Kerr Financial Group
Kildare Asset Mgt.
Jeffrey J. Kerr, CFA
April 27, 2020 – DJIA = 23,775 – S&P 500 = 2,836 – Nasdaq = 8,634
“Are you telling me that you built a time machine…out of a DeLorean?”
As the restlessness of limited social interaction expands to unbearable levels, memories of an unbounded life bring yearnings to a return to our unfettered ways. Ahh, the good ole days – from just a couple of months ago!
As society looks to de-quarantine, there is a big wish to return to our pre-Covid-19 lifestyles. But there are many unknowns. What will be the ongoing health risks? How do we address them? What will be the impact on our society? What will the economy look like?
Putting the science and medicine aside, there is a recognition that things will change. Stopping by your favorite crowded watering hole for a happy hour cocktail will unleash condemnation. Social distancing is here to stay. The workplace will likely see a lot more online meetings as many will spend time working from home.
That is assuming that our workforce regains its previous strength. We have had the lowest unemployment rate and the best job market in a generation. But all the jobs created in the last 10 years have been lost in the weeks since the quarantine began. Certainly, much of this will be temporary. However, as not every business is going to reopen, higher unemployment could turn into an ongoing inconvenience.
Joblessness assures less money flowing into the economic system. This will cause less buying by consumers. In other words, there could be much lower demand for such things as gasoline, clothing, going out to dinner, travel, going to a concert or sporting event, a new car, vacations, and iPhones.
In the face of this risk and uncertainty, there are those who are working to turn our future into our past. The Federal Reserve is doing everything in its power (and some things not within its power) to contain the economic damage from the shutdown. They eagerly want to get the U.S. economy to return to something like January 2020.
The breadth and speed at which the Fed is throwing money at the system is unfathomable. They have committed to buying a wider spectrum of the fixed income market than previous programs. Newly targeted sectors are municipal and junk bonds. Furthermore, Chairman Jerome Powell has indicated that there will be more if needed.
The total amount of securities purchased and held by the Fed is expected to exceed $10 trillion. To put this in perspective, this number was approximately $4 trillion at the start of 2020. Prior to the financial crisis of 2008 – 2009, the Fed’s holdings totaled around $800 billion. A $9 trillion increase in the involvement in our capital markets is a lot of manipulation. Adam Smith please meet Karl Marx.
The Federal Reserve certainly has strong support. Their fans reason that Fed’s QE programs after the last financial crisis worked so well (longest economic expansion in history) that an exponentially larger effort must be the answer. And this time don’t spread the stimulus over several years, do it big and do it quick. This, the optimists believe, will be the best and fastest way to get our economic future to go back in time.
The U.S. stock market did not waste any time second guessing our central bank and the various federal government assistant programs. Stocks have had an amazing bounce from the March lows. The S&P 500 had rebounded 23% by the end of last week while the Nasdaq has led the way during this rally and closed last week down less than 4% year-to-date. Below is a table of the year-to-date returns as of April 24th.
While the U.S. stock market has the DeLorean cruising at 88 MPH, some other areas are stuck in 1955. The bond and crude oil markets are not functioning properly. Last week crude oil futures (May expiration) traded at negative prices. In other words, buyers of the contract not only acquired the contract they got paid (instead of having to pay for the contract).
The issue behind this anomaly is that there is too much oil and not enough storage. Crude oil producers continue pumping oil while the demand for refined products has shut down. At the current rates, forecasts are for the system to run out of available storage by mid-May. Oil drillers can slow the rate that oil is pumped but complete closure is a lengthy and expensive process. Unless the Fed starts buying it, crude will likely remain under pressure until demand returns.
For those expecting a quick and complete economic recovery, the treasury bond market is disagreeing. The 10-year T-note yield closed last week at 0.56% while the 30-year T-bond ended with a yield of 1.17%. Recognizing that the Fed is trying to suppress yields in this market, if the economy is to regain its strength in the upcoming quarters, treasury bond yields should be moving up.
International economies also conflict with the “V” shaped recovery theory. Australia is in its first recession in 30 years. Its main stocks market index fell 4.46% last week and is down 21.6% year-to-date. Here are some other notable international stock markets’ YTD performances – Brazil -34.9%, France -26.5%, Germany -22%, and India -24.1%.
The Fed has committed a lot of ammunition to support the financial markets which they believe will help the economy make a quick and strong recovery. If it doesn’t work, they claim they have more tools to use. Stock market bulls are believers. Critics point out they are using essentially the same policies that got us into this mess and that they are a big part of a flawed equation. They predict much more damage.
U.S. stock markets have bounced sharply form the March lows. At some point, when the economy reopens, pent up demand from a quarantined population will provide an economic jolt. The hope is that it provides a sustainable return to an upward trajectory and not a short-lived celebration.
As much as we want to return to our pre-pandemic society, that’s not likely to happen – even if we had a time machine. It is hard to predict the changes that will take place to our lives but things like social distancing and working from home could become normal conduct. These cultural adjustments will take time and we will adapt. Actually, there are some people where practicing social distancing would be a blessing.