markets drive policy response.