Assessing Where We Are
Friday, March 20

Dear LongView friends and clients,

We plan to continue our series of updates to keep you abreast of market developments, and our responses to them, during this difficult time. 

Below are some key take-aways from our conference call on Wednesday, March 18, with the economic and market strategy team at JP Morgan in New York.

While some of the content of the meeting was daunting, it also outlined the steps that will lead to healing the economy and the recovery of financial markets.  

The Virus
The virus has been spreading at an alarming rate, doubling every week. South Korea, which has done the most extensive testing and probably has the most accurate numbers, has had a 0.8% mortality rate.

Aggressive containment measures like social distancing, working remotely, closing schools and restaurants, and banning large gatherings, could improve the outlook in the US.

However, the virus will be spread by those who won't or can't self-quarantine, and it will remain a threat until a vaccine is found.

Slowing the transmission rate will help the healthcare system maintain essential services. But this also will mean lengthening the time that businesses are shut and the economy will need support. 

The Economy
We are in a recession. 

Automakers have halted production, and workers have been ordered to stay home. Tightening restrictions have closed restaurants, movie theaters, shops and hotels across the country. Public transportation is virtually at a standstill.

Oil prices are at levels last seen in the 1980s, and while this helps consumers, it will exacerbate defaults in the bond market as oil companies fail. With the additional shutdown of the service sector, jobless claims over the coming two quarters are expected to be in the millions.

Second quarter GDP could contract by at least 10% and corporate earnings will likely drop 15% or more. By the third quarter, there may be a small rebound as people and businesses adapt and grow the “social distancing economy.” However, the economic outlook will remain weak until a vaccine is found.
 
The Government Response
There has not been enough government support yet, but help is on the way.

Monetary policy is the “first responder,” flooding the financial system with liquidity. But while the Federal Reserve can support financial markets, there’s a limit to what monetary intervention can accomplish. 

Fiscal (tax and spending) policy will have to be applied to sustain struggling businesses and unemployed workers until the crisis is past. We are moving towards unfettered fiscal stimulus for the first time in generations. 

An initial major bailout package was approved this week, with a second, trillion-dollar program now working through Congress.

The amount of support required is enormous and will test the debt capacity of modern economies. But these measures will make a difference and markets will eventually stabilize.

The Markets
Most asset classes including stocks, bonds, gold and commodities have fallen in tandem in a classic scramble for cash as investors sell whatever they can, reminiscent of the 2008 financial crisis. 

A lot of the volatility has been driven by program trading and computer algorithms. Many traders are not at their desks because of self-isolation, and so computer models have dominated the activity. Feedback loops within the market have exacerbated the selling.

While we have seen market drops of similar magnitude in the past, the speed of this decline is unprecedented.

At this point, much of the impending downturn in corporate earnings has already been discounted by falling stock prices. The lowering of valuations is already in line with previous bear markets. 

We are getting closer to fair market value, though it will take a few quarters for the turbulence to subside.

The Coming Recovery
2021 will be the “year of recovery”, and the beginning of a new cycle. 

Pension and mutual funds have not been big sellers and are waiting on the sidelines. They’ll eventually step in to buy battered stocks and raise their equity allocations back to mandated levels, which will help stabilize markets.

Government bailouts will soon be put into action, helping the economy.

Meanwhile, Biotech firms are competing to develop a vaccine. Once found, and as the pandemic wanes, there will be a pop in global GDP as the world springs back to life.

The initial snapback in markets is likely to be fast, furious and hard to time.

2020, the “year of the virus,” is the end of the old economy.

The new financial environment will be one of rock bottom short-term interest rates due to aggressive monetary policy. Yet long term yields are expected to rise, due to massive fiscal stimulus around the world.

Stocks will be the asset of choice in the recovery. Dividend income of the S&P 500 is now 2.6%, more than twice the 1.2% yield of the 10-year Treasury bond.

Value stocks are now cheaper compared to growth than at any time since the 2001 dotcom bubble.

International stocks are inexpensive relative to the US and will become even more attractive if we enter a phase of dollar weakness.

Active fund managers will be positioned to make the most of such opportunities.

In conclusion, while the news cycle is bleak, we are positioning ourselves for the inevitable recovery, and the investment opportunities that will present themselves for our clients.

We often say that our job as investment advisors isn’t just to manage portfolios, but also to help our clients navigate their emotions and decision-making process during challenging times. 

Now, more than ever, we are here to serve you. Please reach out at any time. And stay safe.
 
David, Harlan, Maria, and Doug

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