Client Portals

Turbulence Expected or Unexpected4 min read

Preparation and strategy prevails

Mar 11, 2020 - John Osbon ( 6 mins to read)

John Osbon

This week we are writing about new developments in Covid-19 and worldwide markets, as there are many. Covid-19 is negatively affecting markets this week because of the uncertainty about when new outbreaks will stop. Over the weekend, a new market – oil – was significantly affected by an oil war between Russia and Saudi Arabia. Additionally, rates in the US, the highest of any developed market, fell to new historical lows. There is more news than the headlines can keep up with. Here’s a quick look at the latest major developments.

Fresh facts

  • The proposed payroll tax cut announced on Tuesday would be an immediate and natural stimulant to the economy. It’s too small, however, to have much of an effect. Simply enjoy the payroll tax cut if you pay W-2 employees.
  • Bond price swings in the Treasury market have been much greater than stock swings. If you believe the bond market is reflecting fundamentals at this point, then you must believe we are in some type of recession or entering a deflationary period. How long those last falls in the speculative category.
  • According to oil analysts, Saudi Arabia is trying to drive American shale producers out of business. A sustained oil price of West Texas Intermediate below $40 means US shale oil can’t be profitable, whereas Russia is still profitable at $20-$25, and Saudi Arabia at $9. This would be a major disruption to the energy sector, but I view low global oil prices as stimulative to the US economy. Whatever we lose in oil industry wages and profits, we can gain much more in lower gas prices for consumers and energy cost reductions for all industries.
  • Significant takeovers continue. Aon announced Monday it is buying Towers Willis Watson for $30 billion. There was no mention of any other factor than competition with Marsh. Major mergers like this are big news, but Covid-19 news dominates.
  • Corporate bond market issuance is effectively shut until further notice. The shutdown can last for several months whether the excuse is volatility, Covid-19, or something else.

Expect more of the unexpected

Based on past experience, and on the shrinking number of major markets that have yet to be affected, I’d guess that currency markets will experience the next big move. This could take the form of a 5% or more daily move in the dollar, yen, euro or pound. So far, the biggest daily move has been 3% in the yen. Expect more and larger daily moves in one or more currencies as uncertain events unfold.

Circuit breakers

On a positive note, an innovation implemented to calm markets seems to have worked. The triggering of circuit breakers in the US stock market on Monday March 9th, was a first since their creation in 2013. It’s impossible to know for sure, but it appeared that the circuit breaker gave the market enough time to slow its panicked selling. The circuit breakers trigger at -7%, -13%, and -20%. At -20%, trading is halted for the remainder of the day.

Keeping things in perspective

When it comes to “what might happen,” we believe that markets remain in the overreaction phase. With big headlines and wild market swings day after day, we are in a short-term stimulus-response cycle. Many people are feeling overwhelmed by the onslaught of news, and rightfully so.

At Osbon Capital we are careful to avoid overreaction. We believe in strategic, opportunistic investing for the long term. While some lucky traders will be able to time markets well enough to take advantage of opportunistic shorts and longs, that’s not what we do. We don’t think that it’s possible to reliably time big market fluctuations, up or down. Instead of trading, we believe this market volatility is presenting an opportunity for strategic investors to commit additional cash for the long term.

One recent example of our strategy at play was in the fourth quarter of 2019 when we invested excess cash into Treasury Bills, anticipating volatility and building balance sheet strength. We also maintained diversification, buying into many different major markets. That strategy has worked out well. We continue to strategically invest excess cash and will be taking our time putting it to work in various markets.

Volatility is normal

After an orderly 11 year bull market, it’s easy to forget how wild markets can get when unexpected events arise. But volatility happens. Our clients go into market environments like this expecting volatility and have allocations to reflect the reality that markets can, and do, change.

Yes, it can be unsettling and confusing. But as the Persians said 1000 years ago, this too shall pass.

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