How Bad Can it Get?

The stock market has declined over 10% due to fears over the economic impacts of Covid 19, aka the new coronavirus. While that number isn’t such a severe reaction – we were down 20% just as recently as the fourth quarter of 2018 – what’s been more interesting is the swiftness off the decline.

The markets have changed dramatically in the last decade, with index funds and ETF (exchange traded funds) providing a much more potent impact on trading. Fast trading, trading by algorithm, and leverage against positions to enhance returns on the upside are all more common today than just ten years ago. Information moves faster, and regulations dictating how and when companies must disclose information have encouraged that. These factors mean that downtrends move faster, finish faster, and may even reverse faster.

If we look at today’s situation, with the Covid 19 virus circulating, there is no question that the virus will deliver an economic slowdown. However, after that slowing, we think pent up demand will cause above trend growth. The question is, how bad will things be, before the market begins to look forward to the rebound?

No one knows the answer to that, but it is tied to the spread of the disease and the number of new cases in countries other than China – where new cases are abating and people are getting back to work albeit slowly. A vaccine will likely emerge in 18 months or so, which we would expect to provide a boost to risk assets. If a compound such as Gilead’s remdesivir proves effective against symptoms, then the rebound could arrive faster. Furthermore, bond interest rates have plunged. Consider that the ten year Treasury now carries a yield only slightly higher than 1% now. Is it possible to fund retirement plans at 1%? The answer is no. In fact, a majority of S&P stocks carry dividend yields higher than that now. Eventually, folks will need to go back to funding retirement plans in a sensible way, and that’s not going to be by using a bond that yields only 1%.

At extremes such as we face now, doing less is better than doing more. This is not a great time for a wholesale allocation change, so try to refrain. But keep this moment in mind the next time you feel frisky about how well your stocks are performing!