Stocks rose in the final half hour on Friday, closing out three straight days of gains. For the week, stocks were marginally lower. Earnings news for the week was uneven and confusing. First quarter results were heavily impacted negatively by the last two weeks of March as most of the nation went on lockdown. Second quarter guidance was either awful or withdrawn. Most managements simply can’t make any forecasts without knowing when or at what pace our economy will reopen.
But it looks like some states are beginning to take steps toward reopening. In Europe, countries like Italy and Spain are also moving slowly in the direction of normal, although it is safe to say that early steps are tentative. Nonetheless, tentative is both better than none at all, and offers a path back toward normality.
Everyone has an opinion as the world tries to put the worst behind us collectively. Some warn of a rapid rise in cases as we all interact more, while others warn of an even worse wave of disease in the fall using the 1918-1919 Spanish flu pandemic as a template. On the other hand, there are some who hope that slow reopening, combined with warmer weather and the end of school terms, may allow a true flattening of the disease curve without a spike in new cases. While virtually everyone has an opinion, no one knows.
Indeed, with hindsight, we are learning that Covid-19 was in the U.S. and spreading weeks before we saw it, most likely carried into the country by overseas visitors from both Asia and Europe. Because the disease is both highly contagious and often invisible in its early stages, most officials were unaware it was here and how rapidly it spread. As a result, responses were too late in retrospect, requiring mass lockdowns for longer than might have been the case with earlier detections.
The economic consequences of the late but harsh response are apparent as we see earnings releases. The stock market came to grips with this in late February and March, before the lockdowns even began. It is amazing how efficient a forecaster financial markets are. They predicted both a massive short-term slide in earnings and credit crunch that could only be resolved with massive monetary policy actions. We have also seen a massive fiscal response seeking to offset the economic damage created by the response to the virus.
For the past three weeks, however, the tone of markets has changed markedly. Stocks have rebounded. Financial markets have stabilized after the rapid influx of capital from central banks. Oil, however, has tumbled. There are several messages here.
1. Economically, markets seem to believe that the second quarter will be the worst.
2. Early and massive central bank action stabilized bond and related markets, but low rates suggest the economy will operate at sub-par levels for an extended period.
3. Even when the economy recovers, there will be scars. The collapse in oil prices is one consequence. Inventories of unsold oil are so high that there is no place to put new production. Markets are forcing producers to stop as much activity as possible until balance can be restored.
4. While a vaccine seems at least a year away, there are massive and multiple efforts to find a cocktail of working therapeutics that will reduce the disease’s severity. That provides hope.
No, unfortunately, ingesting bleach won’t work. But there are a range of therapies being tried that hold some promise. Individually, each trial offers a degree of hope. However, the odds of any one trial by itself being able to move the therapeutic needle far enough to end most fears is small. If you look at the most high-profile immunologists involved in searching for a treatment, a large number, including Anthony Fauci and Deborah Birx, were actively involved in the search for a cure for HIV and AIDS. Actually, there still isn’t a cure. Rather there have been progressive improvements in treatments over the years, such that today, assuming early diagnosis, HIV patients can be treated and live a normal life without progressing to AIDS. That is likely the path forward for Covid-19 treatments. Over the next couple of months, various trials, using correct and rigid scientific protocols, will show how effective some drugs can be. Many are existing drugs aimed at other diseases including autoimmune diseases. Some are monoclonal antibodies. There are many candidates designed to attack coronavirus in different ways. Because there are so many diseased humans today that can participate in trials, and because the end point, measurable and sustained improvement, can be achieved in a very short period of time, we will all know rather quickly what works and what doesn’t. It is likely that initial steps forward will be small, i.e. modest improvement in the progression of the disease. But that is the way these “cures” go. First, one drug offers some hope. Then a second shows greater improvement. Maybe a cocktail of two or more provides further gains.
No one is expecting a cure. But if mortality rates can be cut, particularly for those in less compromised states, our fears can be reduced to a level where economic normality can be restored quickly. If you go to Africa, infectious disease doctors will often prescribe the same anti-malarial drugs that have gotten so much press in the Covid-19 scare as a preventative. You take it for 1-3 weeks to avoid any possibility of malaria even if you are bitten by an infected mosquito. Unfortunately, to date in the case of Covid-19, it seems the side effects of these drugs are too high for prescribed use.
But the markets are predicting a therapeutic victory over the coming months. Without any treatment, there is a high probability that the virus will remain an economic threat well into 2021. The big difference between today and 1918-1919 is what science offers. A century ago, social distancing was understood. Where it was practiced, disease severity was less. Some isolation was practiced.
When states and local governments reopen the economy, there isn’t going to be any going back, short of passive catastrophe. We have all accepted a month of quarantine, but it is unlikely that younger Americans will be as accepting a second time around. That is why states with concentrated populations and high levels of the disease are going to be cautious about reopening. Early steps will be relatively small and obvious. They will be accompanied by social distancing protocols and a lot of improved sanitation measures. I won’t speculate how successful they will be. But it will take time to find out. Until then, restaurant attendance will be far below normal, and planes will remain empty.
But if a warm summer and extended daylight helps to keep cases down over the summer, and there is some success on the therapeutic front over the next 3-6 months, the worst may be now. That isn’t a prediction of mine; it remains a hope. But markets seem to be buying into that hope. Yes, the flood of money lifts stock prices. It is quite possible that the flood of money is the only catalyst for rising prices. We also see, as JC Penney and Neiman Marcus prepare for bankruptcy, that there is going to be real damage. However, in a world that has had too much capacity for years, we will survive with 10-20% fewer restaurants and fewer department stores. Some industries will get smaller. Oil is another example. Some positive trends will also be accelerated by the impact of the virus. Greater use of the Internet and digital substitutions for cash are two examples. Pandemics do have a way of right sizing in a rather brutal fashion.
But the message of the market is actually one of hope. Hope that the worst is now. Hope that growth can resume shortly. Hope that right sizing over the next year or two will be effective. As the world changes and adjusts, there will be damage in its wake. As we invest, we have to adjust accordingly.
Once the Chinese failed to contain Covid-19 at its origins, a worldwide pandemic was inevitable. Earlier detection may have been able to limit the damage, but worldwide spread was inevitable. Now it is up to science to reduce the carnage. Herd immunity will ultimately end it. There will be other pandemics to come. Hopefully, we will learn some valuable lessons this time around. As investors, we are reminded to look forward. We care about who will win and who will be left behind. The pace of progress is important, but being on the right horse is what is key.
Today, Lizzo is 32.
James M. Meyer, CFA 610-260-2220