Reflections on a Tumultuous Market

By Published On: March 10, 2020Categories: Market Commentary3.7 min read

In one of the fastest market reversals in modern memory, it’s worth slowing down the action to focus on the broader shifts going on.

First, for context: in only 13 trading days, the S&P 500 has dropped almost 19% from all-time highs. It appeared to stabilize last week after absorbing (some of) the COVID-19 news, only to drop anew on Monday on a surprise price war in oil between Saudi Arabia and Russia. At the same time, yields on 10-year Treasury notes dropped below 0.6%, the lowest ever. (Remember bond yields move inversely to prices, implying Treasury prices are at all-time highs.)


We are not surprised that markets are weak on this double whammy in news. Containing the virus and enduring a price war represent challenges to global economic growth, with news unfolding in real-time. Transition could take 6-12 months, and markets are likely to be volatile. See our recent analysis here.

While dramatic in its speed, this volatility is not an outlier. Since 1980, US large stocks on average experienced a -13% drop EACH YEAR while still generating a POSITIVE 13% average return by year-end.

Out of those 40 years, only seven posted negative returns for the full year, yet all had negative returns at some point. Of the years posting nine of the worst declines (-19% or more) during the year, only five stayed in negative territory for the full year.

Down 18% and trading now at a forward P/E multiple below 16-times, the S&P 500 is pricing in some level of bad economic news already. Earnings expectations probably still need to come down for later this year—they are already expected to be negative in 1Q—but positive growth is likely to resume for most industries. If that’s the case, we believe it would support equities from here.

In addition, the yield curve has not inverted either. Sustained inversion typically foretells recession, although a flattening yield curve does not. Recession could happen if governments mishandle the spread of COVID-19 or some other economic shock were to occur, but we do not think recession should be the base case outlook.

That said, investors aren’t out of the woods yet. Airlines, energy producers and banks, for example, are down 30%-40% or more this year, and it is not yet clear when their fundamentals stabilize. Companies with heavy debt levels may need to restructure, which has already been happening with smaller energy providers, for example. Still, for surviving firms, the upside could be meaningful over time.

Credit markets are open and functioning in an orderly manner but merit watching. We are not seeing anything like the freezes during the Financial Crisis in 2008-09. Credit spreads (a measure of risk) have widened but are still pretty tight by historical standards (meaning there’s room for risk to increase). If oil prices punish US shale producers, banks could become more cautious in lending to other industries to shore up their own portfolios.

Central Banks are likely to get more aggressive in monetary policy, which could boost sentiment short-term…
Markets shrugged off last week’s rate cuts by the Fed, indicating that a stronger intervention may be needed while COVID-19 remains a risk. We would not be surprised to see the Fed and European Central Bank, for example, begin buying mortgage-backed securities (as they did following the Financial Crisis) to spur consumer spending and saving.

… but we think we are ultimately moving to a new approach, away from heavy monetary intervention.
In reality, with rates already so low, we are skeptical that monetary policy (lowering rates, accepting negative rates, buying securities) can deliver deep stability. Plus, unintended consequences are already apparent, in the form of “free money” chasing riskier assets, dis-incentives to saving, and wealth inequality. We anticipate that expanded fiscal policy—such as infrastructure spending, or tax incentives—will start playing a stronger role, as necessary.


We are in the midst of a negative set of surprises that threaten economic growth in the near-to-medium term. They limit visibility, and the path to recovery is not yet apparent.

Nevertheless, we would not be selling stocks here, nor would we be rushing to excessive defense, which is over-priced in our view.

In fact, on balance, we are looking to add to stocks and rebalance from over-priced assets to more attractive ones, where appropriate. This is typically a key to long-term success in investing.

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