I have been asked if what has happened to U.S. markets in early 2020 is indeed a stock market crash, being I am one of the few individuals that worked the “Crash of ’87” as well as every other crash or market disruption since. Yes, folks, as your portfolio has already told you, this is indeed a crash. Though due to circuit breakers, we may never see the one day mayhem that we saw back on October 19th, 1987 ever again, I believe that perhaps this particular market meltdown may be more severe on some other terms, maybe more important terms. Let me try to explain.
Back in 1987, the U.S. still had an economy to fall back on. There was give and take. Even when markets took beatings in 1998, and during the days of the “Great Financial Crisis” (2007-09?), there was economic activity. There was demand at a level, some level. Recession? The last one was awful. No doubt. They all stink. Even during the extremely shallow and short recession of 1991, we thought it terrible at the time.
So, it is different this time? Well, right now… yes it is. In prior recessions, economic activity contracted. In this one, due to the necessity to socially distance ourselves from one another, we already see some aspects of the economy coming to a complete stop. There are places in this country where some folks still go about their daily business as if everything is normal. Others not at all. There are industries where there is now no demand. Absolutely none. This is not simply less people seeking out something like like leisure or entertainment, this is absolutely no people seeking entertainment. Suddenly, the guy who picks up your trash twice a week is a far more significant person of impact in society than the most famous movie star or the best ballplayer. Perhaps it should have always been that way. However, there is no “perhaps” about it now.
The shock to demand due to a need to avoid your neighbor will result in a supply shock that directly impacts the supply of labor in a service sector economy. You’ll get by if they don’t release a new movie for a year. You will not get by if trash pick-up just stops.
This Is Why…
The spread of the Covid-19 virus must be slowed dramatically before the entire nation is in a state of isolation.
The healthcare industry must be provided with, and enabled to provide whatever is required to positively identify, and then treat cases in as close to real-time as possible without financial concern. This must happen prior to the over-taxing of healthcare system capacity as well as the capacities of the service providers who work in the industry. They are the twice a week trash removal workers mentioned above. They need to be able to work effectively, and not have to cover several “neighborhoods” because their colleagues can’t work.
Time is of the essence. I appeared on Italian television on Thursday. Not an expert, but the reporter who did the interview told me that she figures that we are just days behind Italy, but on the same curve. What if she is right? What if lock-down becomes widespread. This possibility (likelihood?) can not be discounted.
Congress needs to act. No fooling around. It appears that the Fed understands that the nation has been sucker-punched. The central bank can not do this alone. Treasury, by virtue of our legislative bodies has to be enabled to dance with the Fed in order to temporarily backstop an economy that increasingly shows signs of not slowing, but stoppage.
Am I overreacting? I sure hope so. In fact, I pray it so.
… is loving and giving. According to Mother Goose, Tuesday trading was indeed an act of grace. Wednesday was quite woeful, and Thursday had more than far to go. In fact, Thursday, all of your broader U.S. equity indices gave up between 9.4% and 10%, in line with global beat-downs. The S&P 500 has now surrendered 26.7% from the all-time highs less than one month ago. Over one month, among SPDR Select Sector ETFs, Healthcare (XLV) is your out-performer at -18.75%, while Energy (XLE) remains entrenched in last place at -46.46%.
Trading volume was indeed enormous on Thursday, even high relative to what traders have experienced of late. There was no lack of conviction in the selling. Declining volume beat advancing volume by a rough 28 to 1 across New York Stock Exchange listed names. New lows outnumbered new highs 2,377 to 2. Not a typo. Safe haven? Gold took an epic beating. So did Bitcoin, the U.S. 10 year note, and even the Utility sector (XLU) that shuffled backwards 10%, in-line with equity markets in general. Why? Why did everything selloff? Cash.
There was across all asset classes a need/desire to go to cash. Margin calls? Certainly a part of the Thursday meltdown, and that negative impact has now been removed for the time being. Nor will there will not be a lot of purchasing of equities today using borrowed funds, at least I would not think so. Hence, trading volume will probably tail off on Friday as the market attempts a technical rebound. That itself will make any rally unreliable as the chart-monkeys (myself included) do their weekend homework.
About The Yield Curve
The spread between the yields of U.S. 3 month and 10 year paper has expanded rapidly of late… for the wrong reasons. In past morning notes, I have used this particular spread as an indicator of U.S. national potential for both economic growth and consumer level inflation. Take a look at this spread over recent days versus the S&P 500.
What has happened here has been a sharp decline in liquidity in Treasury/Bond markets just as it was needed most. This is why you all saw the Fed take sizable and necessary action, intervening in repo markets the way they did on Thursday. The midday surge in equity prices that was then sold off was an electronic reaction by keyword reading algorithms that had mistakenly taken that news as a form of quantitative easing which would be stimulative. What the Fed did was grease the wheels of liquidity. Nothing more. This was actually a terrific argument on behalf of human traders who actually read the statement, and then took advantage of algorithmic error.
Liquidity in Treasury markets has withered due to a number of factors. Profit taking? Sure, but more than that. Banks have had to pull away from facilitating clients, some traders are trying to work from home, and thus participating at the bid or offer less, exacerbating the pricing gaps. This in turn forces risk managers to panic, and subsequently positions in these assets are unwound.
Much credit must be handed to the Fed for the actions taken on Thursday, and those that the NY Fed will take today as well. As for something stimulative? Beyond spreading the $60 billion monthly purchase program more evenly across maturities? For that, you will have to wait until next week. The FOMC will make their next official policy statement next Wednesday, and if the Fed’s suddenly uncommon level of valor should become common virtue, the U.S. Congress will take action in a coordinated effort. That trash removal worker mentioned up above? That individual must not face financial ruin should he/she get ill or become quarantined.
Let me ask you a few questions…
Going to the movies lately?
Taking a cruise?
Staying at resort hotels?
Enjoying visits to theme parks?
As the virus has spread, and a number of states have places size limits on any large gatherings of humans, the Walt Disney Co. (DIS) has been forced to take action. The theme parks in both Anaheim and Orlando have now joined those in Shanghai, Hong Kong and Tokyo in closing to the public. By the way, theme parks contributed a rough $21.6 billion in revenue to Disney’s top line for the fiscal year ended last September. In addition, the Disney Cruise Line has suspended operations. The box office? The firm had a big year last year.
What does Disney have that’s still operating normally? The cable televisions networks, but even there, what sports will ESPN be able to cover live? The streaming services? Okay, those will keep running, and demand there may increase, but that business runs at a loss in the first place. Remember this chart?
You may recall that I had started to reenter Disney as the shares dripped into the low $120’s in late February. Still in February, I realized that I was making a mistake and reversed course, making some sales that proved solid outs even if at a loss. That said, I stand with 30% of a full position in the name, and that’s enough to cause pain. What now?
First off, for me at least, the time has long passed to make further sales. Not that I don’t think these shares can not keep falling. They can. If next week fails to provide broad stimulus for the economy, I expect the S&P 500 to get to the 2018 lows (2346) rather quickly, so I am not selling puts in this name though tempted. I am thinking about getting long something that exacerbates long-term gains should conditions improve by year’s end without increasing equity risk. Options markets will not open for several hours still, but how about something like this?
What my aging brain is tinkering with is getting long something like a January 2021 $100/$120 bull call spread, but only if I can get it done for a net debit of say $6 or $7. I think that I probably need a max payout of something like 3 to 1 to make the initial investment worthy of the expense. Just an idea. The mouse has been caged, as has its drivers for revenue and margin. The mouse… will roar again. Of that I am sure.
One More Thing
Microsoft (MSFT) still relies on personal computers and hardware, which in turn rely on troubled supply lines to produce a rough one third of the firm’s revenue. That means to me that the firm’s primary drivers are software, and cloud related products such as Azure and Office 360. These services provide regular recurring revenue.
Surprise! Awful as MSFT has been, and though the 200 day SMA is now in the rear view mirror, I feel that this is a name that I need to be adding to. Heck, my cash position has gone from elevated to very large to enormous. There is a time to act, and I think for Microsoft, the time is right now. I will be adding to MSFT up to $150 and/or down to $130, or basically within the lower chamber of my incredibly still intact Pitchfork model.
You do indeed have more to fear than fear itself. Okay. Understood. That said, I think that we must remain thoughtful while maintaining an ability to develop ideas into concept, and then take action. I want you all to physically exercise today. I want you all to read something, anything for pleasure today, and most of all, I want you to trust yourself.
If I sound foolish, so be it. If not from me, take counsel from the great General George S. Patton Jr, who said, “Take calculated risks. That is quite different from being rash.” Now, take care of yourself, take care of your loved ones, and tape on the foil. The market is not done with us. That said, we are not done with the market.
Economics (All Times Eastern)
08:30 – Export Prices (February): Expecting -0.2% m/m, Last 0.7% m/m.
08:30 – Import Prices (February): Expecting -1.0% m/m, Last 0.0% m/m.
10:00 – U of M Consumer Sentiment (March-adv): Expecting 96.3, Michigan 101.0.
13:00 – Baker Hughes Oil Rig Count (Weekly): Last 682.
The Fed (All Times Eastern)
Fed Blackout Period March 7-19.
Today’s Earnings Highlight (Consensus EPS Expectations)
Before the Open: (BKE) (.87)