Client Note June 2020

As we close June and the first half of 2020, financial markets continue their rebound from the first quarter’s corona-crash.  In very volatile markets there will be many “best/worst X since Y”.  The close at 3100 on the SP500 reflects the best quarter in the sp500 since 1987, with a gain of 19.9%.  After a 36% decline off the all-time high and subsequent 40% gain, puts the SP500 at -4% year to date and -9% below the all-time highs.  Our average moderate portfolio gained almost 15% for the quarter and is up 4% on the year.  While further upside is possible but in the short term, US equity markets are in a downtrend since June 23.  On a larger time, frame, we have downtrends since June 8 and off the highs on February 19thGetting over 3200 should open the door towards 3400+, but if we lose the 3000 level, my medium-term outlook will change.  Our individual stocks continue to do very well.

International equities continue to sorely lag US equities.  European shares gained 2.5% on the month, and currently sit at -14% year to date.  Japan gained 1% and China ebbed 1.6% on the month and both fall well short of the SP500 at -7% and -9%, respectively, year to date.  Emerging markets were the winner on the month at +6% but also have made far less progress recovering post-crash, coming in at     -11% year to date. We sold the last bits of emerging and international equities towards the end of the month.

In credit markets, treasuries have dominated over all other areas of the bond markets.  The long bond/20-yr treasury ebbed by 2.25% during the month, is flat for the quarter and up a massive 20% for 2020.  Even with equivalent maturities, treasuries are outpacing investment grade and junk bonds by 5% and 17%(!) respectively.  The investment grade corporate bond etf, LQD is up 5.1% ytd, while junk bond etf, JNK is -7.7% ytd.   This disparity is due to the rapid credit deterioration seen during this severe recession.  Given this, and spike in covid19 cases, its unlikely rates will rise appreciably in the near term.  Our long treasury position was reduced late March at slightly higher prices.

Economic data released in June continue to show improvement over the April/May shutdown (naturally).    The pace at which the economy would rebound after reopening is a hot topic.  We are seeing rapid improvement in some areas but the estimates versus data are showing extremely poor forecasting ability by economists in the short term.  I am watching year over year data to see how much rebound we are getting.  If July and August data show similar growth as May and June, we could see 90% of more of the economy back by Labor Day.  The trend of economic recovery is far more important than the level.  Ideally, we will trend higher and higher until full recovery.   At the end of July, we will get the first read on GDP for the second quarter.  The Atlanta Fed current estimate has risen to   -36%. 

Looking forward, the recent spike in virus cases has opened the door to the risk that the re-opening of the economy will be slowed, as we are more likely to see county or regional shutdowns.  Continued support from the Fed and continuation of stimulus programs are critical.  A bit higher in equities may provide some momentum to get to 3400 and Fed intervention can keep rates low.

Adam Waszkowski, CFA

Client Note April 2020

Equity markets moved up strongly in April.  The S&P500 moved up 12%, and currently off 3% from the April 29th intraday high.  Gold jumped early in the month, then flat for a gain of 7% in April.  Long treasury bonds moved up in price by 1% but have been on the wane since April 21st.   Most asset classes have been rangebound (+/-3%) since early to mid-April, reflecting a decrease in market momentum.  The average moderate portfolio gained approximately 9% vs the SP500 gains of 12% in April.  Year to date, through April 30, SP500 is off 9.9% while most portfolios are very close to 0% year to date. 

Economic data continues to come in at extremely negative levels.  Auto sales fell by 45% April 2020 vs April 2019.  China, in February saw a 90% drop.  Current market sentiment is bearish and consumer confidence declined from 101 in February to 71 in April.  This is similar to the decline from February 2007 to June 2008 (the month Fannie and Freddie’s first attempted bailout, after losing 50% of their value that month), which saw a decline of 35%.  This could be another reflection on how this recession is being ‘front-loaded’.   We have seen already how GDP and employment has fallen as much as the entire 2008 Great Financial Crisis, but now expect robust rebound by year end.

In light of all this, equity markets have remained buoyant, after the March decline.  This may further indicate the front-loaded- ‘ness’ of this economic period.  And at the root of it all is the expectation that the economy will rebound strongly in the second half and especially in the 4th quarter of 2020.  While GDP estimates for Q2, which will come out at the end of July, range from -10% to -30% (annualized basis), some estimates for Q4 are as high as +20%.    I believe that we are again priced for perfection.  The past few years saw valuations (price to earnings, price to sales, etc.) elevated with expectations of an acceleration in earnings and wages to justify the then-current prices.  Today a significant economic rebound is priced into the market.   If the economy in late May and June isn’t picking up quickly enough it could put pressure on equity prices.  It depends on re-opening the economy and that depends on subduing the pandemic.

We have seen momentum decline recently and thus increases the potential for volatility in equity markets.  If the S&P500 cannot breakout above 3000 in the near term, we’re likely to remain rangebound vacillating +/- 6%.  Bonds and gold are at a point where they are testing support and have the potential to move several percent as well.  If we are to remain rangebound, my preference would be to reduce risk until there is more confidence in further upside.

On a side note, I have significantly reduced the amount of cable and national news I watch on TV.  It’s the same sad and fearful story we’ve heard the past 6 weeks.  I have noticed I feel better doing this.  A client went back north recently and was surprised/disheartened at the difference in the local news in Naples vs the local news in the tri-state area.  Avoiding the bad news TV and enjoying the good news of spending time with family/projects/hobbies/exercise can be an important factor in getting through this time and being ready to embrace the other side of this crisis.

Stay safe and thank you,

Adam Waszkowski, CFA

March Client Note

The collapse in prices is the fastest decline of 20%, off the market highs, ever.   Looking into the immediate future, the economic/unemployment/earnings data will be horrible.  GDP for Q1 will come in at -15%, Q2 may see -20%.  These should be expected given we’ve shut 1/3 of the economy down.  In a ‘normal’ recession, this data accumulates over several weeks and months, not all at once.  Most of the bad data were going to see is going to be front-loaded, and we will see this throughout April and into May.   Over the same 8 weeks, sentiment will change much more rapidly as the light at the end of the tunnel becomes more/less apparent.   Prices of financial assets will react even more quickly.  Those 3 elements (econ data, sentiment, market prices)  work together but at different paces, and appear to contradict at times (like the day the Fed announced all the backstop measures, markets fell—not because stimulus is bad but probably due to the increasing alarm over the virus).

As of March 31st, the SP500 is down 20%; the Dow is off 23%; US small cap stocks -31%; Nasdaq -14%; eurozone stocks -25%; long treasury bond (TLT) +21% and gold +4%.    The average moderate portfolio is down about 9% year to date.

During the quarter, we hedged the equity side of portfolios during the early decline (not changing actual positioning, just owning the hedge then removing it).   The idea is always to buy low/sell high and removing the hedge was akin to buying/gaining exposure at lower prices.   Long treasury bonds have done very well, and we have sold some into strength, locking in some gains.  Technology has been one of the stronger areas and have increased this area substantially.    In addition, we’ve added equity exposure via SP500 etf, IVV, at the 2550 SP500 level.  I plan to add more, once the pullback eases and prices are constructive again.

As it stands now, most portfolios have increased equities compared to the beginning of the quarter, with less exposure to bonds.  Gold still has some potential, but as I’ve mentioned before gains will be more gradual and believe $1700+ is attainable.  The near-term market movements will likely be tied to the general expectations of when the US can get back to work.   The past couple of days’ weakness, I believe, is tied to the extension from April 12 to April 30 of guidelines established to slow the spread of covid19.

My expectations (given the truly massive and quick stimulus) are that we are now in the pullback from the initial bounce in stock prices.  I believe it is likely to see another leg up over the next couple of weeks.   Staying over 2400 on the SP500 is very important.  The combination of several trillion dollars of stimulus, both fiscal and monetary, combined with the concept that the covid19 crisis will end, does set the stage for possibly, a very substantial rally in stocks in the coming months.  Very generally, if there is now (or soon will be) $2-5 trillion (new money) in the financial system and we get back 90% of GDP that has been lost,  prices could go much higher even if fundamentals don’t recover–that’s post-2009 in a nutshell.   Before that we need to turn the corner on the virus.

The past couple months has been a lesson in which is more difficult:  to sell high or buy low?   Buying high and selling low are easy choices.   “Everyone” is doing it and it feels better to be a part of the crowd, ‘getting a piece of the action’ when in bull market; and conversely ‘stopping the pain’ in a bear market.   Believe me, it is much more difficult to lean into the market in early stages than to jump on the bandwagon once most of a move has already occurred.   This is weighed against market outlook and risk tolerance.       The other lesson is basic financial planning:  do you have 2-6 months of living expenses on hand in case of financial disruption?  And is your at-risk money truly a multi-year holding period.    It’s no fun to be forced to sell into a weak market to raise cash for living expenses.

Adam Waszkowski, CFA

Blame the Fed! (for following through on previously telegraphed guidance)

The Federal Reserve today reiterated it plans to continue what it has been doing and said it would continue to do, much to the chagrin of market participants.

While the last Fed minutes showed more dovishness, actual actions that are indeed ‘dovish’ have yet to occur.  Reducing expected rate increases from 3 to 2 in 2019 was widely interpreted as, ‘the Fed might stop raising rates’, for some reason.  History shows us that the Fed telegraphs well in advance what it intends to do.  Thanks to Alan Greenspan, this has been the case for more than 20 years now.

What has the Fed said it will do in 2019?  Raise rates two more times and continue to drain liquidity from the system via its bond roll-off program.  It is also expected that other nations’ central banks will also cease adding liquidity this year. China may not have gotten the memo though, as they just lower their Reserve Requirement Ratio by 1%, freeing up approximately $100 billion in bank liquidity.  This was announced on Friday, January 4, but was not even mentioned in the Saturday Wall Street Journal!

Here is a picture of global liquidity for 2019.  From adding more than any given year in 2017, to net withdrawal in 2019.   Adjust your expectations accordingly.

qt central bank 10 2018