Nobody Knows.

I thought I would update my thoughts on what has been occurring with markets as I think it is going to be impossible to ignore the headlines that have been coming out about the coronavirus and yesterday's market decline.  I'm going to revert to my question and answer form for this letter.

What happened yesterday?
Markets experienced over a 7% decline yesterday based on chaos in the oil markets as a growing tiff between OPEC and Russia has morphed into a price war between Saudi Arabia and Russia.  Also over the weekend the news on the coronavirus became much worse in terms of the progression of  the of the disease in much of the world.  Italy, Iran and South Korea seem to be some of the hardest hit places.  Cases in the US have been lighter but officials believe more will be uncovered as we test more.  Over the weekend Italy placed under quarantine the regions around Milan.  Also case counts and mortality rates have continued to climb around the world, raising fears of a larger global slowdown than previously calculated.  While it is true as I have argued that the flu may be a bigger threat in any given year, public health authorities are clearly pulling out all stops in order to slow down transmission.  These leads to negative headlines and that's not good for stock prices.   Traders first reaction in the face of such uncertainty is to hit the sell button, hence yesterday's decline.

OK so what are some of the uncertainties weighing on markets?

First let's start with a few things nobody knows.  First despite what you might see in the press, nobody knows how this will pan out and that's part of the uncertainty which is causing such disruption with markets.  We're in uncharted waters in terms of this virus, perhaps not so much with what it is or what steps may need to be done to slow it's transmission, but what are the economic implications.  Same with what's going on in the oil markets.   What I do know is  you ARE going to hear a lot of wild claims and frightening numbers regarding oil, the disease and the stocks.  What we can say with a pretty high degree of probability is that those numbers in terms of infections and mortality will likely get worse in the coming weeks.  before they get better.    There is also a high degree of probability that you are going to hear more about quarantines, school closings and restrictions of movement.  {As I'm writing this Italy has just extended its quarantine to the entire country}.  Accept that the news on this is likely to get worse before it gets better.  

Nobody knows where the ultimate bottom will be in stocks but if this decline acts like many of the others then stocks will turn before the news gets better.  Nobody knows when volatility will subside but we have to accept that it will likely be elevated for some period of time.  

Nobody knows the economic impact of all this over the next twelve months but we do have a pretty good idea that worldwide growth will contract in 2020 and perhaps into the early months of 2021.  With the major indices now down nearly 20% from top to bottom, there's a substantial likelihood that a large chunk of this contraction is now baked into stock prices.  While nobody knows where an ultimate bottom may be put into for the markets, we do know that stock prices are significantly lower then they were fourteen trading days ago.  Yields on both ETFs and stocks are significantly now improved from a few weeks ago and while some of those yields may be now suspect especially in the energy sector, they are much more attractive today given the decline.  They are also more attractive given the collapse of treasury yields.

Finally nobody knows what the government's response to this will be in terms of trying to stimulate the economy or shelter the blow to the most affected sectors of the economy.  Yet there is a very high probability that some kind of response is coming, especially if the President wants to retain his job.*

Are we in for another 2008?

The 2008 financial crisis was the pricking of a speculative bubble in housing that ultimately threatened the financial infrastructure of the country.   While there is never a guarantee this will likely prove to be one of those unlooked for events that occasionally washes over the transom, catching investors unaware.  I'm positive if you'd asked the majority of the financial community six months ago what worried them the most they were unlikely to have said a global pandemic.  Yet here it is and what we do know is that ultimately markets will find a level of equilibrium and from that will at some point build a base from which they can make a sustained move higher in the future.

What are the things we know?

What we do know is that the share prices of corporate America have been put up for sale and that prior to all of this the US economy was in pretty good shape.   While we don't know if stock prices need to go lower or from what level stocks will ultimately find their footing from which to make an advance, we are building in a margin for error given the substance of the decline.  It is still our strategy to look for value as markets decline and put some of the cash we've had on the sidelines to work.  We will in all likelihood not catch the ultimate bottom of this decline and we certainly don't know when you'll be rewarded for having a patient long term strategy.  But it has been my experience in over 30 years of investing that having a patient and disciplined approach has usually resulted in you being rewarded for buying when markets are most fearful if you have a normal investor's 12-18 month time horizon.  Having said that we don't know when we'll be rewarded for this strategy and it is possible we'll need to endure continued volatility in the coming weeks until the news cycle gets better.  Plainly speaking, the time to sell was likely earlier in the year.  It is better to get a buy list together we think, not for today or perhaps tomorrow.  You're buying for the future and I've said to you time and time again I believe the future is full of promise.

*The President announced after I'd written this post that he was meeting with congressional leaders tomorrow to discuss ways to alleviate some of the coming economic burdens on small businesses and to discuss a response to the coronavirus.