The Two-Handed Economist: Where do we go from here?Submitted by OFC Wealth Management on March 29th, 2020
There is a famous quote from Harry Truman that goes like this:
Give me a one-handed economist. All my economists say, 'On one hand...', and then 'But on the other...'
So let's play two-handed economist and lay out some of the key plusses and minuses of the market landscape. We have just had a historic month with:
- the slide into a bear market in record time, followed by
- the sharpest three day rally since the 30’s and finally
- on Friday another sharp decline.
The question is, where do we go from here?
Some key bullish things to consider:
- After trading at levels considered the most overvalued in history (other than the peak of the tech bubble in 2000), the market has now corrected and is likely now in territory that many would consider 'fair value'. Of course, that depends on how earnings are reported and I'll touch on that more in a moment. So for those who had held off investing, waiting for a good-sized correction, they got their wish.
- The Fed has opened the monetary spigot about as wide as it can go. There is an old saying Don't Fight the Fed." Most professional investors will agree that what the Fed does has more of an impact on the stock market than what the Federal Government does with tax and spending policy. A few days ago, there was this headline: Jerome Powell says the Fed would provide virtually unlimited lending to support the economy as long as it is damaged during the viral outbreak. If you buy the Don’t fight the Fed maxim, this is not the time to be too negative.
- On top of the Fed being easy, you now have fiscal stimulus that is being likened to a “bazooka.” We have all read the headlines about last week’s fiscal stimulus package. It is an enormous boost to the economy and a powerful combination with the ultra-easy Fed at the same time.
- All around the world legions of scientists are working frantically to try to come up with the vaccine and other treatments for COVID-19. Our history would suggest they will ultimately be successful, we just don’t know when that will be. And there is no guarantee. But any headlines about progress on that front will lead to sharp moves in the market. If one looks like it is for real, look out, the market will fly.
- Remember one thing about the stock market. It is always forward looking. It is ruthless about discounting events it expects to happen in the future. That is why taking the I’ll just wait and see if “X” or “Y” happens before I buy or sell is not a strategy that is going to work very often. The market will anticipate things in many cases before they happen. By the time the outcome is clear, it is already priced into the market. So if the market gets the sense that the peak of the coronavirus is upon us, it will respond violently. Given what has been going on, it would not be surprising to see a 15%+ day, if (and when) that happens.
Ok, great. So, it must be time to buy, right? Well, on the other hand…
- Just because the market is down a lot, it doesn’t mean it can’t go down a lot more. The market is down 25.3% from its peak. From its peak (before last week’s rally), it was down 35.6%. So yes, we are down a lot. But consider this: the last two bear markets led to declines of 56% (2007-09) and 50% (2000-02). If you go from down 25% to down 50%, that is a further decline from here of 33%! If you didn’t like what just happened, you’ll like that even less.
- The event we are trying to analyze is in many ways, impossible to analyze, despite the abundance of analysis out there. We are in uncharted territory here. We just don’t know how long this is going to last or how drastic the fallout will be, before the scientists come in and save the day. Unemployment claims are at a historic level (3.3 million), but we haven’t yet seen widespread corporate bankruptcies or defaults yet. Yes, the federal government has stepped in, but even they can only go so far. Many companies are holding off on layoffs thus far, but at some point that could break also. Many bear markets have started with the financial economy (like in 2007) and spread to the real economy. This one is the reverse and we just don’t know how long it is going to be or how bad it is going to get in the financial economy.
So where does that leave us? This is why we have asset allocations specific to each client. Check in with your trusted advisor, especially if having different feelings about risk or possibly future pertinent life events. These conversations may lead to rebalancing -- increases/decreases in equities, or no change at all. Advisors shouldn't comment on day-to-day market swings because it can send the message that these are events we should be acting upon, when in fact, we make relatively few changes when portfolios are properly allocated.
And if there is one thing the last few weeks have taught us, it's this: if you try to outsmart the markets in times like these, you are going to have your head handed to you. The two-handed economist demonstrates just how dramatic the uncertainty is here and how violently different the outcomes can be going forward.