Blinded by the Corona; this was a quarter when a medical disaster turned into a financial one. Totally unprepared for this epidemic, officials resorted to the blunt tool of shutting down much of our economy to reduce social contact to slow the spread of the virus. This panicked investors, believing the financial damage would be severe and difficult to overcome. Defaults, forced sales and bankruptcies were projected far into the future. A replay of the Great Recession or even Depression was feared.
On top of all this, a price war for crude oil broke out between Saudi Arabia and Russia. The crash of oil prices has put great strain on our domestic oil industry, especially the many smaller firms that use fracking for extracting oil from shale. These firms have debt and many workers. This significant portion of our economy also went into crisis.
Panics develop a life of their own. Fear begets more fear, negative momentum accelerates, and the resulting financial damage breaks even more good assets and positions. This kind of intensity is difficult to sustain for too long. Unfortunately, panics need to burn themselves out like a severe fever. The trick is to survive one. (See the Talk With Us section of this letter to learn how.)
In late March Congress assembled a gigantic, $2 trillion, package to rescue the U.S. economy. Even this amount of spend cannot repair the damage from an extended shutdown, but it certainly helps. Before that, the Federal Reserve took aggressive action to stabilize and support the fixed income markets. Private industry is doing what it can to support the health measures recommended by the CDC while simultaneously trying to preserve the future viability of their businesses.
There is a path to getting the virus outbreak under control and reopening much of the economy. Among other measures, it involves much more testing, isolating the infected or clusters of sickness, and protecting the most vulnerable while allowing others to resume activity. How long this will take is yet to be determined. The strong economy in the first two months of this year was upended by this emergency. (See the next section about our forecast for a return to growth.)
Write this year off for growth. The economy in the second half may be recovering, but it will take time for this complex business engine to return to normal. The longer the economic shut-down, the more difficult it will be for the eventual recovery. The congressional rescue package may mitigate some damage, but there certainly will be plenty to repair. Business and earnings projections are all out the window. Gradually more visibility will allow companies to better plan and project. Everyone knows this, so no need to over-react to this unusual period.
Businesses go though recessions, natural disasters, strikes, and other forms of disruption, their values are not based upon the worst circumstances, but upon a normalized view over a longer period. That is what investors will now have to consider when valuing companies. The current disruption is wide-spread and not a result of bad business behavior.
Investors, once past the shock of the scale of the economic shut-down, will assess prospects. This year will be written off. They will not extrapolate current conditions. Stocks will begin recovering long before the facts on the ground do. In fact, the bottom in stock prices may already be in.
Throughout the sell-off, money flows into stocks did not crash nearly to the extent of stock prices. This is considered positive divergence and was a good sign for a sharp recovery. This is also indicative of accumulation by stronger and more patient investors.
Interest rates for high quality instruments have crashed. This is a flight to safety response. For lesser quality bonds, rates have increased. The calculation here is that the default risk has risen because of the economic downturn; the higher the risk, the higher the rates.
Low interest rates are not good investments for most. Except for immediate safety concerns, these instruments do not even cover the cost of inflation, much less, other costs such as taxes. Higher inflation and rates in the future could devastate bond values.
To the extent there is capacity, we have modestly added to equity positions. A few stocks have been replaced with ones we feel have quicker and greater recovery potential. Portfolios have been shifted more toward growth-oriented positions. This was already underway before the market crisis began.
This has been a good time to review what has or has not been working. The replacements are off to good starts.
With rates so low, we have not made new commitments. Short-term high-quality money market funds have been used to accumulate cash. Longer-term investments will have to wait until rates again move higher.
We have stuck with our allocations for these accounts. We are not second-guessing what markets or investment styles will most quickly recover. Once recovery is underway, it will become more obvious as to where more emphasis could be helpful.
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This was published as a recent blog in abbreviated form. It bears repeating.
Do’s and Don’ts of a Financial Panic
Financial panics are not new. There are many causes, but there are commonalities among them and some cumulative wisdom as how to handle them. Our Federal Reserve, Congress and state and local governments all have the recent experience of the housing financial panic of 2008 – 2009. They have been and will continue to respond to the current challenges. Here are some points to remember:
- Don’t panic; remember, someone else’s fear is another’s opportunity.
- Do make sure you have enough liquidity to meet your immediate needs and those for several months. No need to go overboard here! Riverplace Capital does that as a matter of course.
- Don’t panic; take advantage of the opportunity – do some buying. Success might not be immediate, but chances are extremely good with time.
- Do use the downturn to evaluate your holdings. Weaker positions can be traded for stronger ones; they are both down.
- Don’t panic; keep focused on what will do well once the recovery arrives.
- Do take some losses. Losses are valuable. They can be used to offset earlier calendar year gains and can be carried forward to offset future ones. For every down position, there is probably another one that has just as much or perhaps even more merit. A swap between the two books the loss but still leaves you in position to recover.
- Don’t panic; this is a time when the wise and the brave set themselves up to thrive in the future.
No one ever knows how long any panic lasts. However, the emotional intensity of one is difficult to sustain for too long. Every historic panic has been followed by recovery and can happen quickly and with ferocity. Riverplace Capital has been practicing the above points of wisdom. Nothing can be done about the past events, but we can certainly put everyone in as good a position as possible to continue to thrive in the future. If you want or need to – Talk with Us.
Riverplace Capital is offering a free financial plan (value $1500) for anyone during this difficult period, not just for our clients. Information is powerful and knowing how well your needs are being covered can help you make better decisions during this time of heightened uncertainty and stress. You may want to analyze a variety of “what ifs”. Can you be more aggressive with your investments or should you be more conservative? If you get sick, how well can you manage through the illness? Other questions may come to mind that cold rational analysis can help you see through the fog of the moment.
Free is free and no one is under any obligation to RCM. The Bull and his partners want to help investors make the correct decisions. In other crises, we have seen too many people do great harm to their financial futures. This can be avoided with the proper analysis and counsel. It is important to stay on a disciplined path. You may need to make changes, just do them as part of a rational plan. Let us help you.
Major Indices as of 3/31/2020
Large Cap Stocks (S&P 500) -20.0%
Dow Jones Industrial Average -23.2%
Mid Cap Stocks (S&P 400) -30.0%
NASDAQ Composite -14.2%
Small Cap Stocks (Russell 2000) -30.9%
MSCI EAFE -23.4%
Barclay Aggregated Credit Index -3.25%