In Fed We Trust
Eventually, COVID-19 will be behind us and life will normalize (as I alluded in ‘This is Temporary’ – 3/15/2020). But tragically, for the more than 255,000 souls globally who have lost their lives (and their families) this isn’t temporary at all. For many, life will never be the same. For the nearly 30 million Americans who have filed for unemployment benefits just in the last 6 weeks, this certainly doesn’t feel temporary. And sadly, many more jobs will be lost by the time this crisis is over. All of which makes the stock market’s extraordinary recovery a bit puzzling. The Wall Street-Main Street disconnect is on full display. As of this writing, the market is down only 11%, having rebounded over 25% since the bottom in late March. Investors obviously have tremendous faith in our central bank, the Federal Reserve (the ‘banker’s bank’). The Fed was born out of the Federal Reserve Act of 1913, signed into law by president Woodrow Wilson. The federal reserve system was put in place to prevent future banking crisis, following the Banking Panic of 1907. The Fed runs monetary policy for the economy, they have 2 jobs: maximum employment and maintain stable prices (prevent runaway inflation, rising prices). I believe Fed chairman Jerome Powell saved the world from The Great Depression, 2.0. Starting with an emergency interest rate cut on March 3rd, the Federal Reserve has announced 9 programs to save the economy. According to a piece from BBC News the Fed executed the following:
Rushed money/liquidity to large financial institutions and foreign central banks…the crisis is global
Committed $750 billion in loans to large corporations to prevent a wave of bankruptcies
$600 billion in direct lending to small/mid sized business (first time ever)
Committed to buying $500 billion in muni bonds (another first) to help cities and states
All told, the Fed has committed about $4 trillion. If forced to rely on the Congress or the White House, my guess is that the markets would still be in freefall. Jay Powell prevented a depression, but he couldn’t prevent the deep man-made recession we’re already in. Many wonder how we will pay for all this? Well, in the long run, we wont. We will take on an astronomical amount of debt. As Morgan Housel points out in an excellent note (Who Pays for This? 4/17/2020) we never really paid off the debt from World War II. People were freaking out about the debt back then, yet the impending economic doom that was surely upon us, never came to pass. As long as the economy grows faster than the debt, we’ll be OK. Taxes are going higher regardless of who wins in November. And to my deficit hawk friends on the right, a friendly reminder we’ve spent $6 trillion on the ‘War on Terror’ following 9/11. We’ve lost over 71,000 Americans to COVID, or the equivalent of 23 9/11’s. How much should we spend? At the moment, the US government can borrow money for 10 years at the very low interest rate of .6% (less than 1%). They will take advantage of the demand for US Treasury bonds.
“The bullish narrative is the one that everyone so desperately wants to hear, but I do not believe it is the appropriate one to have at the current time. Play it safe.”
-‘Weekly Buffet with Dave’ 5/1/2020 (Rosenberg Research)
I agree and in light of the recession, we are slightly underweight our equity allocation- we are not fully invested. In addition, we’ve rebalanced portfolios to gain more exposure to defensive sectors: healthcare (medicine), utilities (power & water), and staples (food & beverage). We’ve also slightly increased our hedges to limit downside exposure as we expect more volatility in the near term. The premature opening of the economy may lead to a second wave of infections.
Despite Rosenberg not residing in the bullish camp, in the same research note he states that there will be long term winners in a post-COVID world, or as he describes it, the ‘Homebody Economy’. Rosenberg states…’For those with long investment horizons, I can tell you almost without a shadow of a doubt where the future demand growth is going to be:
Home-office technologies (cloud)
Video streaming (home entertainment)
Online retailers
Health care services (bio tech and pharma)
Utilities/Residential REITs (fat yields and money-good)
Semiconductors
Delivery services
Windmills, battery storage, solar panels on rooftops
Hygiene producers
3D printing manufacturers
Robotic technologies
Telecommunications (with deep financial strength)
Treasuries/municipals/A-and BBB-(high) rated corporate bonds
Gold/Precious metals
Food supplies
Consumer staples
source: Weekly Buffett with Dave, 5/1/2020 (Rosenberg Research)
I agree with most of his ideas, and our portfolios already reflect this to some degree. The pandemic has accelerated trends that were already in growth mode: e-commerce, cloud computing, gaming, streaming, alternative energy, etc. We took advantage of the lower prices in the ‘Corona Crash’ to gain more exposure to cloud computing, streaming, and gaming. We recently initiated a position in cannabis as we believe cities and states will need the tax revenues, now more than ever.
The Federal Reserve has likely taken a depression off the table, and progress on potential treatments and vaccines appears promising, but we are not out of the woods. Recent gains in the stock market (like the recession) may be temporary. It is a privilege to be a steward of your capital during challenging times. We are here to serve you and look forward to discussing your portfolio in greater detail.
These are well worth your time:
The First Modern Pandemic - Bill Gates (4/23/2020)
Dr Fauci Interview - National Geographic
Prepare for the Era of Recrimination - Scott Minerd of Guggenheim
Who Pays for This? - Morgan Housel
Lost on the Frontline - The Guardian
Coronavirus Resource Center - John Hopkins
Thank you!
-randy
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