Since we have a large amount of cash in client accounts it’s natural that we are looking for signs of when to buy again. It’s important that these signs are real and measurable. There are currently 25 indicators on our internal list in 5 different categories and the list is growing daily. In this article I will mention the major event in each category since those are the ones none of us has experienced yet. At the same time I am staying away from the large absurd scenarios like currency controls, default, confiscation, conscription, and overthrows. Markets are functioning. Governments are functioning. Financial and regulatory systems are, too. Here’s what we are watching.
The year of living dangerously
The title of this paragraph refers to an old Italian phrase which is descriptive of our times right now: dangerous and unknown. Unprecedented is too small a word to describe today. Crazy is a useless word. Vivere pericoloso sounds just right and it has the added advantage of being in a foreign language. Even if you don’t speak Italian you know what it means. Living dangerously means paying close attention to why you are making changes. Here are the triggers we are looking for:
Major US Bank Failure: Someone is improperly levered and overexposed to the economic shutdown. We don’t yet know who it is and it would take a clever and lucky analyst to find the right one. When the inevitable defaults show up, we will know. See the whole list of banks here.
Fed Buys Equity ETFs: The Fed has committed to unlimited purchases, so far only related to corporate and municipal bonds. Eventually, the government would earn a significant return on a US equity investment and the markets would surely respond positively. Only two major governments have bought stocks to prop up their economies: Japan (ongoing since 2010) and Hong Kong. There are many other factors to consider here.
Stocks trade below book value or -50%: At the beginning of 2020, the S&P 500 was over three times book value. A major buying signal is therefore 1100 on the S&P, from a current level of 2400. The 2009 low was a devilish 666. A 50% drop from market highs would be Dow 15,000. A total -50% bear market drop is to be expected, on average. We don’t know what to expect for pandemic related modern bear markets.
Short selling banned in the US: In 2008 the US government banned short-selling of financial stocks for two weeks. Look for a ban of an indeterminate length. This could reduce volatility so that we don’t have 5% and 10% daily swings.
Warren Buffett spends $100 billion: Berkshire Hathaway has $128 billion of cash right now. It’s largest single investment was $26 Billion for Burlington Northern in 2010. The impact on investor confidence would be significant.
VIX sets a major new high: The high on the VIX this year is 82 on March 16th. In 2008 it was 80. When the VIX closes above 100 we will consider it a buying sign.
Circuit breaker closes US market: So far, we have had only temporary intraday market closures because of a -9% move. The market closes for the entire day at -20%. This extreme volatility would be a buying sign.
High Yield Spread hits new highs: The spread now according to FRED is +1000 basis points. The highs in November 2008 ranged from 1500 to 2000 basis points.
Inflation/Deflation: The record here seems likely to be set on the downside. Annual inflation peaked at 13.54% in 1980. It was at -0.35% in 2009 and is currently at 1.81%.
Markets stop responding to “bad” news: We know risk and uncertainty has started to hit its peak once we see little to no market response to “bad” news. Friday last week was an interesting example. Markets were flat after California announced a statewide shutdown. At the end of the day the market fell significantly, as the full impact of the California closure set in. As major negative news gets published, if markets don’t react, then we feel we are getting close to turning the corner to recovery. This week brings the first real wave of COVID-19 cases ramping up in the US.
Big economic results are published: We haven’t seen any actual printed results yet. Just about all of the trading in the past 30 days has been based on fear and negative speculation. We know that Mariott revenues are down a shocking 90%. We suspect 3,000,000+ jobless claims on Thursday. We have about 15 different business activity metrics we’d like to see published before we gain a sense of the true impact of the shutdown.
Hospital capacity: We haven’t had many COVID-19 deaths in the US and the true infectious disease experts don’t really know what to expect. We all hope that we are more like South Korea, than Italy. Medical leaders are bracing for the worst and hoping for the best. Some hospitals are full already in SF and NY. The ability of the hospitals to handle this pandemic will signal the end of our complete societal shutdown.
They don’t all happen at the same time
The stock market bottoms and buying signs I experienced starting in 1979 did not happen all at once. Each time there was major disagreement and lots of powerful evidence that this was not the beginning of ‘the next big move up’. We haven’t decided yet how many and which buying signs we want to see. Our list is a good start. Since the market reaction to this pandemic started just ~30 days ago, we are taking each step day by day and week by week. During times like these, it’s imprudent to think we will know what will happen more than a week in advance.
“Life can only be understood backwards, but it must be lived forwards.” (Kierkegard). I suggest we all refer to 2020 as a reset year. This pandemic is an invisible natural disaster, so it can sometimes feel as though it’s not real. It’s similar, though, to an earthquake lifting the ground eight feet or a volcano blackening the sky and raining ash. Before we move forward, I think it’s healthy to acknowledge it for what it is and how it’s impacted everyone so far, rather than try to sprint out of it as fast as possible. We are watching all of Trump’s announcements to understand the depth of the government’s support. In the not so distant future, we can talk about what we did in 2020 and the subsequent years.
Many investors have sizable cash positions and are looking to invest at the start of a massive financial reset. As we’ve said many times in previous articles, markets tend to take the elevator down and the stairs back up. There will be plenty of time to catch the recovery once the bear market comes to an end. We are continuously evaluating opportunities and entry points. Please share your favorite signals and please get in touch if you would like to discuss this in more detail.
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