Month: March 2020

Below are the types of conjecture I’ve been hearing and reading this week.  Generally, I look for certain phrases at market turns to help cement the idea that sentiment is hitting rock bottom (which is needed for stock market sellers to exhaust themselves).

• “Why Would Anyone Want to Own Stocks Ever Again?”
• “Buy and Hold Investing is Dead.”
• “The Price of [insert commodity] Could Go Below Zero.”

While it may seem like all hope is lost, the zombie apocalypse is upon us, and capitalism is ending, we’re here to give you a few reasons why things under the hood might be a little better than you think.  It is our job to execute on the plans we’ve laid out prior to the crisis, and while you may not be very fond of us in three weeks, I’m fairly sure you’ll recognize the value of staying calm in three years.  Here’s a little bit of what I’m seeing to suggest we may have made, or are close to making, a intermediate low.  We don’t know if it’s “the” low, but there’s reason to believe it’s “a” low.

1. Valuation – According to Ed Yardeni, of Yardeni Research, Inc., the S&P 500 forward P/E Ratio (price/earnings) is roughly 13.5 (and was close to 20 earlier this year).  By this metric, the S&P 500 is back to similar valuations we saw in 2013 (even though price is only back to where we were 15 months ago).  These valuation levels could start to attract early buyers, but the huge caveat here is that we don’t know the impact coronavirus will have on the “E” part of this equation (earnings).  We didn’t have this information back in 2008 either, and we aren’t likely to get clarity for another three weeks or so until the banks start reporting the week of April 13th.

2. Daily Range Volatility – Via Macro Charts – The 10-day average range of the S&P 500 is now at 6.5%. This means the AVERAGE day, over the last 10, has seen the S&P 500 move 6.5% from its low to its high. That puts us in the top four all-time volatility events.  By the time we reached this level of volatility in 1929, the crash has already bottomed and a 62% rally ensued. In 1987, price had bottomed as well and the S&P never looked back. In 2008, we had already passed the Oct and November bottoms, but we did see a lower price in March of 2009.  It’s always possible we have more to go, but history suggests the bulk of the move is behind us.

3. The “Fear Index” – We had the highest close ever for the VIX (measure of fear and volatility in the markets). The last time this occurred was November 2008, and the market rallied 20% over the next five trading days.  Yes, the eventual low was in March of 2009, but in some markets, including the Nasdaq 100, a new low was never reached.  While we’re not in the business of calling a bottom, I do believe that the risk/reward to the UPSIDE is significantly in our favor.

4. Insider Buying – According to AlphaSense, of companies with a market cap above $1B, there have been 1,305 filings for stock purchases so far this month, compared with just 113 during the same period last year.

It would be foolish to not reiterate that markets can ALWAYS go lower.  Please respect and remember this.  The stock and bond markets are currently broken.  There are rumors of possible bankruptcies in places where it would have been unthinkable less than a month ago.  Combined with future speculation regarding overwhelming our current healthcare system, the need for massive amounts of respirators, and younger people not heeding the social distancing warnings, it seems like a never ending perfect storm.

But it will end.   And the stock market will likely bottom before the news gets better (hint: what non-market followers will perceive as bad news may actually be taken as good news because it could reduce uncertainty).  The market hates uncertainty and we have more than our fair share at the moment.  As more information unfolds regarding the dislocation in stocks and bonds, we should start to settle down.  The market just isn’t built to trade at this fever pitch for weeks on end.

The opportunity moving forward is NOT to catch the low tick of the market.  It’s to be around for the NEXT bull market.  That’s why we prefer index and sector funds to individual stocks.  Indexes don’t go to zero…

Stay strong (and healthy) out there and we look forward to communicating on an individual basis for the rebalancing plan over the next two weeks.

– Adam

Over the past decade, the S&P 500 is up 250% (it’s closer to 400% if you include dividends).  As impressive as the bull market has been, the relatively muted volatility, to me, has been the most impressive part.  The reason it’s been so amazing was outlined succinctly by Tony Dwyer, Chief Market Strategist at Canaccord Genuity.  He wrote that “in the real world, things generally fluctuate between ‘pretty good’ and ‘not so hot.’  But in the world of investing, perception often swings from ‘flawless’ to ‘hopeless’.  What I can say is that a month ago, most people thought the macro outlook was uniformly favorable, and they had trouble thinking of a possible negative catalyst with a serious likelihood of materializing.  And now the unimaginable catalyst is here and terrifying.”

Embracing the unknown and realizing that we won’t be able to pick the bottom is the first step, but regardless of the size of the decline, our playbook remains the same:

1. 1. Extreme downside inevitably leads to a reflexive reaction to the upside due the market fear leading all investors to being on the same side of the boat.  Given the vast amounts of negative news, there is an asymmetric risk/reward for good news, although we don’t know in what form this will take.  In February 2016, it was something as simple as a vote of confidence from the CEO of one of the largest banks in the world, Jamie Dimon (known in the financial world as the Dimon bottom).  In November of 2008, it was Warren Buffett making a large investment in Bank of America to give America the confidence to do the same (even though the market didn’t bottom until March of 2009).  What will it be this year?  We will only know in retrospect.
   2. The reflexive rally will likely only go high enough to burn off the fearful/oversold condition, not to repair the entire damage.  Per our blog post on March 9th, we continue to expect a reflexive rally to lessen the fear in the marketplace.  We anticipate this rally to be in the magnitude of 10%-15%.  For reference, a 10% rally will take us back to around 3000 on the S&P 500.  The idea that this will be a “V-shaped recovery”, similar to Q4 2018, is unlikely in my opinion.  During that period of time, the market was reacting to one specific issue, interest rates.  Once Federal Reserve chair Jay Powell did a 180 degree about face in December of 2018, the market did the same.  The current crisis will be filled with uncertainty for some time.  When will we start to see the number of Coronavirus cases in the United States peak, and inevitably subside?  When will Americans have the confidence to freely move about the country and the rest of the world?  How will these events affect the numbers of corporate America, and in turn, the economy overall?  Will the “work from home” contingencies lead to a future transformation for  corporations and lead to greater opportunities (telemedicine, cloud-based workstations, e-commerce options)?  These are questions we will not have clarity on for some time.
   3. In order to be reactive, we rebalance and/or add to equities if you’re able to do so, as the market retests the oversold low.  Our process here at Second Level Capital is a systematic one, exactly for times like these.  There will be a time and place to reassess everyone’s emotional capacity, but now is not the time to panic or change your strategy.  If you started the year at a 70/30 (stock to bond) allocation,  you’re account is down somewhere between 10%-15%.  But most importantly, your percentage of stocks is now more like 55% and your bond allocation is now around 45%.  When we go to rebalance your account in the coming days/weeks, the process dictates selling bonds, and buying more equities to get your portfolio back in balance.  Having a system in place that takes the emotion out of this decision is the only way anyone would ever do it.  If I took a poll of clients right now who are chomping at the bit to put more money in stocks, I don’t think I’d get too many takers, although it has proven over time to be the prudent action.

Something we alluded to as well in our previous post of March 9th was the idea of coordinated monetary and fiscal policy.  We’ve seen a major step in that direction with the NY Federal Reserve offering $500 billion in repurchase bank lending to make sure the liquidity in the system remains high.  I’m still waiting on the US Treasury and federal government empty the proverbial tank as well.  A virus will not be the end of America as we know it.  Now is the time for bipartisan government action to backstop small businesses, get money into the hands of those who need it most (service workers mostly), and look the nation in the eye while using the full faith and credit of the US government to fight this crisis of confidence.

The pain over the past three weeks has been unprecedented by many different metrics.  But I’ll leave you with a quote attributed to Morgan Housel (one of the greatest financial writers of our time), who said,

“There are only 3 edges in the market:

• • You can be smarter than everyone else
  • You can be luckier than everyone else
  • You can be more patient than everyone else

What’s your edge right here, right now?”

We’re here to chat with anyone who needs a confident voice because we’ve been here before, and came out stronger on the other end.  I believe we will again.

– Adam

 

Instead of writing something new, I would simply urge everyone to go back and read what we wrote just 15 months ago in December of 2018 (see bottom of post).  While the headwinds and tailwinds are different, many market internal figures remain in the same position they were on Christmas Eve 2018, before the market proceeded to rally 15% over the next 35 days.  In my opinion, the future line in the sand will be back up around the March 3rd intermediate high (again it’s just an opinion).

The manifestation of the supply/demand shock always changes, but the fear and emotional instability never fails. I continue to expect a coordinated, fiscal and monetary policy response (government spending increases massively) to combat the current situation, and while Brad and I are firmly prepared to wipe egg off of our faces in the coming weeks and months, we just believe that the market is currently priced for armageddon, which leaves it open to a healthy (5-15%) short to intermediate-term rally.

I read something this week from a fellow financial advisor that really struck a chord.  He said, “It’s a client’s job to tell you what their risk tolerance is. It’s an advisor’s job to figure out what their risk tolerance REALLY is.”  Having more communication during these times helps us better do our jobs in the future, so while we’re doing our best to reach out to as many of you as possible, please don’t hesitate to call or email with ANY feelings, thoughts, or concerns you might have and we will talk through them.

Instead of trying to find a short-term bottom, we must let the market find it’s own level of equilibrium, snap back to some price level from its current extremes and then we can and will be in touch to see if your current risk tolerance levels are within your own emotional limits, which we understand are currently being tested.

Wash those hands!  And this too shall pass, but given the breakage in several different pieces of the market (oil, bonds, etc.), the likelihood that this will be a months-long process, not a weeks-long process is high.

https://www.secondlevelcapital.com/2018/12/

While there are more important issues afoot in the equity markets, the 50 basis point surprise cut from the Federal Reserve is a gift horse that should not be looked in the mouth.  Wealth management is more than investment selection, and this is a perfect time to demonstrate how we can attempt to add value outside of your portfolio.

I had a friend in the office today who works for JP Morgan Chase and he said that yesterday he got a mortgage refinance done for a client at 2.5% for a 30-year fixed rate.  Now that’s probably going to be the best of the best in terms of credit rating and assets with his firm (membership has its privileges), but at this point in time, it’s worth assessing your situation and perhaps inquiring with a mortgage banker, regardless if it’s for debt consolidation, limiting duration (going from 30-year to 15-year for same payment), or just paying a couple dollars less per month.

If you do not have a mortgage banker with whom you’ve worked in the past and are looking for one, we can certainly give you the names of several we know and trust.

– Adam