Speaking on Money 04/29/2020

It’s a big week for economic data.

The U.S. Federal Reserve meets today to discuss further intervention to rescue an economy and job market embroiled in the worst catastrophe since the Great Depression.

The European Central Bank and Bank of Japan (their region’s version of our Federal Reserve) also meet this week to discuss additional intervention on their respective parts.

Here are the facts:

• In the past five weeks 26.2 million people filed for unemployment. More to come Thursday.
• We have now spent the equivalent of 7% of U.S. GDP in rescue money. Highest in the world.
• U.S. and European manufacturing activity low; purchasing managers index (PMI) at historic low.
• Twenty-three large U.S. companies have suspended their dividend
• Boeing announced a 10% workforce reduction
• Oil price crash. 1st time in history a barrel traded at a negative price (last week).
• Amazon, Apple, Microsoft, Google and Facebook make up 20% of the S&P 500
• Consumer spending comprises 70% of U.S. GDP ($14.8 trillion)
• Q1 GDP fell 4.8%. Largest since the 2008 financial crisis.
• In the ’08 crisis the market was down 50% from high to low
• The 2020 market crash saw -19.6% from high to low
• Economic incentives are high for a drug company or university to develop a vaccine
• Short periods of bull markets occur during longer bear markets
• The Fed is buying investment assets to prop the economy. They only do that in a crisis.
• The Fed is keeping interest rates near zero

Here are the opinions (mine and others):

• Some credible economists predict Q2 GDP to fall as much as 40%
• The numbers of unemployed could hit Great Depression levels of 24.9% before this is all over
• Even a White House economist thinks unemployment could hit 20% by June
• The world’s best epidemiologists predict a Fall/Winter resurgence of CV-19
• Federal budget deficit could hit $4 trillion by year-end
• Our great grandchildren will be saddled with paying off this debt
• This crisis is far worse than the 2008 financial crisis
• This recession will be far worse than the 2008 Great Recession
• The path to economic recovery after Q2 is very unclear and highly dependent on a vaccine
• Past stock market recoveries tell us it could be 18 -36 mos. to get back to the 2/19/20 high
• We face a protracted global recession
• China purchase of U.S. goods far lower than their Phase-One deal commitment
• A vaccine could still be 12-18 mos. away
• The recent bull market is driven by the colossal amount of federal rescue money pumped-in

In Summary:

These facts and opinions do not support a stock market that is only about 13% off its high (reached on February 19, 2020). The February stock market was arguably overvalued.

It would have taken a 26% decline from the 2/19 high for the market to return to historically average levels (as defined by its price to earnings ratio). We were already in the longest bull market in history (11 years) before COVID-19 appeared. It was due for a correction. It’s still due for a correction, greater than where it currently stands.

The investment industry is fond of pointing out that “past performance is not indicative of future returns”. While that is true, we also know, “history repeats itself”.

Studying significant stock market crashes from the recent past tells us there are often bull market periods within bear markets. In a major market reversal, the peak to trough can be a 50% swing and can take from one to three years to settle, before beginning a prolonged upswing.

The economic damage already done is dramatic. The amount to come could be staggering.

I’m not a market-timer and don’t believe a complete exit of the stock market is a winning strategy. Instead, I prefer using asset allocation to manage portfolio risk. Sometimes we “underweight” an asset class and sometimes we “overweight” one. For example, many portfolios are currently “overweight” in cash but not zero-weight in stocks.

It has become somewhat of a religious argument in the industry. Some think the worst is over and others, that it is yet to come. What puts me in the latter camp is the enormity of recovering a $21 trillion dollar economy to its former level. It feels like an activity over several months or a few years, vs. weeks or a few months. The ultimate answer may hinge on whether the promise of a therapeutic or a vaccine presents itself.

My orientation right now is on the more conservative side. That may not be your orientation, in which case I remain ready to discuss the best path forward for your portfolio.

Here’s to more normal times.

Ron