Investment Commentary and Outlook for the Week Ending March 13th
The past two weeks saw many incredible events unfold around the world and in markets:
- Every major sports league effectively cancelled everything for the foreseeable future
- Conferences and other large scale gatherings were cancelled
- The Fed made an emergency rate cut of 0.50%
- The S&P 500 saw negative returns in 2/3 of trading days in March and of those days half of them saw returns of -5% or more (including March 12 which was the worst trading day since 1987’s Black Monday)
- The yield on the 10-Year Treasury is currently below 1% and has so far bottomed out under 0.50%
Given the events that have transpired and that continue to transpire, here are our thoughts on what it will take to start to see markets recover.
Recovery Is a Two-Step Process
First, the COVID-19 virus will need to be slowed to the point where it does not endanger the stability of the healthcare system.
Second, enough economic support will need to be provided to people who will be hardest hit by the measures needed to slow the virus (i.e. hourly workers affected by containment and social distancing measures).
So how do we get there? Here are some concrete steps that we think will bring us down the path of recovery:
- Declaration of a national emergency and rally the populous.
- Implement firm social distancing policies nationwide (work from home where possible, non-essential business closures, no crowds, limited public transit, etc.). We are already seeing this on a large scale, but more will likely need to be done nationwide.
- Government agencies working with the private sector to build significant capacity to specifically treat COVID-19 patients (e.g. convert convention centers or hotels into treatment and quarantine facilities).
- Congress passing an appropriate aid package for individuals directly affected by the economic slow-down. This will indirectly help companies and so it may not be necessary to do massive corporate bailouts as well except in unusual circumstances.
The fact that we are starting to see some of those steps take shape is promising. Other things that could aid a quick recovery would be the development of an effective therapeutic drug or a vaccine (both longshots in the short term) or if a new strain of the virus emerges that is much less dangerous and which starts outcompeting the COVID-19 strain. The weather may provide a bit of a reprieve, but this may prove to be only temporary as with the other coronaviruses which cause the common cold (i.e. they tend to peak November-April and there is a lull in the summer months).
What We Don’t Think Will Aid Recovery
There are things that we ultimately don’t think will aid the eventual market recovery. At the heart of the issues at hand is that fact that COVID-19 is causing supply chain issues and that to combat it requires people to not be out and about. It’s not about infusing capital into the markets. Because of that fact, we see the following steps that have been discussed or implemented as not being effective in solving the core issue, even though markets may perceive these actions as a positive for a time (and they may eventually help when a recovery does indeed start).
- Fed rate cuts (even to negative) – the Fed can do a lot to help restore liquidity, but it can’t slow COVID-19 or mute the economic effects of lots of businesses closing (even temporarily)
- Payroll tax cut – giving money to people who don’t need it (i.e. those still getting paid) will be ineffective as they will likely have no place to spend it
- Corporate tax cut – unless this is tied directly to spending the savings on employees out of work, this will also be less effective
- Income tax cut – similar to the payroll tax cut, this will infuse money into the system but people may not want or have places to spend it
How Are We Positioned?
Valuations alone could drive us to start to re-risk. As we see valuations improve, they are likely to start us on the path of adding more risk to our portfolios.
We have a close eye on credit spreads and may choose to buy high yield, for example, if we see enough good policy happening. Current spreads may also imply default rates that are in the region of where they were in the Great Financial Crisis. However, this view is evolving continuously and may change rapidly based on supply chains and other implications from social distancing.
We are also looking for compelling, relative value opportunities in markets experiencing significant liquidity dislocation as these can add value without adding risk.
For our clients we have already taken measures to minimize market volatility. We are not ready to add risk to portfolios at this time, but we are prepared to move quickly should the opportunity present itself.
To discuss your current situations with our team of experts contact us at USA@riverandmercantile.com