Market Update: March 16, 2020

Following Thursday’s sharp market decline of 9.5%, Friday was a relative mirror image, with a 9.1% increase. Although such a move feels good and looks good on paper in terms of asset prices, such volatility is characteristic of a market trying to figure things out. As we alluded to in Friday’s communication, uncertainty breeds sharp moves on both the upside and the downside, as the market tries to properly price both bad news and good news.

The driver behind Friday’s sharp move was twofold:

1. President Trump’s press conference announcing a national emergency and assembling a team of CEOs across a swath of industries uniting to aggressively combat the virus threat.
2. The House of Representatives passing H.R. 6201, the Families First Coronavirus Response Act.

Although the bill passed the House early Saturday morning (i.e., after the equity market closed), Treasury Secretary Steve Mnuchin intimated earlier on Friday that such a passage was very close, in time for the market to contemplate that before trading closed. We believe the market’s reaction was less about the actual details and more about the idea that both parties (i.e., the Republican-controlled White House and the Democratic-controlled House) had developed a sense of urgency with this crisis. The details of the press conference and the disbursements authorized by the bill can be found in the Appendix at the end of this blog post.

While the bill still needs to pass the Senate (and we believe this will happen after some modest revisions), the House’s passage of this strong legislation, in tandem with the assertive action of the White House, gives us greater confidence that the U.S.’s situation will present itself more like South Korea than Italy. Once South Korea finally implemented a large amount of testing, the infirm rate increased far more than the mortality rate, thus dropping the disease’s mortality rate—in other words, the disease was more pervasive but less fatal. It also allowed those who weren’t exhibiting symptoms (due to the virus’ two-week incubation period) to quarantine themselves more quickly while awaiting a drug or vaccine in the coming months.

Adding to Friday’s action, there have been multiple updates from the White House Coronavirus Task Force over the weekend. In addition, the Federal Reserve did not wait until this week’s meeting to cut the Federal Funds rate to 0%, and it launched a $700 billion quantitative easing program.

Where Does All This Updated Data Leave Us Now?

At Friday’s closing price, the valuation of the S&P 500 on a cyclically adjusted price-to earnings ratio (i.e., CAPE ratio) is as inexpensive as it was in February 2016 (when the market bottomed after the earnings recession scare that began in mid-2015 and lasted 6-7 months). As such, the market’s valuation at this point is quite compelling—and that is before we contemplate the valuation relative to bonds, which makes the market’s valuation that much more compelling.

Our Thinking and Investment Strategy

We are not calling for a bottom at this point, despite the compelling valuation and the aggressive government action. Our base case remains that this is a 1987-style sharp dislocation that will rectify itself as the market digests more certainty. But, as in 1987, this will take time to repair itself.

As always, our investment team will be guided by our disciplined, systematic process honed over the last 30 years. That process is grounded in an assessment of value and momentum to confirm opportunities the market may be presenting. We do not subjectively try to time markets; our process objectively confirms when there is an opportunity for us to act.

Turbulence has escalated dramatically over the last three days, and there are far more unknowns than knowns at present. The market response will be determined by the policy response. We expect more news on that front in the coming days. We will keep you informed of any changes to investment policy.

Note: Market data sourced from FactSet.

Appendix

Press Conference

• President Trump declared a national emergency, opening $50 billion to be accessed by states, territories, and localities.
• States were urged to set up emergency operation centers, effective immediately
• All hospitals in the country are to activate their emergency preparedness plans.
• The Secretary of Health and Human Services received broad new authority to immediately waive provisions of applicable laws and regulations to give doctors, hospitals, and healthcare providers maximum flexibility to respond to the virus and care for patients. Such authority is included, but not limited to the ability to:
• Waive laws to enable telehealth to be more effective.
• Waive certain federal license requirements so that doctors from other states can provide services in states with the greatest need.
• Increase the limit on the number of beds from the current maximum of 25 and the current maximum length of stay of 96 hours.
• Waive the requirements of a three-day hospital stay prior to admission to a nursing home.
• Waive rules that hinder hospitals’ ability to bring additional physicians on board or obtain needed office space.
• Waive rules that severely restrict where hospitals can care for patients within the hospital itself, ensuring emergency capacity can be quickly established.
• Announcement of a new partnership with the private sector to increase the capacity to test for the coronavirus, including but not limited to:
• Emergency approval of a new virus test that increases the number of tests available and shortens the time necessary to receive the results.
• Availability of drive-thru tests at pharmacies and retailers.
• Google’s development of a new website to help determine whether a test is warranted and to facilitate testing at a nearby location.
• Additional testing access provided by LabCorp and Quest Diagnostics, particularly in hard-hit areas such as Washington, California, Colorado, and New York.
• A ramp-up of testing supplies by Becton Dickinson.
• Increased capacity to assist the elderly who are homebound, with support from LHC Group and Signify Health.
• Purchase of petroleum to replenish the Strategic Petroleum Reserve, which will serve as a win-win by taking some of the excess supply off the market to help the oil companies who are suffering in a time of low oil prices while also restocking the reserve at a compelling price.

The Families First Coronavirus Response Act

• Departments of Agriculture, Rural Development, and Food and Drug Administration
• Special Supplemental Nutrition Program for Women, Infants, and Children (WIC): $500 million to provide access to nutritious foods to low-income pregnant women or mothers with young children who lose their jobs or are laid off due to COVID-19.
• The Emergency Food Assistance Program (TEFAP): $400 million to assist local food banks to meet increased demand for low-income Americans during the emergency—$300 million is for the purchase of nutritious foods and $100 million is to support the storage and distribution of the foods.
• Department of Defense
• Coverage of Testing through the Department of Defense: $82 million to cover the costs of COVID-19 diagnostic testing for beneficiaries receiving care through the Defense Health Program.
• Department of Financial Services and General Government
• Implementation of Tax Credits: $15 million for the IRS to implement tax credits for paid sick and paid family and medical leave.
• Departments of Interior and Environment
• Coverage of Testing for COVID-19 through the Indian Health Service: $64 million for the Indian Health Service to cover the costs of COVID-19 diagnostic testing for Indians receiving care through the Indian Health Service or through an Urban Indian Health Organization.
• Departments of Labor, Health and Human Services, Education
• Senior Nutrition Program: $250 million for the Senior Nutrition program in the Administration for Community Living (ACL) to provide approximately 25 million additional home-delivered and pre-packaged meals to low-income seniors who depend on the Senior Nutrition programs in their communities. The funding will provide meals to low-income seniors who are home-bound, who have disabilities, and who have multiple chronic illnesses. It will also provide meals to caregivers of home-bound seniors.
• Reimbursement for Diagnostic Testing and Services for COVID-19 in Uninsured Individuals: $1 billion for the National Disaster Medical System to reimburse the costs of COVID-19 diagnostic testing and services provided to individuals without health insurance.
• Departments of Military Construction and Veterans Affairs
• Coverage of Testing for COVID-19 through the Veterans Health Administration: $60 million to cover the costs of COVID-19 diagnostic testing for veterans receiving care through Medical Services or through Medical Community Care.
• Emergency Transfers for Unemployment Compensation Administration
• $1 billion in 2020 for emergency grants to states for activities related to processing and paying unemployment insurance (UI) benefits, under certain conditions
• $500 million would be used to provide immediate additional funding to all states for staffing, technology, systems, and other administrative costs.
• $500 million would be reserved for emergency grants to states which experienced at least a 10% increase in unemployment. Those states would be eligible to receive an additional grant, in the same amount as the initial grant, to assist with costs related to the unemployment spike, and would also be required to take steps to temporarily ease eligibility requirements (e.g. work search requirements, required waiting periods) that are limiting access to UI during the COVID-19 outbreak.
• The Emergency Paid Sick Leave Act
• This section requires employers with fewer than 500 employees and government employers to provide employees two weeks of paid sick leave, paid at the employee’s regular rate, to quarantine or seek a diagnosis or preventive care for coronavirus; or paid at two-thirds the employee’s regular rate to care for a family member for such purposes or to care for a child whose school has closed, or child care provider is unavailable, due to the coronavirus.