March 18, 2020

Secular Bulls Cyclical Bears

Stating that the virus is creating a recession is hard to predict, in my opinion, primarily because no one knows for how long economic activity will be impacted. But the markets are in the process of pricing in a recession, the media is supporting the notion and the sobering reality is they’re getting their way. Today’s activity is filled with messages to defend both points of view, namely those who predict a recession and those who are patient until they find out more.

The Market
The markets are declining in a manner that is a reminder that ETF’s selling has had a rough impact on the broad indexes at a time like this. When the time arrives to buy, often after the markets have risen already, the same ETF’s are the quickest way to get back into the game and that should give the asset type a boost. In the meantime, the most noticeable difference in today’s activity rests in the crisis mode, whereby everything is in decline including the assets in the way of the virus, such as stocks, and those assets that are seen as supportive, bonds and gold. Whether or not this indicates anything other than a mess is that today’s decline is coming on the same day Washington is expected to vote, and pass, a one trillion dollar stimulus package around which little is known until it is fully public. This is different for those of us who were invested in the financial crisis, namely as soon as Washington passed the stimulus package to bail out the banks, the broad indexes that had traded up for a few days prior, traded down hard and in a few months saw a bottom. This time, the impact of the stimulus will be harder to track, until economic and medical data present us with what we hope to see.  Today’s rise in interest rates also could signal some shifting views on equity valuation.

The Economy
The recent moves in the market are all about the economy. Whether or not one believes the outcome is recession or not floods the media and carries an air of confidence that I find unconvincing. When people are quarantined, the result is a run on resources for food and staples. But when you suspend schools, sports, cultural events, restaurants, resorts, air travel and employment, the result is the economy is going to contract. How much, is open for conjecture, and those in the industry who are always negative are calling for a second quarter GDP rate of -10%. But rather than call for a recession the aim of economists should focus on how the stimulus package helps dampen layoffs and how much corporations can use available capital to maintain some stability until more favorable news emerges regarding the virus. The Fed has done their work reducing rates without too much more to give. But in addition to the rate cut the intent to begin buying treasuries in the open markets and reducing the banking discount window, the window banks use in the event of emergency need, ensure that the banks, already stronger than in 2008, are prepared to present a stable financial system with the direct backing of the Fed. As far as the economy goes, data has been mixed, but it will take a few weeks of data representative of March activity to give a true signal as to the depth of the contraction.

External Events
In my opinion the financial crisis was the result of a genuine collapse in the economy resulting from a broken financial system. Today, the economy isn’t crashing, the economy is choosing to shut down with temporary intent. If a company that makes the choice to shut down for a specific period, is doing so with the capital at hand to manage the balance sheet. Companies such as Boeing (BA) are having exacerbated problems and restaurants are practically closing on demand as states double down on stopping any activity that include crowds of people. This has been further encouraged by Washington agencies and the recovery of those entities will be a bit shakier. In short, the difference between this crisis and the last crisis is in the interruption of the Secular bull markets of the last 10 years coming from a cyclical bear market. When resolved, that market needed a correction to continue its long term upward direction, and got more than anyone expected, more decline, and more opportunity.