Coronavirus: Continued Thoughts
If you have been following along my LinkedIn, I have put out two articles prior to this one regarding the Coronavirus and its relation to markets and the economy. These are simply my views, whether they are correct or not, and should not be taken as investment advice.
Fear
While I acknowledge the redundancy of this statement, it is evident fear and panic selling has plagued markets. In essence, it is a contagion of its own sort. As I mentioned in my previous articles, such activity is predictable. Maybe not so much the depth of the sell off's but rather the action itself. We saw major indices like the S&P 500 and the DJIA post their greatest single day drops since the Great Recession in 2008. We saw trading halt (circuit break) as a result of these rapid sell offs and have now entered bear market territory, marking the end to an 11-year bull market. A few days ago, the entire yield curve was under 1% as investors moved to safer assets like bonds. I believe the market is currently over sold and will continue to be further over sold as new infection cases in the United States increase. To support this statement, earlier today S&P 500 futures rose by 5%*. This indicates optimism because futures predict where investors believe the market is heading towards. While the present is gloomy, individual investors should think long term in their strategy. This brings us to the next section of the article.
*https://www.wsj.com/articles/global-selloff-extends-in-asia-11584061109
The Fed
It is clearly evident Powell and the Fed are running out of policy tools to keep our Frankenstein economy afloat. Powell recently announced a $1.5 trillion liquidity injection* into the markets. I believe such liquidity injections have been a problem before the Coronavirus spread as it has artificially propped up equities. Additional open market operations won't save markets from a viral outbreak. It is safe to say another rate cut should be expected, another sign of distress.
"Buy When There's Blood in the Streets"
My investment philosophy can best be described by a normal (Gaussian) distribution. Not necessarily under a quantifiable lens (i.e. 'the numbers don't lie') but rather what a normal distribution embodies. At both ends of the spectrum, we have two tails. These two tails represent a low-probability highly positive-impact event and a low-probability highly negative-impact event. In the middle we have the average or 'normal' conditions for simplicity sake. It can be applied to and help explain just about all faculties of life.
The Coronavirus is evidently a tail-end or 'Black Swan' event (for those who read Nassim Talib's book, Black Swan). Black Swan events drive volatility. For example, January's strong market rally could be seen as a right tail end event. The market was over-bought. On the flip-side, the a left tail end event like the Coronavirus drove markets down. The market is now over-sold. The point I am trying to illustrate is that a return to normalcy is inherent in both cases. The markets have swung like a pendulum and eventually the momentum will ease. This is why I suggest long investment plays as timing the metaphorical pendulum swing will be difficult given the increased uncertainty.
Additionally, volatility drives market profitability, in both directions. If markets are somewhere in the middle of a normal distribution, volatility is low which translates to low yields across markets. As markets approach either tail, volatility increases. For example, VIX, Wall Street's 'fear index', is up roughly 100% for the past week. While everyone panic sold, there was an opportunity to make a roughly 2x return. TVIX, an exchange traded note which tracks VIX futures (leveraged 200%), is up roughly 800% in the past month (since I last checked on 3/13 at 9:51 AM). The focal point here is that profits can be realized in both times of euphoric boom and bust because outlier events drive markets. Events can be predictably positive and predictably negative. This is why Baron Rothschild's quote "the time to buy is when there's blood in the streets" holds true to this day.
Additional Thoughts:
Fundamentals
Last night I got on a call with a friend of mine to discuss what is going on in the markets presently. We got into a discussion about comparing the losses from this week to that of 2008. Both moments yielded similar results: sell off's, panic, fear, market disruption, etc. During our discussion, I concluded one difference between the two events is fundamentals. I would argue the market sell-off in 2008, on an institutional level, was done so to cover balance sheet losses resulting from risky credit derivatives. In the case of a viral outbreak, these sell off's are mostly based on fear and less so on fundamentals. I would give more weight to fear than to the fundamentals (think balance sheet metrics) of company during a viral outbreak. What we are seeing is fundamentally solid companies temporarily taking a beating as a result of the virus. In 2008, we saw fundamentally insecure companies rightfully take a beating and only to drag down fundamentally secure companies. If you keep a clear head and see through the hysteria, you will be fine. Also, please wash your hands.
Bitcoin
I am no expert in anything cryptocurrency related, but I found it interesting that Bitcoin has taken quite a beating this week. I figured in times of global uncertainty, Bitcoin would out perform other assets, especially paper currencies, due to its decentralized nature. It seems Bitcoin is pro-cyclical like equities. My explanation is that Bitcoin holder's would rather have tangible cash, which I feel debunks crypto proponents' main argument for why it will replace cash in the first place.