I hope this note finds you and your family well as the COVID-19 virus escalates and alters each of your daily lives. We recognize that the news emanating from this virus has rattled financial markets and increased portfolio volatility in a manner most likely not observed since the Great Recession of 2008-2009. While we certainly cannot shift market sentiment or alter the trajectory of the virus, we remain on call to respond to your concerns, thoughts, and questions.
What we are constantly assessing at Clear Harbor is the degree to which current market prices have priced in the depth and duration of the COVID-19 virus and its impact on the economy and capital markets prices. Are the panoply of current risks already reflected in market prices? Is this a moment to allocate excess capital into these incrementally depressed priced holdings or are there dark clouds on the horizon that have not been pondered and reflected in valuations?
During these tumultuous times we are steadfastly focused on your portfolio and associated risks while also eager to respond to any concerns that you have pertaining to your financial picture and overall market volatility. At Clear Harbor, we remain disciplined in our process and steady-handed in our approach to managing your wealth and monitoring the ebbs and flows of markets. Inspiration for this approach can be found in the words of the great value investor Benjamin Graham who once proclaimed:
“The investor’s chief problem—and his worst enemy—is likely to be himself. In the end, how your investments behave is much less important than how you behave.”
Americans understand the impact that the COVID-19 virus is having on their everyday lives. This is why the vast majority of the population has already grasped the seriousness of the moment and why it is having such a significant and immediate impact on the economy and financial markets in such an abrupt fashion. We expect economic data released in the coming weeks and months to support this observation. There could also exist a silver lining in this abrupt shift in market expectations: positive news surrounding treatments and perhaps a vaccine eventually enters the public domain, confidence rises, and economic demand and activity accelerates. We are not calling for a V-shaped recovery. However, unlike the Great Recession of 2008-2009, the foundation for a recover is a health-related catalyst rather than a more seemingly abstract cleansing of our financial system. With that said—and perhaps content for a future Clear Harbor Flash commentary—the current economic woes facing our nation were born well before the onset of the COVID-19 virus and were merely accelerated by this most unfortunate health crisis: rising public sector debt loads, declining demographic tailwinds, and the forces of deflation born from technological advances impacting vast swaths of our economy.
Fiscal and Monetary Response to COVID-19:
Late on Friday night, Congress passed a bipartisan bill to assist employees and employers particularly impacted by the abrupt shift in economic conditions sparked by the COVID-19 virus and related government mitigation actions. The bill funds temporary paid family medical leave, free COVID-19 testing, and an extension of unemployment benefits.
Yesterday evening, the Federal Reserve Bank announced—in coordination with the central banks from the largest developed nations—a plan to repurchase up to $700 billion worth of US Treasuries and US agency Mortgage-Backed Securities while also reducing the Fed Funds rate to near zero. The purpose of these actions is to reduce stress on the ability for banks to lend to one another, offer loans to businesses, and reduce the short-term financing costs for corporations large and small. This is a remarkable action for a FED who nearly one year ago hesitated in recognizing that raising rates aggressively in 2018 was a policy error.
While we anticipated that the FED would ultimately cut rates to the zero bound, we also recognize that their current policy tools are more blunt and less effective now that they are already at the zero interest rate bound. Could Congress empower the FED to embrace more unconventional approaches to market stabilization such as the ability to purchase corporate bonds and equities?
While we certainly would like to accurately peer into the next several days and weeks with greater confidence that virus treatments and perhaps even a vaccine will soon exist, we honestly cannot make such a prediction at this juncture. The experts that we rely on for such insights cannot either. Are there some initial indications the Gilead’s COVID-19 treatment test results could arrive earlier than April? Yes. However, these results could either boost market confidence or rattle it further. While we understand the anticipated growth of COVID-19 cases and therefore expect a dramatic rise in positive cases in the days ahead, it is unclear to what extent the equity markets will react to this evolving trend.
It took just over three weeks to see equity markets reach an all time high only to drop by more than -20%, the fastest such bear market move of this magnitude in the history of the S&P 500. In contrast, it took 42 days for equities to correct by more than -20% from its peak in 1929 and 42 days for the market to correct by more than -20% in 1987.
While some may fret more over this than others, we do believe that the broad public awareness and impact to COVID-19 has clearly entered the mainstream conscience of nearly every American. As such, any positive catalyst on the epidemiology front focused on COVID-19 could turn the tide in an abrupt and positive fashion on both the health and economic front. We are certainly not there yet.
We expect a significant decline in economic growth at least over the next two calendar quarters—and perhaps into late 2020 and 2021. Much is dependent on the duration and depth of this virus. Our base case is one that does not anticipate positive domestic economic growth this year with global growth projections underwhelming significantly as well. Look for GDP projections and corporate earnings projections from analysts to continue ratcheting downward in the coming days and weeks.
While we articulated in our 2020 Outlook commentary a view that earnings in 2020 would need to catch up to the expanded valuation of the equity market from 2019, the COVID-19 impact has clearly altered the likelihood of this coming to fruition. And while fundamental earnings-based valuations serve as a basis for us to have conviction in the equities held in client portfolios, it is challenging to estimate fair value of a company or overall market when the timing, depth, and duration of this current public health crisis is unknown. We can find some solace in owning and perhaps buying equites at levels that are substantially below their February peak. However, we also must recognize that the earnings power of the overall market is significantly lower today relative to the commencement of this year. Volatility is also extraordinarily high with daily swings of 3%-9% more likely than 0.3% to 0.9%. These are no normal times.
As we wade through these moments of uncertainty, the team at Clear Harbor remains steadfastly committed to advising each of you and overseeing your wealth in the most prudent and effective manner possible. Please do not hesitate to reach out with any updates, comments, questions, and concerns.The health of you and your family remains at the forefront of our thoughts during this most challenging time.