In the last six weeks the markets have seen the best of times and the worst of times:
- From February 19 to March 23, the U.S. stock market saw the quickest meltdown in history, for a loss of 33.9% on the S&P 500. Then its 17.5% gain from Tuesday through Thursday of last week made for the best three-day stretch since the 1930s.
- Of the 21 trading days between February 27 and March 27, a total of 18 days saw moves in the S&P 500 of more than 2%: eleven down and seven up. They included the biggest daily percentage gain since 1933 and the second-biggest percentage loss since 1940 (exceeded only by Black Monday in 1987).
- From March 9 through March 20, issuing a new investment-grade bond seemed inconceivable. Then last week’s news of the government’s rescue package enabled 49 companies to issue $107 billion of IG bonds. That made it the biggest week for issuance on record; part of the biggest month on record ($213 billion from 106 issuers); and part of the biggest quarter on record ($473 billion, up 40% from the first quarter of 2019). In fact, there was more issuance last week than in nine of the 12 months in 2019.
The Positive Case
No one thinks things are good right now, but the optimist’s view is built around the early cessation of bad news and the arrival of better news in the not-too-distant future. Here are the components:
- The earliest countries to contract the virus have shown good progress. The reported data on their new cases has flattened, and in South Korea, more people are being released from the hospitals than are entering. Hermann Dambach reports that the numbers are improving in Italy, Germany and Austria.
- Every forecast I’ve seen assumes the virus will be brought under control within three months or so. The curve is flattened and then turned downward. The virus is contained and then eliminated.
-
- Testing identifies those infected, and isolation/quarantine keeps them from infecting others.
- Herd immunity develops, reducing the number of people capable of transmitting the disease.
- Warmer weather causes the disease to recede.
- Treatments are found that aid recovery.
- A vaccine is developed.
- The negative impact of the disease on the economy will be sharp but brief. The term “V-shaped” dominates most forecasts, both between Q2 and H2 and between 2020 and 2021. Thus, for example, one forecaster who has the earnings of the S&P 500 companies down 120% in Q2 thinks they may rise roughly 80+% in Q3 on a quarter-over-quarter basis (that is, to down just 20% from 2019) and then rise by a further 50% in Q4. And after a decline of 33% in 2020, earnings will rise by 55% in 2021 and exceed what they were in 2019.
- Telling people to stay home – and thus causing businesses to close – is the economic equivalent of putting a patient into a coma to facilitate curing a serious disease. The government will provide life support to the economy during the coma and bring the patient out of the coma after the cure has been effected.
The economic recovery will be abetted by better news about the disease, but the improvement will mainly be the result of the success of the Fed/Treasury package of rescue and stimulus. These organizations have announced unprecedented expenditures and have indicated that they’ll do whatever else it takes. Actions that were taken after months of deliberation in the Global Financial Crisis have been rolled out in the early weeks of the current episode. Further steps are likely to include everything anyone can think of and be unconstrained as to amount.
- The banks are much less vulnerable than they were during the Global Financial Crisis, with only a third of the leverage. Thus concerns for the health of the overall financial system are greatly reduced.
- The U.S.’s effective private sector will supplement the public health efforts of government, producing massive amounts of supplies and equipment, and developing testing, treatments and vaccines.
- The price declines of securities will draw in buyers, and ample capital is available in the form of dry powder in funds.
Summing Up
The bull case from here seems to be that monetary policy will work, fiscal policy will kick-in, valuations have reset, society will follow effective healthcare policies (e.g., social distancing) that will be effective, the real economy will adapt, and geopolitics will remain subdued.
Bear case: Unemployment goes to 20%+. Everything does NOT go back to normal before at least a year or two, and in the meantime, there is a huge demand shock. The effects of the lockdown on businesses as well as the oil shock create depression-like conditions.
The world will be back to normal someday, although today it seems unlikely to end up unchanged. What matters most – in terms of both health and finances – is how we do in the interim. At BWFA we are working hard to make sure your portfolio is matched with your long term financial goals. If you have any questions or would like to review please call us to set up a virtual meeting. We hope you and your family stay healthy during this crisis.
Robert G. Carpenter