April Investment Comments
We are all concerned about the potential impact of the coronavirus outbreak on our families and friends, particularly those who are elderly or who are already dealing with other medical issues. We hope you are well and urge everyone to exercise appropriate caution. Although it is uncomfortable to lose our social avenues, we hope the closing of public facilities will severely limit the opportunity for this virus to spread further.
Investment Comments typically focuses on economic and market developments, and the outlook. Recent economic statistics primarily reflect the pre-coronavirus economy, which is now a matter of historical record rather than an indicator of where we are headed. The economy has clearly taken a hit—we can see it with our eyes, and the market movement has confirmed it.
The economy and market are being driven by coronavirus-related concerns. We see three facets to the coronavirus. There is the medical truth about the virus, the economic impact of society’s response to the outbreak, and the financial effects for investors.
There is a lot we don’t yet know about the virus. On the one hand, the coronavirus is believed to be more contagious and result in a higher mortality rate than routine viruses such as seasonal flu. The number of cases diagnosed in the United States has grown quickly, but from a very low base.
With time, testing, and social distancing, the countries affected earliest such as China and South Korea have experienced a significant reduction in the rate of new infections. The number of new cases in South Korea, a nation of 51 million people, has dwindled to about 100 a day with a mortality rate of 1%. It seems that intense testing may have uncovered more coronavirus sufferers, and shown that 99% of them recover.
Coronavirus appears to be far less prevalent in the southern hemisphere where the seasons are just changing from summer to autumn. Some of this could be due to lower access to testing, but it also suggests that seasonal patterns we see with the flu may also apply to coronavirus. Again, though, there is much even experts don’t understand.
There will certainly be a profound economic impact from the outbreak, likely leading to a recession in the U.S., Europe and elsewhere. Many vacations, business trips, conferences, and sports and entertainment events have been cancelled. People are refraining from eating at restaurants. Workers will be furloughed. These represent lost economic activity. Through additional spending, lower interest rates, and Quantitative Easing, the government has enacted policies to deal with the human consequences of lower levels of economic activity.
The stock market reflects investor concerns about the near-term impact to the economy. At the recent market low on March 18th, the S&P was down 33% from its all-time high a month ago. To put this into perspective, the market has retraced its gains going back to early 2017.
In the post-war period (since 1945) the typical bear (declining) market reaches a cumulative loss of 33%. There is no way to know if conditions will worsen, but at this point U.S. markets have reached the losses from a typical bear market.
Bear markets eventually end and a new bull (rising) market begins. The seven bull markets in the post-war period have lasted an average of more than nine years, including four that exceeded a decade in length. Over this time, the S&P returned over 17% annually. Stocks are in bull market territory 87% of the time. The 13% of the time when they are in bear market territory is the price investors pay for making 17% a year 87% of the time.
Our investment team isn’t sitting still. Our initial changes represented attempts to dodge risk at certain companies that seemed particularly vulnerable, while replacing them with others that appear less dependent on the overall economy. We also built up a little more cash. More recently, we challenged each other to identify companies we admire, but thought too expensive to buy at their former prices. We are trying to use this opportunity to upgrade the portfolio and set up clients for success when the market inevitably turns up again.
When will investors start to feel better? That is hard to say because bull markets don’t announce themselves. A bull market is a 20% rise from the bottom, which is a lot of ground to cover. There will be false starts along the way. This is why investors who “time” the market by guessing when it is going up or down have accumulated dismal results according to every study we’ve seen. Just set a strategic goal and adhere to it. It is difficult to do, but emotions have to be put aside.
In addition to keeping yourselves and your families safe with frequent handwashing and reduced social contact, the other important thing is to make sure you have access to money. Pension and Social Security checks will continue, but working clients may or may not have their regular incomes. If you feel like your cash balance is insufficient and that you may fall short, please call us so that we can talk about whether it is appropriate to withdraw some funds from your portfolio.
Regarding Provident as a business, we have taken steps over the years to allow us to function even if we lose access to our offices. Our important business partners like Fidelity and our software and service vendors are taking the same steps.
Our state government has ordered everyone to stay home. Email would be the best way to communicate with us, and we can call you to talk on our cell phone if needed.
We have to psychologically prepare ourselves for more bad news. More testing will lead to more diagnosed cases. But there is an upside to the valley, and the good times vastly outweigh the bad times. We investors have to keep repeating this to ourselves as we get through this period.
Scott D. Horsburgh, CFA