Stocks retreated once again yesterday as the worst first quarter in stock market history came to an end. Coinciding with the rapid spread of Covid-19, stocks fell from peak to trough by about 35% in less than 5 weeks, the steepest bear market on record. A modest rally over the past 10 days softened the blow a bit.
As we enter April, I am reminded of what I noted at the start of September 2008. It looked to be an economic mess. Economic data was decelerating, and financial markets were on the brink of collapse. No one knew where to put their money. Banks were only insured up to $100,000 and even money-market funds no longer looked safe. Lehman Brothers, AIG, and Fannie Mae were close to collapse. Indeed markets, which had been in a modest but steady decline for 9 months, soon accelerated their downturns.
Fast forward to today. April is most likely to be the worst month for Covid-19. The number of new cases is widely expected to peak this month, even as most of us shelter in place, unable to spread the disease further. Economically, with almost everything in lockdown, the data this month is going to set all sorts of records. Unemployment will spike, although we won’t know the true number for another month. With businesses shut, GDP could decline by more than 20%, maybe a lot more. Companies will be cash strapped. A business fails when it runs out of cash to pay the bills. There will be a lot of businesses that simply run out of cash in April.
But there is a bit of a difference between September 2008 and April 2020. In 2008, none of the remedies were in place. The Fed hadn’t acted to add massive liquidity to the market. There was no TARP, nothing to save the banks or the banking system. We were facing an abyss.
This time, the Fed has acted. A huge $2+ trillion bill has become law, and banks, backed by the Fed, can lend out trillions more that could sustain many businesses. Thus, while we know that the virus will reach a peak soon unless it spirals completely out of control, something no epidemiologist believes under current quarantine status, we can see the light starting to appear. In 2008-2009, we referred to these rays of light as “green shoots”. Today, we can see quarantines slowly starting to end in May. As testing capability rises over the next 45 days, we can better track any new virus spreads and contain them a lot better than we have to date. Hopefully, hot and humid summer weather can temper the further spread of the virus.
But even as we began to see green shoots early in 2009 at the same time bond markets started to heal, stocks didn’t really bottom for good until early March. With that said, the stock market only spent 9 trading sessions in March below the November low. I suspect this bear market’s equivalent of the November low occurred a week ago Monday.
We have bounced nicely over the past seven trading sessions. Markets can retreat more than 10% and still stay above recent lows. They just might do that as horrid economic data and new forecasts emerge. The notion that by mid-April we would all be let loose from quarantine and life as we knew it 60 days ago would resume anew as if nothing happened is now a fantasy. We all now realize that normality will take months to restore, not weeks. And there are risks that the virus can reemerge with a vengeance if we try to escape too fast. All of us are a bit scared of what lies ahead. Markets don’t like scared.
That doesn’t mean April is likely to be a repeat of March. As the new cases start to drop daily, and they will over the course of the second half of April, investors will start to smile and feel some renewed courage. There could be additional good news on the therapy front. Several old and new medicines offer signs that they can help mitigate the worst damage of the virus. Vaccine development is progressing. The bond markets are functioning much better, although not totally back to normal. The VIX promises elevated volatility will stay in equity markets a while longer. No one has any idea when baseball will start or when outdoor concerts can begin again.
If you follow my two-day rule, you know that last week’s rally implied that buying the dips was finally permissible. However, a down day today, and futures suggest that might happen, would put us back into defensive posture. This is not the moment to be a hero. Stocks today sell at somewhere between 16-18x 2021 estimated earnings depending on one’s estimate for next year. That isn’t very expensive in a world of very little inflation and ultra-low interest rates. But it isn’t so inviting that I would suggest diving into this market too fast either.
What is most likely is that April and May will be transition months with lots of volatility and head fakes. The economic news will be horrid. We all know that. But it could be even worse than many expect. Most of us are optimists and want to be hopeful. The data over the next 60 days will squelch much of that optimism. However, at the same time, there is an end game to this virus story. There is always an end, even to the worst pandemics. Ultimately, the virus will run its course. There will be life on the other side. We will pack bars again and fly around the world. Investors know this. Furthermore, they know that since stocks look ahead, they must look ahead as well. The fact of economic life is that many people will still be dying as the next bull market begins.
My plan of attack is to have a shopping list ready. If markets do any kind of retest of recent lows, I want to be ready to step in and buy my favorite targets at really delicious prices. If you couldn’t wait to buy Apple# when it broke below $300, you certainly should want to buy some if it falls close to $225 on any further market retreat. I say that not to recommend Apple, but to use America’s most followed stock as an example. If Apple doesn’t get to what I call my “pig price”, something else likely will. Bear-market bottoms offer you generational opportunities to buy great companies, assuming you aren’t too scared to act.
One final thought. There are companies that will come out of this better than ever. But not all. This isn’t the time to buy that leveraged oil driller that needs $35 oil to survive. You can bet on that later. Good companies gain share in bad times. Use that thought to your advantage.
Do you remember Susan Boyle? Her 15 minutes of fame came when she sang “I Dreamed a Dream” on a UK talent show and her moment went viral all over the world. Today, she celebrates her 59th birthday.
James M. Meyer, CFA 610-260-2220