The Bull Is Dead
Last night the S&P 500 closed down 19% from its February 19th all-time high. A 20% decline is considered a bear market. Today, markets are selling off and it appears the 11-year bull market will officially end at today’s close. Our target for the S&P 500 for 2020 was 3,500, a 9% gain. On February 19th it reached 3,386, only 3% below our target. It is now 25% below our target. We didn’t underestimate Covid-19, we did underestimate the fear and reaction to Covid-19. Our investment process is driven by economic data. We try hard not to let emotions impact our decision making. Historically, this has allowed us not to overreact to the many headlines of impending doom that eventually proved false. Over the long-term, this had treated our investors well. A main tenet of our investment process is that while we tactically reallocate from overvalued to undervalued assets, we believe investors should always be invested in their long-term strategic allocation. We do this because the mathematics are indisputable. The explanatory power of shorter-term market movements is close to zero, while the explanatory power of longer-term returns is high. Investors’ wealth accumulation has been harmed far more by not participating in appreciating markets than being invested during market downturns. As of last night’s close, the S&P 500 was down 19% from its February 19th high. Put differently, this means that all gains since June 3rd, 2019 have been wiped out. Roughly 7 ½ months of gains.
More importantly, what does this mean for stocks and the economy going forward? Our big picture thesis is that the economy will take a material, albeit temporary, hit. With travel and entertainment essentially shut down, the economy will suffer greatly. With the caveat we are not virologists, the consensus among virologists is that the Covid-19 virus will eventually peak and then subside as time passes and the weather warms up. We have already seen this happening in China and South Korea. China has 1.4 billion people and 80,000 cases currently. Their daily case count is now under 20 and their economy is starting to recover. South Korea, which experienced the Covid-19 outbreak much earlier than the U.S., has 50 million people and 7,500 cases. Italy is a disaster. Some blame Italy’s response while others point to their much older demographic. The bottom line is our forecasting is greatly dependent on the course of this pandemic and its associated fear. We are lowering our growth estimates for the U.S. economy in 2020. Our beginning of the year forecast of 2.7% real GDP has been lowered to 1.5%. We expect Q1 GDP to still come in around 2% but are now forecasting 0% GDP for Q2 and Q3, with a sharp rebound to 4% in Q4. It’s possible the economy will rebound faster if containment of the virus, and the fear associated with it, happens sooner than expected. The doomsday scenario, which we don’t expect but are monitoring, is that the virus does not subside, corporations are unable to return to normal operations, and their corporate debt is unable to be serviced. This returns us to a 2008-2009 scenario and changes the economic downturn from temporary to systemic. To reiterate, we are currently assigning a low probability of this scenario but also acknowledge the probability is not zero. We don’t think it makes sense to send out our updated valuation frameworks at this point. While they show stocks as undervalued, this is entirely dependent on forward earnings forecasts, which are highly uncertain and almost entirely dependent on the future course of the pandemic. Europe and Asia were on the verge of a recession before the pandemic, there is no doubt they are now in a recession. We are not likely to reduce equity exposure at this point but are exploring repatriating all foreign assets. We will be hosting a conference call tomorrow at 10 AM regarding financial markets, the economy, and your portfolios. We will send out call-in information later today. We encourage you to call in. If that time does not work for you or you would prefer a private discussion, please let us know and we will set up an individual call. These are trying times; our expectation is that sticking to the longer-term plan will continue to prove beneficial. Thanks, The GreenPort Team