The strange irony of Covid-19
There are holes in the Wall of Worry argument that “everyone’’ is bearish. Renaissance Macro notes bulls are back to 49% and composite put/call data is at February lows. While the first wave up-cycle off the March bottom in stocks does suggest sustainable lows are in, JP Morgan says the typical second wave out of a bear market retraces at least 50% and often 76% off the initial rally as all the good news gets discounted. Goldman Sachs has a 3-month downside target of 2,400 on the S&P 500. Correlation and credit-spread risk has pushed S&P volatility attributable to macro data to the 98th historical percentile, and it appears there’s more to come. Cornerstone Macro puts downside risks to the recovery at its highest in a half century, with the economy about to endure a gauntlet of fiscal mini-cliffs, starting with the expiration of Paycheck Protection Program coverage in June for most borrowers, followed a month later by the end to emergency $600/week unemployment insurance payments. China’s stumbling reopening indicates consumer/services—the largest and hardest hit segment of our economy—won’t snap back quickly, a view reinforced by surveys showing consumer hesitancy to go back to bars, restaurants and sporting events. Millennials, the largest U.S. cohort, could adopt a pseudo-Depression-era spending mentality as they struggle with the second “once-in-a-lifetime” economic shock in their young careers. Having cyclically peaked in 2019 on tax reform, buybacks, stimulus and low input-cost inflation, earnings-per-share confront a range of challenges: potential hikes to corporate or individual taxes, some potential cost inflation and fewer buybacks. Renewed geopolitical tensions, particularly with China, also loom.
I took the virus crisis real hard at first, and I had been bearish. But that all changed once the Fed said it will buy high-yield exchange-traded funds. I did a women’s virtual event this week, and my hostess said she hears concerns often that the massive stimulus will be inflationary. To plug the Covid hole, Fed and fiscal spending is close to 40% of GDP. Borrowing from the future to fund today’s growth not only fails to rationalize excess capacity and clear the slate for a real recovery, Bank of America says, but also indicates at some point, we will pay. Just not anytime soon, Fundstrat says. The Treasury just came out with a 20-year bond with a yield so low that the interest burden is 72% lower than existing bonds, and the overall interest tab for borrowing $3.6 trillion to date amounts to $24 billion per year, less than 0.1% of GDP annually. With such a low added burden, all this spending has little risk of crowding out private sector spending. Indeed, total U.S. debt service, per Congressional Budget Office projections, is actually set to fall in the next decade. As for fears unprecedented stimulus will fan inflation, the Fed expects it will take at least two years just to get back to where it was, struggling to reach 2%. JP Morgan thinks disinflation is more likely for the foreseeable future.
The strange irony of Covid-19. I stole this line from Fundstrat’s Thomas Lee. I met him 10 or 15 years ago when we were on the annual USA Today outlook panel and was struck by his positive spirit, which he still exudes today. I’d love to be his BFF. The S&P has retraced 64% of its losses, but four sectors—Lee calls them “epicenter groups”—are well short of that mark: Discretionary (ex-Amazon), Energy, Industrials and Financials. This is where "upside" exists, Lee writes. Without economic visibility, many view these areas as “gambles.” But buying when visibility is its worst historically has been the best time to put capital to work. And there’s a lot of capital—investable dry powder amounts to about 75% of GDP if public and private sources are combined. Without an industry “at the scene of the accident,” such as Tech in 2000 or Financials in 2008, this crisis will require a fair amount of spade work to uncover opportunities. Indeed, it’s an active manager’s market, Jefferies says, a view reflected in active’s growing outperformance (Goldman Sachs says 45% of large-cap mutual funds are outperforming their benchmarks year-to-date, well above their 10-year average of 31%) and by a marked slowing in the rotation from active to passive equity funds. With “Big Growers,” 75 large-cap stocks favored by hedge funds and with the best all-around growth credentials, trading at valuations last seen in December 1999, Empirical Research is turning to the “Plodders,’’ which also have done well with less eye-popping returns but with free cash flow margins comparable to and sometimes better than their superstar cousins. The strange irony of Covid includes those stocks that have done well and those that have not in this crisis. The other strange irony of Covid is active management is BAACCK!
- A ‘V’? Mortgage applications increased a fifth straight week, surveys of consumer confidence are rising—the percentage expecting more jobs six months from now jumped to a record high this month and sentiment also climbed off April’s low—and remain above the lows of the last recession, and business applications—a sign of willingness to take on risk—have jumped. Deutsche Bank also found data showing an improvement in the rent-payment profile from April to May. If people can look through the near-term shock and keep spending, the recovery could come quicker.
- People love to shop Shopping releases dopamine, which makes us feel good—a nice tonic for times like this. This hasn’t been possible to do in person with so many stores closed. But spending at many retailers not only has held up, but has expanded. Online shopping accounted for a record 40% of March general merchandise sales. The online experience provides a double dose of dopamine, Yardeni notes: when shoppers place the order and when they open the box upon arrival.
- Some good coming out of Covid, plus a few pounds TIS Group shares a Kampgrounds of America report that said a third of leisure travelers who’ve never camped are now interested, with millennials and Gen Z’ers comprising almost half of prospective new campers. Financial services aggregator Revolut says donation amounts have jumped almost 60%, led by a 147% surge in the 50+ age group. Other crisis trivia: A Zippia poll found half of millennials want to work from home permanently and older people feel significantly more productive working from home than younger workers. While at home, 47% of women and 22% of men have gained weight, WebMD says.
- Or a ‘U’? Jefferies’ newly launched economic activity gauge based on alternative data shows the U.S. at just 35% of pre-Covid levels as of May 15. Among its components: traffic congestion is at 33% of normal; there’s been no improvement in public transportation trends; international flight activity remains at 11% of normal; and electricity consumption continues to fall and is at 91% of year-ago levels.
- Overseas may be worse The scale of the economic shock to the euro area looks much deeper than Deutsche Bank originally estimated, with the return to pre-virus levels of activity now expected to take much longer. Ned Davis says the European earnings outlook is the most pessimistic on record. Emerging-market weakness also appears underappreciated amid rising Covid cases, extended lockdowns, weak external demand, the collapse in commodity prices and debt.
- Some jobs may be gone for good The long fat tail in the profile of job losses suggests layoffs no longer are just because a backlog is still being processed. Instead, the fact 2.4 million more jobs were lost last week after nine weeks of shutdown suggests a more permanent reallocation of workers away from jobs in industries that require a high degree of face-to-face and close physical interaction.
Election watch 30% of respondents in a OnePoll survey thought President Trump was unprepared at the beginning of the outbreak. But 62% think he has subsequently done a good job overall, at odds with what the media is saying, which suggests perhaps the virus won’t be a major election issue. However, a Strategas Research survey of almost 700 institutional investors found a little more than half now believe Trump will win reelection, down from more than 80% at the start of the year.
I miss the Marriott concierge room, my home away from home While disruptions may last years, Covid-19 doesn’t spell the end of business travel, Deutsche Bank says. Companies are finding that not all virtual experiences are positive and relationship-building is easier to do in person than over a video call.
Is he trying to tell me something? Social distancing means I’m spending uber time with the Mister. He just texted me a Twitter “Fact:” Women speak about 7,000 words a day; men average just over 2,000.