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Scott Kays, CFA, CFP®
March 16, 2020
The coronavirus situation continues to escalate and change on virtually a daily basis. The past week has disrupted life for most of us in a number of important ways. Conferences and large gatherings, such as sporting events, Broadway, and even church services have been cancelled. Employers are encouraging employees to work from home. Schools have shut down. Much travel, both business and personal, has been curtailed.
The virus has spread to the point that last week it was declared a pandemic by the World Health Organization. According to the Wall Street Journal, the number of coronavirus cases has now surpassed 145,000 globally, with over 5,000 related deaths being reported.
We wanted to update you on how the virus is affecting the economy and financial markets, as well as inform you about steps we are taking to promote the safety and well-being of our clients and staff.
Volatility has increased dramatically in the financial markets, reaching levels attained in prior crises. A key measure of market volatility, the VIX index, reached its 4th highest level ever last week. The most stunning aspect of the market reaction has been the speed of the decline. The Wall Street journal reported that at their lowest point last week, stock indices had dropped around 27% in 16 trading days.
High volatility cuts both ways. Historically, some of the most powerful rallies have occurred in the midst of down markets, and this time around has been no different. On Friday alone major stock indices jumped over 9%. This explains why we do not believe it makes sense to try and time these types of markets. The bulk of that move occurred in the last 30 minutes of trading. Such sharp moves are unpredictable.
While the market had already been tumbling, the big move began a week ago Sunday with a sharp drop in oil prices that pulled down stock prices as well. OPEC+ (OPEC plus Russia) had been meeting to establish production cuts in order to stabilize oil prices. Analysts largely assumed a sizeable cut would result from the meeting. However, Russia ultimately would not agree. Saudi Arabia then decided to pursue a scorched earth policy, cutting prices and increasing output, essentially telling Russia to conform or suffer significant economic damage. This resulted in plummeting oil prices, with stock prices following suit.
I doubt the Saudi kingdom’s actions will last very long. While low oil prices may inflict greater damage on Russia’s economy than Saudi Arabia’s, the fact is that sub-$40 oil prices work for no one—not Saudi Arabia, Russia, or even the U.S. shale industry.
In a flight to safety, fearful investors piled into U.S. government bonds, pushing yields to record lows. While the 10-year Treasury bond yield ended the week at .95%, on Monday it briefly touched a low of slightly under .4%.
Since economic data is lagging, we have not yet seen the impact of coronavirus on the real economic numbers, but we should start to see its impact shortly. Meanwhile, the world’s major central banks are cutting interest rates and acting to provide liquidity to financial markets in order to keep them functioning smoothly.
The problem central banks are facing is that monetary policy is primarily designed to address liquidity problems in situations such as we currently face. Monetary stimulus can also benefit consumer and business demand, but demand is not the problem. The problem is supply. Supply chains are being disrupted as companies, mostly foreign, producing needed supplies for manufacturers have seen their output cut sharply due to workers staying at home. Lower rates and aid packages don’t help supply chains. Ultimately, we must see the virus contained for a true resolution to take hold.
Will all of this lead to a recession in the US? Possibly, though that is not a forgone conclusion. The National Bureau of Economic Research (NBER), the official arbiters of the U.S. business cycle dating, defines a recession as “a significant decline in economic activity spread across the economy, lasting more than a few months, ….” Certainly, an economic slowdown is at hand. Whether this slowdown reaches the technical definition of a recession is arguing semantics in my opinion.
The good news is that the economy is well positioned to withstand the shock. Prior to the outbreak, the economy was strengthening, the labor market was strong, and the housing market was vibrant. Additionally, applications to refinance mortgages have skyrocketed as rates have plunged, freeing up consumer spending power. All this should cushion the impact of the virus. Combined with looser monetary policy and fiscal stimulus, we may avert a recession.
While the coronavirus is novel and not something we have a history of dealing with, what we do have a history of dealing with is investors panicking. While the source of the panic may differ, investors’ reactions have been pretty consistent. If history is a guide, panic selling can ultimately be a costly mistake.
The time to plan for downturns is before they happen, not in the middle of them. Remember that when we ran your financial plans, we anticipated that periodic downturns would occur—they are unavoidable! The success of your plan is not dependent on continually strong financial markets or being able to time market downturns. The success of your financial plan depends on following it in a disciplined fashion. You should have plenty of money in fixed income investments, which have fared much better than stocks, to meet your income and withdrawal needs for several years. This should mitigate the need to liquidate a significant portion of your stocks at depressed prices.
While this financial downturn may have further to go, there is good reason to be optimistic about coming out the other side. Assuming the coronavirus does not have a lasting impact on the economy, Ned Davis Research states that “The coming monetary and fiscal stimulus combined with a deeply oversold market and extreme pessimism should set up for a powerful cyclical bull market.” We would hate for clients to miss out on that possibility because they panicked and sold out at a low point. We are instead focused on looking for opportunities this disruption may present.
The safety and health of our staff, clients, and families remain our top priority. Our goal is to provide for both your safety and the safety of our people while maintaining uninterrupted delivery of services to you.
As a result, we have decided to move client meetings to phone appointments and video conferencing, rather than hold in-person meetings. Clients who were registered for our spring seminars were notified that they were postponed. Hopefully those seminars can be rescheduled in the not-too-distant future and we can resume in-person meetings before too long.
Employees will be working from home a good bit over the next few weeks. We are set up technologically to do so. Fortunately, Helen Shingler, our Operations Manager, and I have been working on this project for months as part of our emergency response procedures, never thinking we would need to implement those procedures this soon.
Finally, beware of fraudulent activities and hoaxes using the coronavirus as a pretense for nefarious activity. Such activities may include things such as emails that may contain malicious attachments, links to fraudulent websites, calls to donate to fraudulent charities, and the like. Never reveal sensitive information to someone over the phone whose identity you have not confirmed or on potentially vulnerable websites.
While there is no way to know how long this current crisis will last, it is our intent to keep our clients regularly informed of our perspective as material facts and circumstances change. To this end, you should expect to receive ongoing communications from us in the weeks ahead. If you have any questions you would like to discuss with your advisor, we welcome your call in addition to our continued efforts to reach out. We are here for you in these tumultuous times.
Sunday Night Update
After I completed the above letter, the Fed announced late Sunday they were cutting short-term rates to nearly 0% and buying up to $700 billion in Treasury securities. I believe this was probably a good move by the Fed. They are trying to be preemptive and get ahead of the economic damage the virus is causing as well as make sure the financial markets have enough liquidity to function smoothly. Nevertheless, the size of the action spooked investors and stock futures plunged. We will see how the market opens on Monday, but it looks like another tumultuous day ahead of us.
Scott Kays, CFA, CFP®, is President of Kays Financial Advisory Corporation. He can be reached at (770) 951-9001 or at email@example.com.
This report and Mr. Kays’ comments are provided as a general market overview and should not be considered investment or tax advice or predictive of any future market performance. Any security mentioned in this report may not be suitable for all investors. No investment mentioned in this newsletter constitutes a recommendation to buy, sell or hold a particular investment. Such recommendations can only be made on an individual basis after an assessment of an individual investor’s risk tolerance and personal circumstances. Past performance of any investment mentioned is not a guarantee of future performance. Statements regarding the investment concerns and merits of any investment and fair market value computations are strictly the opinion of Kays Financial Advisory Corporation. Employees of KFAC and KFAC clients may have positions and effect transactions in the securities of the issuers mentioned here in.