Episode description
Market pullbacks, indeed, are opportunities. But things are not as simple as saying, buy when the markets are down. The coronavirus-induced market turbulence is affecting everyone – but how it affects you depends upon your goals and objectives. That is, if you can control your fear. After all, that is mostly what is happening at the moment, reactions based on fear. Don’t get me wrong, we recognize that these are scary times, particularly for those in or near retirement. Nevertheless, regardless of your age, or place in life, we consider market dips as opportunities, not threats.
And speaking of fear, remember that what you hear on the news is not likely what you are experiencing in your portfolio. That’s because OmniStar investment strategies are designed to have lower beta and standard deviation than general indexes, such as the S&P 500. Risk-adjusted return defines an investment's return by measuring how much risk is involved in producing that return, which is generally expressed as a number or rating. We apply this to every client portfolio to ensure risk is reduced as much as possible without sacrificing total performance. For example, many of our clients in recent weeks have experienced losses of approximately 10% while the S&P 500 is down nearly 30%.
Let’s cover a few points before we move ahead.
- The impact of the coronavirus on the economy continues to escalate which calls for adjusting GDP estimates.
- Oil prices have fallen to $30 per barrel, which warrants a lowering estimates of capital investment into equipment.
- President Trump has banned travel to Europe and sports leagues have cancelled games, tournaments and seasons, leading us to rein in expectations for personal consumption expenditures on services such as flights, hotels and restaurants.
- Recessionary conditions in Europe and Japan will slow export growth.
- As well, the end of the bull market is likely to short-circuit consumer confidence, with a potential negative impact on auto and home sales.
With those points, let’s go ahead and answer what has become the most repeated question from our clients.Should we move to cash? The short answer is no. Moving to cash has many negative implications.
• You no longer receive dividends
• Covered call premiums are not possible
• Trying to time re-entry is a long shot
• You lock in current losses
I want to share salient points from a client call this week. Our discussion focused on their decision to move into cash. During our conversation, they shared a story of a friend who served on the executive team at Delta Airlines. Their friend advised them to purchase shares last year at a time when the stock was trading near $67 per share. They went on to say how Delta was well-positioned and “when we get through all of this, Delta will benefit”. Indeed, we agreed. However, they didn’t realize shares of Delta were trading down nearly 50% from just a year ago, yet their confidence in Delta was not compromised. All of sudden the realization struck that Delta is not the only company that will benefit when we get past the current pullback. Moreover, they realized staying invested makes sense if we believe companies will survive and do well as COVID-19 moves to the rearview mirror.
Again, we recognize these are scary times. But hang on and you will see where I am headed. I don’t want to state the obvious, but we expect the economy to contract during the second and third quarters, of 2020 and likely begin to experience some recovery in 4Q with more appreciable improvement through 2021. We might as well use the R word. They are part of our economy and they cannot be escaped.However, the last 11 recessions have averaged 11 months in duration. A potential silver lining this time around, we think the recessionary environment will be shorter, given the strength of the economy prior the current conditions. It appears likely that the virus will be contained in a relatively brief period.
For the last part of February and at least through the first third of March, the stock market could be described as tumultuous, to say the least. The S&P 500 Index, the Dow and Nasdaq have fallen precipitously. In some cases, indexes are down by nearly 30%. While the Coronavirus is somewhat to blame, we view it as more of a catalyst that caused a fear-trade. Prior to the Coronavirus outbreak, the following criteria set the stage for a market correction in 2020.
• Markets priced to perfection
• Corporate earnings were peaking
- Stocks trading above fair value
• PE ratios high suggesting overvalue
With the Coronavirus tipping the markets into a sell off, the Fed has implemented the following to reduce financial impacts.
• The Federal Reserve cut rates by 25 basis points in an emergency meeting
• The Fed has now taken rates to near zero.
Going to cash and sitting on the sidelines means you miss some of the best up-days, which are needed to offset the down-days.
Consider these history-making days and you I think you will appreciate why staying invested is usually the best course. This covers trading days from February 24th through March 18th:
• Those trading days saw 7 of the 9 largest one-day-point-losses for the Dow in history
• Those days also saw the two best-one- day-point-gains for the Dow in history
Is opportunity knocking? :
If you are retired or some other life event has forced you to live off of your savings, naturally, you are nervous, the headlines and histrionics of media commentators are enough to scare the bravest of souls. They can quickly take away confidence.
But consider heeding the words of the legendary investment manager John Templeton, who famously counseled, “Buy when there is blood in the streets.”
I want to share some important numbers from One of our strategic resources, ARGUS Research. They have adjusted their outlook and expect approximately 10% annual decline in continuing operations earnings for 2020, bringing the earnings per shar on the S&P 500 to approximately $146. On that basis, they lowered their 2021 forecast to $162, from a prior $180. On the lower EPS numbers -- and in the wake of Monday's sharp stock sell-off – their market valuation model is indicating stocks are about 16% below fair value. Certainly, an argument for buying. So, where will the market be at the end of 2020? We think it is highly probable to be in a range of 2800-3300.
Global GDP growth rates are also expected to be revised downward by economists. The International Monetary Fund initially set its forecast for global growth in 2020 at 3.2%, up from 2.9% last year. We estimate that the cutbacks in China alone — where growth had been forecast at 6% for the year, but may come in closer to 2% — could reduce that 3.2% rate down toward 2.5%. Adding the fact that Japan’s economy contracted 6% in the latest quarter and that Germany has been flirting with recession for the past year, 2020 is likely to be the slowest year for growth since the financial crisis years of 2007-2009. Central banks around the globe are moving quickly to provide aggressive measures - fiscal stimulus programs are definitely part of their conversations.
We note that budget deficits are already high, as a percentage of GDP, for the U.S. so our central bank is dealing with an already difficult scenario – COVID-19 has added yet another layer of complexity.
Technicals
The S&P 500 plunged 12% on March 16, its worst one-day decline since the crash of October 19, 1987. From its all-time high on February 19, the index, as of that date, has plunged 29.5% in just 18 days, also the worst decline since 1987. The index closed at 2,386 and is rapidly approaching key chart support near 2,350 from the lows in December 2018. Interestingly, that area also represents a key retracement of 38.2% of the entire bull market since 2009. We view this as a very important area and will closely watch how well the market manages to hold this level. Maybe we hit a panic low on 3/16, but we really don’t know yet. Let’s agree, the market has a long way to go to dig itself out of this mess.
Also making a case for the bottoming process, we are back below the 200-week moving average, as well as what we consider to be the bull market trendline. Both of these longer-term supports are near 2,650. The risk/reward seems very favorable based on market sentiment and market breadth. Moreover, bear markets never end on good news and market bottoms tend to occur before the economy turns positive. Other indicators of a returning bull are stocks trading at a discount, unusually high dividends, and heavy trading volume. All of these elements are in place. The 14-week Relative Strength Index (RSI) is extremely oversold, in fact, this is the most oversold the “500” has been since October 2008.In our opinion, we have seen the worst of this capitulation and now it is only a matter of time before stocks begin to move higher.
The key is a sound investment policy that allows a cushion – money market funds, dividend paying stocks, selling covered calls, and other safe and low-volatility repositories that allow you to avoid selling stocks at low levels.
If you are a client of OmniStar, you can better appreciate our focus on value stocks with good dividends and reasonable P/E ratios. Such holdings are less aggressive and have a history of lower volatility. Your investment team is working diligently to rebalance portfolios that have been thrown askew over the recent volatility. Your portfolios are being brought back to their intended balance of equities and fixed income. This is a necessary step in staying the course during volatile markets, and an opportunity to score equities trading lower.
Keeping the Big Picture in Perspective
No one likes to see markets continuing to set one-day point-drop records. And while the media continues to scream that the sky is falling, let’s think for a moment- it’s not.
Remember through the first few months of 2020, we see:
• Low and declining energy costs
• Low interest rates
• Low inflation
• Easy monetary policy and more aggressive measures being implemented
• Low unemployment (50-year low)
• Stable housing market
• Banks in solid financial condition with strong balance sheets
Given the pre-coronavirus strength in our economy, now is not a time to abandon long-term investment plans. We maintain that shifts in the economy can, and often do, present buying opportunities. The world is witnessing widespread shutdowns and quarantines, measures that have never been seen outside of wartime. These conditions will reduce economic growth and increase the odds of a recession. In fact, we surmise a recession is already in play. However, the aforementioned points suggest we will see a much quicker return to normalcy as compared to other recessionary times. At this point, we are planning for a sharp economic slowdown, but we are confident it will be short-lived.
Bottom Line: The sky is not falling as winter 2020 comes to a close. But metaphorically, we are not immune to stormy conditions from time to time. These periods serve to remind us why the proper gear is necessary. In this case, the proper gear is a comprehensive wealth management strategy and a team of professionals to help you stay on course. Having a plan provides peace of mind because the planning includes conditions just like those we are experiencing today. Market vicissitudes are not new and they will always be part of investing.
In closing, stay calm and avoid emotional impulses that may not be justified. Remember, impetuous decisions based on the medias passion for selling fear is not a strategy. Try to avoid obsessing over things that are unlikely to derail a well-designed strategy. Thanks for joining us and we will see you soon on We are talking money.