With talk of the virus permeating everything in our lives, I have some great news just in case you are still hiding in the depths of your basement, taking inventory of your toilet paper, and food supplies, or watching a video tutorial on how to sew your own face-mask on YouTube even though you don’t sew. If so (no pun intended), you’re probably like some of us who could use psychological help navigating the fog of uncertainty that, so far, has left us with far more questions than answers. The financial side of the virus is so important, I would like to try and help offer a steady grip on where we stand regarding financial markets and the economy.
This is great news with the first quarter of our new decade year 2020 arrived with a global pandemic and the most abrupt market decline in history. In just 23 days we saw a market drop of 34%, which is far worse than we have ever seen in history. Now the S&P 500 is only 16% down from the record high and up 29% from the low a month ago while the unemployment rate has passed 26 million lost jobs which is the most we’ve seen since the Great Depression.
While we are in a pandemic and we are not sure how long it is going to last, we are dealing with an oil price collapse where earnings could be deflationary, and an already fragile economy that was indicated by an inverted yield curve months ago. We can easily expect a rough going in the economy before it starts to improve. For better or for worse … all we can say today with certainty is that we have all be touched by the health or economic impact of Covid–19. I realize it’s hard to see any light at the end of the tunnel but on a good note, we have reason to be optimistic about the future.
In a recent interview, Stanford Graduate School professor and former White House economic adviser Edward Lazear referred to the current economic decline as a “supply-based contraction.” In basic terms, the global economy is experiencing a contraction because businesses have either had to dramatically alter or otherwise cease daily operations to crush the spread of COVID-19. Economists believe that the CARES Act and additional stimulus packages from the Federal Reserve will provide the much-needed financial support to small businesses and employees who would otherwise be working.
Because we are not spending money on events, eating out, traveling, shopping, and new washers and dryers, the demand side of our economy has ceased. Since we are not spending as much now, the businesses that benefit from our spending which is the supply side is temporarily shut off in the short term. However, economists also believe this is creating pent-up consumer demand that will soak up new supply as the economy resumes somewhat normal operation. If we use history as our guide, World War II serves as a comparable example of a supply-based blow to the economy that was then followed by successive years of strong economic growth.
This leads me to the reason for optimism regarding your portfolio. The extended relative under-performance of the small and value premiums (with premiums normally being a better return on a risk-adjusted basis) might have caused anxiety and frustration the last few years and, but our research shows that they could be poised for superior performance during the coming market recovery. The small-value premium underperformed by an average of 3.6% during some of the worst market draw-downs in history—6.1% after excluding fallout from the bursting tech bubble in 2002. However, the small-value premium went on to outperform the market during the subsequent recoveries by an average of 20.5%! Again, as you may have heard me reference in the past, I have no ability to foresee the future by reading the large crystal ball that sits on my desk but as we look back to history as our reference, it is not unreasonable to expect a similar outcome in the future.
Obviously, the path forward to recovery remains uncertain, and future levels of market volatility will always be unknown. But our scientific perspective on the future leaves a lot of room for optimism and positivism.
As I mentioned at the beginning of this brief, this is a very unsettling time. Let me rephrase, for some, this is clearly the most concerning moment in history on a global scale since World War II. I completely get it if you are concerned so if you have any questions about your investments, need to inform us of family or work-related changes, or want to discuss your financial planning needs, don’t hesitate to get professional help. Amy and I are not only here to help you reach your financial goals, but we want to make sure that we can help you get through this.