COVID-19 vs The Stock Market Q&A
Dear Friends,
In times like this, we are reminded that the most important things in life are our health, our family, our friends and our clients. I trust and hope you are managing as best possible during this challenging time.
I have had the opportunity to talk to many clients and friends recently about COVID 19, the financial markets, real estate and COVID’s overall effect on the U.S. and world economies.
It seems like just yesterday I spoke with many of you, and we discussed the strength of the U.S. economy and the markets. I recall commenting that at the time I did not see a recession within the next twelve months, all things being equal. Well, all things were not equal, as we did indeed have a “black swan” event.
So I thought I would change the format of our Vantage Point newsletter, and list the questions many have asked and give you my answers and thoughts.
Q : You have been working from home, how is it going?
A : Thank you for asking. We are sheltering in place and fortunately are doing well and everyone is healthy. Besides our office in San Francisco I have a complete office set up in Marin. So, we have been able to keep the continuity going, and having Schwab Institutional as our custodian has been helpful as well. Peter, our Client Services and Operations Manager, has done an outstanding job of keeping things moving seamlessly as well.
Q : What is your investment philosophy in the current market environment?
A : We will use stock market declines to add to high-quality positions as we see opportunities arise, however I don’t think we need to rush into this market.
Q : What do you make of the market volatility?
A : Having been through numerous bear markets and recessions, stock market volatility is not new to us. But I do feel this one is different. It is different because the market correction is not the result of a poor economy, but because of a pandemic. Another difference is the market is not trading on economic news but on COVID curve-flattening news.
Q : But why the extreme volatility?
A : The markets are going through a “price discovery” period, meaning they are trying to determine what certain companies are worth in the current landscape. For example, how do you value a company when you do not know what revenues and earnings are going to look like this year or next? Also, in periods like this, many stock buyers are sitting on the sidelines until things settle down. These types of factors magnify volatility.
Q : Will the Federal Reserve support the U.S. economy and the markets?
A : Yes. On Thursday, the Fed announced they were injecting $2.3 trillion into the U.S. economy to mitigate the impact of COVID 19.
Following the announcement of the injection, Fed Chair Jerome Powell said: “We are deploying these lending powers to an unprecedented extent, enabled in large part by the financial backing from Congress and the Treasury. We will continue to use these powers forcefully, proactively and aggressively, until we’re confident that we are solidly on the road to recovery.” In other words, the Fed was saying they would do whatever it takes to support the U.S. economy through this period.
Q : I s the market direction more focused on COVID 19 than company earnings for the moment?
A : Yes, but for a brief moment. The market is an anticipatory force, as it typically leads the economy by six to nine months. When it appears as though the number of new cases of COVID are flattening out, the market will move up. After the flattening of the COVID curve, the markets will set their sights on getting people back to work and establishing company guidance for this year and 2021.
Q : Earnings season is upon us, what are you focused on?
A : For us, it will be all about the companies’ forward guidance relative to their management’s projection of 2020, 2021 and 2022 revenue and earnings. We will also be keenly interested in factors such as the company’s financial stability, dividend coverage, and if they have enough capital to sustain the business or will they need to borrow or raise additional capital. We are less concerned about actual earnings in 2020 because unfortunately for many companies, this year will be a write-off, so the focus will be on 2021 sales and earnings guidance.
Q : How does our current environment compare to the 2008-2009 financial crisis?
A : In many ways this current period is totally unprecedented. The good news is the U.S. financial system is in good shape, which is the plumbing for the economy. The financial system was not in good shape in 2008-2009. Additionally, the Fed and Congress are ahead of the problem this time around, versus waiting to see what may go wrong, as they did in 2008-2009.
Q : How do you value the market at this stage?
A : The current stock market will anticipate where the economy will be in six to nine months. Assuming the preventative measures taken against COVID 19 are effective, when businesses reopen and employees are able return to work, investor psychology will begin to change for the positive. Some companies will take a little time to get their footing, but they will get there. Think hotels, airlines, cruise lines, casinos, etc. There are attractive opportunities to be found and we will find them.
Q : What do you expect the market to do for the next 12 to 18 months?
A : I do believe we will continue to see volatility in the markets. But with all the stimulus placed into the economy and progress made in the fight against COVID 19, I would expect the stock market averages to be higher over the next 18 months than they are currently.
Q : What are you doing to protect your portfolios during this time?
A : Our view is that cash should be used as a tool to protect the portfolio, as opposed to relying on ETFs. At the end of March, we were holding a 50% cash position in most of our portfolios. We pride ourselves on having outperformed or performed in line with the markets and still have a strong cash position.
We have been very fortunate to have avoided many of the hardest hit companies and industries such as airlines, hotels, oils, casinos, cruise lines, etc. Our focus will continue to be on opportunities with Blue Chip and growth companies which we believe have strong growth prospects but are not yet on the institutional radar.
Please don’t hesitate to contact us with any questions, we are here to help. Beneath all the figures and statistics, as we all shelter at home with our loved ones, we hope you and your family stay healthy and safe.
Best,
Bruce
Bruce Nollenberger
brucen@nollenberger-im.com