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First Quarter Summary
U.S. stocks experienced their worst quarter since the Great Recession of 2008-2009, with the S&P 500 falling a dramatic 20% in Q1. The volatility intra-quarter was even more harrowing with the S&P 500 dropping 35% at one point on a peak to trough basis. Stocks then surged more than 20% off their March 23rd intraday lows, potentially setting off a new bull market. However, security prices are much too volatile for us to declare that the coast is clear and that a new bull has been born. Of course, the catalyst for much of this volatility has been the earth shaking pandemic caused by the coronavirus, COVID-19. Nothing like it has been seen in our lifetimes, with perhaps the only comparable event occurring in the time period surrounding the Spanish flu pandemic of 1918. A devastating human and financial toll has been left in the ongoing pandemic’s wake. We are living in surreal times with major industries completely shuttered and the majority of the United States, if not the world, under lockdown-type conditions. These extraordinary times have resulted in extraordinary financial measures by the federal government and Federal Reserve, detailed later in this report.
Diversification blunted the losses at a portfolio level, but there was virtually nowhere to hide as asset values crumbled. Of the 25 asset classes tracked by Bloomberg, only a handful delivered positive results. Namely, U.S. Treasuries, German bonds, Gold, and the most stable currencies (i.e., U.S. Dollar, Swiss France, and Japanese Yen). A price war between Saudi Arabia and Russia, and by extension to all other energy producers, further fanned the flames of market turmoil. The global economy has very likely plunged into the deepest recession since the Great Depression, the duration of which is unknown, despite hopes for a second half recovery.
COVID-19 qualifies as a “black swan” event, a term popularized by author Nassim Taleb to describe largely unexpected economic events that lead to steep financial losses. In an effort to mitigate the damage from the massive economic shock, the Federal Reserve engaged in a series of aggressive, and in some cases unprecedented, actions. First they cut short-term interest rates to 0% over a series of “emergency” meetings. Then they dramatically expanded their quantitative easing program (QE) to include virtually unlimited amounts of money. This measure was designed to backstop the financial markets which seized up across a number of asset classes. Volatility and credit spreads remain at heightened levels, despite the Fed’s actions, although having the ability to print unlimited amounts of money places time on the Fed’s side. The Fed is also acting as lender of last resort to not only to commercial banks, but also to a host of smaller banks, companies, governments, and even individuals. The federal government instituted a number of programs, including the Coronavirus Aid, Relief, and Economic Security (CARES) Act, designed to literally put money in its citizens’ pockets and to support companies and their workers devastated by the shutdown of large swaths of the economy. Companies will be provided with forgivable loans if they maintain the vast majority of their workforces. These stimulus packages range in the trillions of dollars, with trillions more planned for other areas, such as infrastructure.
To say that the outlook for financial markets is uncertain is probably the understatement of the year. Until the COVID-19 growth rate slows, or effective treatments are found, the unknowns far outweigh the knowns. Our best estimate, obtained by looking at COVID-19 stricken countries, such as China and South Korea that are slowly getting back to normal, is that Q2 will be abysmal in terms of economic growth and earnings, but that GDP will start to rebound in the second half of the year. Undoubtedly, significant damage has been inflicted on the economy and the quick V-Shaped recovery that followed in the aftermath of the steep stock market correction in 2018Q4 is unlikely to be repeated. Nevertheless, with interest rates at zero, or near zero, across the entire yield curve and a massive economic stimulus package underway, our assessment from this point forward is that stocks will outperform bonds over the remainder of the year. Investment grade fixed income continues to be a staple of our diversified portfolios for their capital preservation properties, despite their miniscule yields.
In light of the tremendous uncertainties facing the global economy, we believe that security and investment fund selection will be as important as ever. To coin a popular financial expression, it is a market of stocks and not a stock market. In particular, most investment offerings at Beacon emphasize companies and strategies that focus on high quality firms with strong balance sheets and attractive long-term growth prospects. These types of firms and funds are likely to survive the “nuclear winter” that permeates much of the investment landscape. The financial planning benefits provided to most of our clients may be of paramount value at this time as well. As we have communicated in some of our prior writings, all Beacon employees have remote access capabilities. While our physical offices remain open, if it were to occur, Beacon will still remain open for business. You have complete access to your team in all aspects of communication such as by email, phone, text message, etc. All of us at Beacon wish you and your family maximum health, safety, and security at this unparalleled time.
John M. Longo, PhD, CFA
Chief Investment Officer, Portfolio Manager