US markets suffered their worst week since the financial crisis. The major indices have now been down 7 straight days. The Dow declined an incredible 12.4% this week while the S&P 500 decreased 11.5%. So, what happened? Like I said on Monday, I think a confluence of factors, led by coronavirus fears drove this move down. Interest rates are plummeting. The 10-yr Treasury set an all-time low of 1.1% today. People are nervous about growth slowing independent of the virus, which is pushing rates lower and pressuring stocks. Program and algorithmic trading is a technical driver of this sell-off. As stocks keeps going lower, computer programs continue to execute more and more sell orders. In a market with few buyers stepping in, that keeps pushing prices lower to find a buyer. But the single biggest driver is growing concern over the the lack of containment of the coronavirus.
Big picture, the coronavirus is going to be a temporary situation. Scientists will figure out a treatment/vaccine and the number of new cases will eventually slowdown. The question is when will we get some positive news on that front. It seems all the efforts to contain it have been unsuccessful. We don’t fully understand the incubation period or transmission and scientists believe many people who have it can be asymptomatic. This means people can be silently infecting other people without even realizing they are sick. I view this development as having some pros and cons. The bad news is the virus can be transmitted in a manner where doctors won’t be able to find the source, making containment near impossible. The good news is, if some number of people getting infected don’t have symptoms, or have minor symptoms, the death rate, currently around 2.5% is actually going to be lower than that since the number of cases is higher than currently believed. From various things I’ve read, the number of cases in the US is going to start increasing, potentially quickly.
Since we believe this will be temporary, why is the market selling off so much? The impact to global growth is the key. Disney Tokyo announced it was closing for at least two weeks to slow transmission of the virus. An LPGA golf event in Japan in being played without fans this weekend to minimize human interaction. Japan announced all its schools are closing during March. Conferences in the US are being cancelled or considering cancellation. A high school in Seattle has been closed for two days and the CDC is telling schools in the US to put together plans for mass closings. Business travel is being cancelled. All this adds up to a significant drop in economic activity. This situation is very different from the financial crisis, but in the 4th quarter of 2008, economic activity dropped to a near standstill. One of the more amazing stats from that time period is that Volvo, a major commercial truck manufacturer, sold only 8 trucks that quarter. That significant drop in economic activity could wipe away growth for the entire year, even if it only lasts a few weeks or months. There will be a rebound in growth on the back end of this as pent up demand boosts growth, but hotel rooms, flight seats, oil used, dinners out, etc that are missed, can never be recovered. That is the risk people are nervous about. How much will economic activity slow and when will it start up again.
How are we dealing with this environment? I sold some positions earlier in the week to raise cash and provide a little stability in portfolios. Overall, we’re down about 60-65% as much as the indices. One encouraging sign came right at the close today. The Dow was down over 900 points at 3:45pm and yet closed down ‘only’ ~350 points. That suggests mutual funds were net buyers on the day and some amount of capital stepped in thinking we are at/near a near-term bottom. That’s no guarantee there won’t be additional weakness next week or beyond, but the move this week has priced in a lot of risk already. We’ve lived through several similar/worse corrections over the last 10-years, including a ~20% decline in the market in the 4th quarter of 2018. We saw similar weakness during the Greek debt crisis, Cyprus banking crisis, Brexit, etc. This has been different in that we declined a lot faster than previous corrections. In fact, this drop was the shortest number of days between a recent market high (2/19) and officially being a correction with a 10% down move. So the speed of this has felt bad, but the actual move has so far been equal, or less severe, than the past 4-5 corrections. If you have questions or want to talk through your portfolio, please reach out. This was an unsettling week that probably felt more unsettling because we’ve had a good 14 months of positive markets.
Oil sold-off significantly this week, decreasing 15.3% to close at $45.23/barrel. The yield on the 10-yr Treasury moved sharply lower to close at 1.16%, from 1.47% last week. The average rate on a 30-yr fixed rate mortgage moved lower to 3.45% from 3.49% a week ago. With the sharp drop in Treasuries this week, mortgage will likely fall sharply next week. If you have considered refinancing, I would reach out to some lenders and see what rates you can get next week. Could be historically low.
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