January 27th, 2020
Financial markets have been battered in recent weeks facing the unprecedented rapid spread of COVID-19 and the more recent news of an oil price war. Equity market volatility has skyrocketed (the S&P 500 has fallen 23% year to date and nearly 27% from its recent all-time highs), energy prices have been cut in half and credit spreads have surged this week. The moves are extreme, the likes of which we have not seen since the Great Financial Crisis of 2008. The velocity of the equity market decline is faster than that of 2018, 2015, 2011 and 2000 (comparable only to 1987 and 1929) and reflective of the high degree of uncertainty surrounding the ultimate economic impact of COVID-19 and the oil price war.
We would classify the current situation as a black swan event; the definition of which is an unpredictable event that is beyond what is normally expected of a situation and has potentially severe consequences. Black swan events are characterized by their extreme rarity, their severe impact, and the widespread insistence they were obvious in hindsight.
Information about the spread of the virus is changing by the hour, with mass attendance events (NBA, SXSW, PGA) being cancelled or restricted to essential personnel only and travel restrictions being implemented. It would be a futile effort to try to predict the ultimate impact of the virus. However, being prepared for possible scenarios and disciplined in investment strategy is never a wasted effort. To that end, we will discuss a few key points below.
- The ultimate economic impact of the virus and oil price war will not be evident for many months to come. It has suddenly become not only possible, but in fact likely, that we will experience a recession this year as a result.
- Equity market volatility is unlikely to go away quickly. Earnings will be negatively impacted, and sentiment is overwhelmingly negative. Both will take time to repair.
- Treasury yields have dropped like a rock, with almost the entire curve below 1%.
- The Federal Reserve and other central banks have acted. The Fed has lowered rates, unleashed additional liquidity and will likely take further action in the near term.
- Congress / The Trump administration is likely to introduce a fiscal stimulus package in the coming weeks. Hopefully they can do so in a bipartisan and expedient manner.
- The swift drop in energy prices will support the consumer in the short term. However, we have little doubt that Russia is playing roulette, attempting to drive the price of oil down and drive some US producers out of the market. We are likely to see consolidation and bankruptcies by some weaker companies in the energy sector. This has the potential to evolve into a credit story with broader impact on the economy.
Let us be clear. This is not a financial crisis and looks very different from 2008-2009 panic that led to a massive collapse in real estate and equity prices. The foundational structure of the financial system and corporate and consumer balance sheets are relatively strong. The US economy heading into 2020 was quite strong. Although we have no way of predicting how far equities will fall or how severe the economic impact will be before the outbreak subsides, we are confident that our economy will get past these roadblocks and return to growth. The news will likely get worse before it gets better, and it will take time.
What will draw us out of the downturn? Most likely a plateau in the spread of the virus and some evidence of containment, the consumer and a combination of monetary and fiscal stimulus. More than likely the markets will begin to turn before the negative news subsides, and if history is any guide, we are likely to see the initial moves back up in the markets happen quite quickly, setting the stage for a longer term recovery. None of that is within our control. We will have time to reflect on and analyze the eventual outcome later, but for now we must remain objective, calm and disciplined in our investment strategy.
We hope you and your loved ones stay safe and healthy and are of course available to discuss any of the above information with you further.
Josh L. Galatzan, CIMA®
Founder & Managing Partner
Brian J. Noonan, CEPA
Meagan K. Moll, CFP®, CIMA®, CPWA®
Partner & Wealth Advisor
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