- Frank Byrd and Stephen Korn
The Perfect Scenario (Fingers Crossed!)
Amidst all the anxiety and scary headlines, we wanted to update you on our latest thoughts.
A summary of what follows:
What this means for client portfolios
The perfect scenario (and hoping for – fingers crossed!)
Italy - cautious optimism
The USA - our forecasts
We’re still worried – that’s our job
Fielder’s team is on duty
What This Means for Portfolios
This chart says it all: Stocks have had their fastest drop in modern history – faster than the Great Depression or Financial Crisis. (The purple line is the S&P 500 performance through last Thursday. The green line is the Great Depression, and the blue line is "dot com" crash.)
Source: Factset
We are counselling clients to neither get discouraged on days the market is down big nor get overly optimistic on days the market is up big. This is far from played out. Markets rarely go down -- or up -- in a straight line. At this time, there is no way for anyone to really know whether markets rally from here or retest lows. Certain city hospitals systems are about to get fully stretched, if not overwhelmed. Fears of such are reflected in current market prices. Credit spreads remain really wide. We believe markets continue experiencing lots of ups and downs over the coming weeks. In our last note, a couple of weeks ago, we said we would hold off for a couple of weeks before making any major moves, pending our having better information and a better framework with which to analyze it. Fast forward to today, we now believe we are close, if not already there. In the coming weeks, we expect to have the opportunity to add in compelling spots with attractive reward/risk for those willing to take a longer-term view. While none of us likes looking at lower prices, there are two positives worth stressing:
Lower stock prices are only a bad thing if you’re forced to sell. If you’re buying (or even just reinvesting dividends), today’s prices are a gift. The only way these lower prices are bad is if you’re a seller (either out of fear or out of need). Hopefully, good planning ahead of time has ensured that neither of these should be the case.
Future expected returns are now higher. One of the most important determinants to stocks future return is the starting price. The lower the initial purchase price, the higher the future return potential.
The Perfect Scenario (fingers crossed!) In the near future, we are hopeful to be presented with an investor’s dream scenario: deteriorating news (keeping market prices weak or weaker) but improving fundamentals. The number of newly reported coronavirus cases in the US will surely spike higher in the coming days now that testing is finally becoming more available. We will also see the number of new deaths continue to rise in the US. However, we believe that the number of actual new infections in the US is near a peak – if not already peaked – which means the number of new deaths should begin declining within a few weeks. That might give us the opportunity to buy assets at cheap prices as the headlines are most negative, while the underlying fundamentals may actually be improving. We continue to monitor each day’s new data on the virus to confirm or refute the veracity of our framework/model. If we begin seeing positive confirmation, we will be reaching out to discuss whether it makes sense to increase your allocation to stocks. As for fixed income, we are beginning to see compelling value now that credit spreads have blown out in corporate, high yield, and municipals. We have been researching the best way to invest in this area and expect to be allocating selectively to this area at some point. Italy – Cautious Optimism A few weeks ago, we said Italy was critical to watch, since its data would prove informative to understanding the nature of the virus (in addition to S. Korea's). Earlier this week we were elated that the number of new reported deaths declined two days in a row. But in the past two days, new deaths in Italy jumped higher. At this point, it is too soon to know for sure if Italy is nearing stabilization. Day-to-day data will be bumpy. The one positive thing to note is that the new deaths in Italy are not spiraling exponentially higher. The curve hasn't flattened, but it appears to be heading in that direction. (The slope of the curve is declining.)
Based on our own internal model for projecting the path of Coronavirus, we had been projecting that Italy would see peak new deaths this week. Time will tell whether that proves optimistic. The USA The data from Italy (as well as from S. Korea) helps inform our model for the US. Unfortunately, the US data has not yet turned positive. The death rate the past two days has been worse than we had modeled. We believe the reason is that the infection rate is higher here in the US, likely due to the virus being concentrated in densely populated NYC. Keep in mind that deaths are a LAGGING indicator (though deaths are the most reliable statistic available). We know that deaths occur several weeks after infection. What really matters is to what degree have we “flattened” – or ideally decreased – the number of new infections. We believe that the number of new infections (cases) should be peaking about now in the US. Critically important: this is Fielder’s estimate of the intrinsic (or true) number of cases, not reported cases. The number of reported cases is dramatically understated since we have not been testing people.
Source: Both historical and projected are Fielder estimates.
If our assumption is correct regarding actual new infections peaking about now, this implies the number of new deaths will peak by mid-April.
Source: www.worldometers.info and Fielder estimates
Our model currently estimates that 1% of the US population will be infected with the virus within the next several weeks, which leads to approximately 50,000 deaths in the US by April 30th.
The key assumption (and it's a big one) is how effective recent US efforts have been at curtailing infections. Equally important is our future course. Do we enact a “hammer” response to the virus? Or do Americans prove half-hearted about social distancing? In that case, this crisis may last 18 months, and millions could die. If, however, we enact “hammer” methods that worked in Korea, China, and may be (we hope) working now in Italy, then we can beat this devil fast. We can all begin getting back to normal within two months, perhaps partly within a month.
(Hat tip to Tomas Pueyo. Our views have evolved in large part thanks to his framework. His most recent note, Coronavirus: The Hammer and the Dance, is highly recommended for those seeking facts over sensationalism.) As the virus continues growing in the US and other parts of the world, we must take comfort in the fact that it CAN BE BEATEN - with appropriate policies. Both China and S. Korea have beaten the virus. Even better: Japan, Taiwan, and Singapore never let the virus get out of control. They squashed it immediately. If the US gets really serious, really fast, we should be able to win this war, with casualties in the thousands rather than in the millions. Americans pride ourselves on being scrappy innovators, so it’s our time to shine with innovations in new therapies, processes, and maybe even one day a vaccine.
We’re Still Worried – That’s Our Job Notwithstanding the above positives, we are mindful of how things could turn out differently and take a very dark turn. Please know that we embrace this burden for you. Our clients have hired us to do the worrying for them. Know that we are doing that. We take nothing for granted. We will be guided by the data, not by emotions. We are making changes in the portfolio as we feel appropriate, being mindful of not overreacting or underreacting. Presently, we are optimistic that we will eventually emerge from this crisis with a growing economy and with a far more robust (less fragile) healthcare system that is far better equipped for the next (potentially more dangerous) pandemic. Fielder Is on Duty On the personal front, each of us on the Fielder team is now working remotely in accordance with our Business Continuity Plan. We are each operating efficiently and remain “on call” and available any time you wish to speak. We are on duty. Our very best to you and your family for the stamina and peace of mind to get through this crisis safely. To brighter days ahead!
Yours in the Field, Frank Byrd, CFA Steve Korn, CFA
*Important footnote:
Why we built our own model: All models are wrong; some models are useful, as Dr. George Box famously said. We thus remain humble in with what we believe any model can and cannot do. We know it cannot predict the future with precision. Yet, we know that building and maintaining our own model gives us a framework for considering new data that comes each day on the virus. It allows us to frame whether objective observations (data) support or refute our framework. Our framework is simple: the number of deaths is the only “good” data we have. Since we know approximately how many days the average person has the virus before dying, we can deduce how many people were infected that many days ago. Our goal is to be approximately right, not precisely wrong, as Keynes once quipped. Most importantly, maintaining our own model has given us a better grasp of how the virus spreads. There is learning along the way. For instance, we now have a greater appreciation for how heroic Korea was in cracking down. Korea, China, and Italy’s efforts and later results inform what can happen to the infection rate (R0) following policy shifts (from mitigation to suppression). For instance, the past few days’ data out of Italy suggests that the suppression implemented a couple of weeks ago is working.
Disclaimer: While the information presented herein is believed to be accurate, Fielder Capital Group LLC (Fielder) makes no express warranty as to the completeness or accuracy, nor can it accept responsibility for errors appearing in the document. Fielder is under no obligation to notify you of any errors discovered later or of any subsequent changes in opinions. Nothing herein should be construed as a recommendation to buy or sell any of these securities. It should not be assumed that any of the securities, transactions, or holdings discussed will prove to be profitable in the future or that investment recommendations or decisions Fielder makes in the future will be profitable or will equal the investment performance of the securities discussed herein. Fielder or its employees may have an economic interest in securities mentioned herein.
