I was reviewing my calendar this morning and realized I have been working at home for seven weeks now. Wow. As much as I like the no-commute, I am starting to feel a little isolated. My dog used to have free reign of my office space during the day while I was at work, and now I can see the wheels spinning as he thinks “why are you always here?”

 

What a difference a month can make. The month of April was one of the best on record for global equity markets, standing in contrast to the month of March which was one of the worst. Equity markets are still down from their highs earlier this year, but the recent recovery has been nearly as staggering as the decline. How can this be? Unemployment has soared by millions and activity has basically ground to a halt. Yet, investors are looking beyond the dire economic headlines, believing that central banks and governments have bought enough time with significant aid for consumers, households, and businesses. The hope is that as economies begin to gradually reopen through May and June, we will see a sharp acceleration in economic and earnings growth as early as this summer.

 

There are important lessons to be learned through this experience, some of which we have discussed in previous notes and some on phone calls with you. First, markets are forward looking, and reflect the anticipation of what is expected to come, not what is necessarily happening right now. And second, when investor sentiment reaches an extreme, both negative and positive, it may not take much to change the trend. More specifically, there’s a point at which bad news no longer drives market prices lower. Moreover, news that is simply “less bad”, not necessarily “good”, can actually lead to positive price action as investors who have become accustomed to negativity have to shift their mindset.

 

Just as we did after the meaningful decline in March, I want to emphasize the need to manage emotions and stay disciplined and remain focused on long-term outcomes. While there is still work to be done, I am hopeful that we are past the peak of this health care crisis and can now transition our attention to the economic and earnings recovery. But, I don’t expect it to be an easy path forward. I expect some ups and downs along the way as uncertainty is likely to be higher than normal, risks of additional outbreaks remain, and some measures of social distancing are still required. Furthermore, it remains difficult to forecast the behavioural changes that some may experience, holding us back from a complete return to normal.

 

In the meantime, I continue to stick with our investment process and plan as we manage your portfolio through this tumultuous time. I have enclosed the usual updates and attachments below. Please try to read through the Global Insight Weekly report as I feel it contains important information.

 

Interesting tidbits

• The pandemic is changing our appetites. Multiple new trends and sometimes-contradictory buying patterns are making it difficult for producers to keep up. On the one hand, people want comfort: frozen pizzas and instant noodles are selling out, and snack consumption is up. At the same time, people are eating healthier: fresh produce is in high demand, with the price of avocado soaring 60%. Orange juice, which had fallen out of favour because of its high sugar content, is now a sought-after source of Vitamin C, along with citrus fruits. Some of these trends may endure post-lockdown, if more consumers develop a taste for cooking at home or realize the packaged foods they’d once rejected have improved in quality.
•  Parents are giving virtual education a failing grade. In Canada, programs differ by province, but there’s frustration across the board about endless video meet-ups, links, and emailed assignments—a system designed on short notice when schools first closed. Some parents are simply abandoning at-home learning as the COVID-19 closures stretch on. Opting out is becoming official in the U.S., where some districts are ending the academic year early. Washington, D.C., as well as parts of Georgia, Texas and elsewhere have decided remote learning isn’t worth the additional stress on teachers, parents and students. There’s particular concern over exacerbating inequalities: Internet access varies by region, and parents’ ability to homeschool depends on other work and family demands.

Highlights

 

Speak loudly and carry a big stick

The Fed has fashioned its monetary policy response to the COVID-19 pandemic after foreign policy of old, with massive pledges of quantitative easing and liquidity facilities. And as is usually the goal, the simple promise to act may reduce the need to actually do so.

 

Regional developments: The cost of Canada’s pandemic response; cyclical sectors lead U.S. equity rebound; UK banks hit by impairment charges; China’s manufacturing undercut by weak overseas demand

 

 

Opening Day used to be the great unifier of spring

Reopening Day is proving to be the great divider. As states and provinces tiptoe toward the line—or in some cases jump over it—the risks and rewards of reducing social distancing have become an increasingly fractious political decision. In the USA, Georgia became the biggest jurisdiction to allow a small range of non-essential businesses to reopen—against the opposition of several local governments. Atlanta’s mayor implored residents to stay home, even as barber shops, beauty salons and restaurants opened under strict distancing guidelines, with cinemas set to follow today. Neighbouring South Carolina reopened its beaches, while Oklahoma reopened state parks and Iowa gave the green light to farmers’ markets. Even at the epicentre of America’s COVID crisis, New York Governor Andrew Cuomo laid out conditions for businesses in upstate regions to reopen in mid-May, largely in manufacturing and construction in which telecommuting is difficult. The loosening will not apply to New York City.

 

Any reopening will likely create partitions—invisible for the most part—between densely and sparsely populated regions. On Monday, Quebec released a plan to reopen schools and day care centres, focusing on regions away from Montreal, while Saskatchewan (the least densely populated province) will allow businesses to begin reopening next Monday. Rather than declare entire states or provinces open, a World Economic Forum group recommends declaring “green zones”—districts with strong health systems, low growth rates of infections and manageable risks. It suggests governments then stitch together the green zones, in a kind of quarantine quilt. France is trying such an approach but finding it’s tougher in crowded cities than in the regions. Cordoning off communities may work in authoritarian states like China. As the world’s democracies begin to reopen, the politics of unity and division will be more fraught.

 

Oil prices climb after inventories rise less than expected

Oil prices climbed Wednesday after data showed the U.S. may not run out of space to store its glut of crude as quickly as previously feared. Energy Information Administration data showed inventories rose by 9 million barrels last week, less than the 11-million barrel increase projected by traders and analysts surveyed by the Wall Street Journal. Although stockpiles are rising quickly with oil supply far exceeding demand, the figures gave beaten-down prices a boost. Some analysts are hopeful that the data and signs that some states are easing lockdown measures to stop the coronavirus could help stabilize prices moving forward. In addition, large oil producing nations and companies are starting to curb supply. Today, oil-producing nations will implement the agreement made earlier in April to remove 9.7 million barrels of crude, roughly 13% of global supply, from markets.

U.S. GDP recorded the steepest contraction since the last recession

The U.S. economy shrank in Q1 at its fastest pace since the last recession as the pandemic shut down large parts of the country, signaling the end of the longest economic expansion on record. Gross domestic product, the broadest measure of goods and services produced across the economy, contracted at a seasonally and inflation adjusted annual rate of 4.8% in the first three months, the Commerce Department said Wednesday. The GDP report reflected the early impact of widespread disruptions in the U.S. economy caused by business and school shutdowns, social distancing and other initiatives aimed at containing Covid-19 as reported by the Wall Street Journal. These responses to the pandemic started in the final weeks of the first quarter, and were an abrupt shift from steady economic activity before the virus arrived on U.S. shores. Consumer spending, which makes up over two thirds of U.S. GDP, dropped 7.5% in March. Forecasters expect a much larger contraction in Q2, producing the two consecutive quarters of decline that commonly define a recession. On a positive note, most economists expect a rebound in the second half of the year. Furthermore, while consumers are spending less, they are saving more, with the personal saving rate topping 13% in March, the highest level since 1981.

 

Donald Trump invoked a wartime law to keep meat plants open

With meat-processing plants emerging as hot spots for coronavirus outbreaks, production of beef, pork and chicken as fallen sharply. Fearing that as much as 80% of the country’s processing capacity could be shut down, the president invoked the Defense Production Act to ensure meat keeps hitting grocery shelves. For producers, the situation is a tough one: they’re facing pressure to keep operating to satisfy high demand, but workers fearful of their safety are asking for better protection or simply staying home. (An estimated 6,500 workers in the sector have been infected.) That explains why the government is also moving to ensure plant owners won’t face liability for operating during the pandemic.

 

Small businesses, small business loans, and huge audit challenges

Small businesses that plan on borrowing money through the U.S. government’s aid program will have to face audits before the loans are forgiven, according to Treasury Secretary Steven Mnuchin. Businesses that borrow more than $2m from the Paycheck Protection Program (PPP) will have to go through an entire audit, while businesses that borrow less than that will be faced with spot checks. Although the government plans to issue $660b as loans, if the borrower uses the financial aid to retain or rehire employees the loan will be forgiven. The Small Business Administration is overseeing the PPP, and it usually counts on lenders (banks) to ensure checks and balances are in place when it backs these loans to small businesses. In an effort to speed up the process, however, the Wall Street Journal notes, U.S. Congress has absolved banks of the time-consuming responsibilities of checking for fraud and error as long as the borrower provides the required paperwork. This change passes the responsibility on to the SBA, to ensure the aid goes to the right businesses, and those businesses use the financial aid appropriately to turn the loan into a grant. According to the WSJ, this is a significant undertaking, and leaves the door wide open for fraud or mistakes that could cost the taxpayers.

 

Pandemic triggers a wave of distress in corporate America

Practically overnight, stay-at-home orders and the shutdown of nonessential business have driven broad swaths of the economy into panic mode. Companies of all stripes are scrambling to avoid a painful reorganization of their capital structures and operations. Many have tapped lines of credit and slashed costs in order to avoid default or bankruptcy. For some, those efforts could tide them over until conditions improve. However, the pandemic has tipped many companies over the edge in industries that were already in a precarious position before the crisis, including energy and retail. Meanwhile, companies in areas that were previously stable, such as the automotive, leisure and travel industries may soon face similar pressures. According to S&P Global Ratings, U.S. corporate debt downgraded to selective default, meaning a borrower has failed to meet one or more of its obligations, totaled $64.1 billion for the 12 months ended April 17. That represents only a slight uptick over the pace at the end of January, but the Wall Street Journal reports the numbers are about to get a lot more bleak.

 

Bank of Japan introduces new stimulus measures

As reported by the Financial Times, the Bank of Japan has pledged to buy an unlimited amount of government bonds and increase its purchases of corporate debt by almost three times in efforts to support the economy amidst the coronavirus pandemic. The central bank’s previous cap on government bond purchases was 80 trillion yen per year, but it was buying a fair amount less. Its new target for corporate debt holdings is a maximum of 20 trillion yen, up from a previous cap of 7.4 trillion yen. It held overnight rates steady at -0.1 percent. According to the Wall Street Journal, the Bank of Japan forecasts Japan’s economic output to fall between 3 and 5% in the year ending March 2021.

 

Eurozone’s economy fell at a record rate in Q1

The Eurozone’s GDP fell 3.8% over the first quarter. That amounts to a 14.4% contraction on an annual basis, the largest decline since the data series began in 1995. As noted by the Wall Street Journal, European countries experienced a slowdown due to the shutdown measures imposed in efforts to contain the novel coronavirus. The hardest hit countries were those with the strictest lockdowns. France’s economic output fell at an annualized rate of 21% in the first quarter, the sharpest decline since records began in 1949. Italy’s GDP dropped by an annualized 17.6% in the first quarter. “The euro area is facing an economic contraction of a magnitude and speed that are unprecedented in peacetime,” European Central Bank (ECB) President Christine Lagarde told reporters on Thursday. She added that the Eurozone economy could contract by as much as 12% this year. To combat the adverse economic impact from the pandemic, the ECB said it was ready to expand its €750 billion bond purchasing program.

 

-Mike