As we continue to lurch along the roller coaster ride that is the year 2020, you may be feeling like this is the longest year on record. Days morph into weeks and weeks into months. One year feels like three. We have now charted 118 days of unrelenting market volatility with the market at times seemingly detached from economic moorings. Markets, however, do not necessarily care about good or bad data, but they do care about the direction of the change. The data is not good, but it is getting less bad.
The Shape of the Recovery
Initial jobless claims have been falling, which has in turn helped the unemployment rate to stabilize and begin to decelerate. There is an old cliché on Wall Street that “Stocks take an escalator up, and an elevator down”. Unemployment does the exact opposite; Unemployment takes an elevator up and an escalator down. Typically, firms are quick to cut employees and slow to rehire.
Exactly how things play out this time with the labor market will be a key factor as to which of the discussed alphabet soup of economic recovery terms comes to pass: V, U, W, L, Swoosh, Square Root. There is speculation that up to 30% of the currently furloughed employees will end up being permanently let go, leaving the unemployment rate at an uncomfortably high level for a longer time than most expect. While the stock market has rebounded on massive economic and monetary stimulus and “V” shaped recovery hopes, any data that does not continue to confirm this type of outcome will fuel doubts about how far we have come and how sustainable the market’s recovery can be.
The litany of actions taken by the Federal Reserve put necessary liquidity into the system and this liquidity has probably for now also prevented many companies from going bankrupt. But the liquidity provided by the Fed cannot create jobs and cannot create demand (at least directly). Without demand coming back into the system, the solvency issue for the corporate sector will continue into the future. Corporations, which generally reduce debt in recessions and the period after have done the opposite, as can be seen in the FRED chart below, which shows Total Non-financial US Corporate Debt as a percentage of US GDP, currently at a record high of 49% corporate debt to GDP. So far in this event, corporate debt has continued to climb and profits have been swallowed by debt service (second chart below).
The dangerous cocktail of firms that are unable to service their debt met with a dramatic drop in demand was the nightmare scenario which forced the Fed into the unprecedented step of buying corporate debt. The intent was to head off trouble before it began.
While these and other Fed actions have helped reduce stock market volatility, 2020 is still tied with the 6th most volatile year on record, based on the number of 1% up or down days.
And, if we consider days with moves of plus or minus 3% or greater, one needs to look all the way back to 1932/1933 to find the type of volatility we’ve experienced thus far 2020 (data through June 18).
So, if you are feeling exhausted by the markets you have every right. Historically, however, there will be no rest for the weary. As the two charts above would indicate, once a year begins with market volatility it generally remains volatile. If March is indeed the low, at least the majority of the volatility should be a grind higher. Currently the trajectory of the market is similar to that of the trend higher after the low of 2009, which also coincidentally began in March.
A solution to surviving this turbulence is to simply tune out the noise and to check on the markets less frequently. The table below lists the percentage of positive or negative results in the market over each time frame. As one can see, as the time period is extended the frequency of positive results improves.
Look less often, have a more pleasant experience.
Changes to portfolios that have been implemented over the last few weeks resemble a bit of a barbell approach to the recovery. We are purchasing the beaten down companies that can benefit from the reflation of the economy that should happen as businesses reopen and the Fed’s liquidity flows through the system – while at the same time maintaining and increasing positioning in companies we believe to be the future leaders of the next phase of economic growth. These new leaders should grow organically from creation of new markets of their own making, or the disruption of markets that are already occupied by other players. Additionally, our work suggests that after many years of underperformance, now may finally be the time for international markets to have a place in a portfolio and we have been taking up positions in emerging markets. We will continue to add to risk assets on pullbacks with the buffers we still have in reserve for that purpose.
The unrelenting and historic volatility has jumbled the senses of not only the average investor, but even the most seasoned asset managers. An All-star list of investing legends/billionaires including Warren Buffet, Howard Marks, David Tepper, Paul Tudor Jones, and Stanley Druckenmiller all expressed concern about stocks in late May. The refrain more or less being that the risk versus reward balance for the market was terrible and caution was warranted. What did stocks then do? Stocks paused for a couple of days and then proceeded to continue on their merry way higher. Paul Tudor Jones and Stanley Druckenmiller both said that they had been humbled by the power of the Fed induced rally off of the March lows. In fact, Druckenmiller said that his portfolio returned only 3% from the low, which has been a pretty substantial underperformance off of the market bottom. To quote Mr. Druckenmiller “Well I’ve been humbled many times in my career, and I’m sure I’ll be many times in the future. And the last three weeks certainly fits that category.”
While this has been a challenging time, we know that our process is tested and sound and we will stick to it because it works over time, just not all the time.
Your service, advisory, and planning team continue to produce top quality work. If you have any questions please reach out to us directly. We are always here for you.
General Disclosures: The content contained in this article represents the opinions and viewpoints of Cardan Capital Partners only. It is meant for educational purposes and not meant for consumer trading decisions. All expressions are as of its publishing date and are subject to change. There is no assurance that any of the trends mentioned will continue in the future. Market performance cannot be predicted, so nothing in our commentaries is ever meant to provide any kind of trading advice or guarantee of future results. Certain information contained herein has been obtained from third party sources and, although believed to be reliable, has not been independently verified and its accuracy or completeness cannot be guaranteed. Any reproduction or distribution of this presentation, as a whole or in part, or the disclosure of the contents thereof, without the prior consent of Cardan Capital Partners, LLC, is prohibited. Investments in securities entail risk and are not suitable for all investors. This is not a recommendation nor an offer to sell (or solicitation of an offer to buy) securities in the United States or in any other jurisdiction.