Highlights
• The coronavirus infection rate is climbing sharply, the U.S. and world are in the start of a deep recession and financial markets are strained. Volatility and fear will remain for some time, yet we think stocks have a good chance of moving higher over the next 12 months and should outperform bonds.
• The factors we are watching to confirm a bottom is in place: an eventual decline in new cases, falling credit spreads, rising Treasury yields and oil prices and stable weekly jobless claims.
• Panic selling continued last week, driving U.S. stocks down close to 15% for the week.1Prices dropped 12% on Monday for the third-worst day in history (after the 13% decline on Black Monday in 1929 and 20% on Black Monday in 1987).1 In other markets, the dollar continued to show strength and oil prices plummeted 29% for the week, but did rally on Thursday.1 The good news is that policy response has been quick and strong, and we still expect the eventual economic and market rebound to be sharp after a deep recession.
10 Themes To Consider
1. The unknowns make it hard to forecast the trajectory of the economy and markets. Health-care policymakers’ forecasts vary widely, with some expecting new cases in the U.S. to peak in a few weeks and others saying it could be months. We also don’t have a good sense of how quickly testing will come online or what treatments might be effective. On a positive note, China has three consecutive days without a new case.
2. We are starting a deep recession. The virus countermeasures have slowed economic activity to a crawl. We are just starting to see reflections in the economic data, such as the March Empire Manufacturing Index plummeting a record 34.4 points to -21.5.2 Initial unemployment claims were up 70,000 last week and could approach one million this week.3 Many companies, such as airlines, are severely cutting services and others, such as auto manufacturing, are shutting down.
3. Policy response has been the fastest and strongest outside of wartime measures. The Federal Reserve has been extremely aggressive, injecting $1.5 trillion of liquidity into the markets, cutting interest rates to zero and launching a range of facilities designed to keep credit and lending markets functioning. Washington is also finally taking the crisis seriously, passing a bill aimed at providing a safety net for workers and helping health-care supply. The focus now is on a $1.5 to $2 trillion stimulus package comprising tax refunds, small business loans, industry-specific relief and money market guarantees. Financial markets themselves have also provided stimulus, as lower rates prompt mortgage refinancing and lower oil and gasoline prices should help consumers.
4. Financial market flows point to massive capitulation. Over the last two weeks, flows into money markets and out of credit investments such as high grade, high yield and emerging markets debt were the strongest on record.1 Equities have also seen massive outflows.
5. Credit market liquidity is the main immediate risk. Individuals have been selling any liquid investment to raise cash, putting a tremendous strain on credit conditions. Credit market stability is likely to be the first signal that the immediate financial panic is over. Economic improvement will take far longer.