Before we delve into our quarterly commentary, we want to express our continued sympathy for those who have been affected, either directly or indirectly, by Covid-19, as well as our utmost respect and admiration for health care providers and essential workers everywhere dealing with all aspects of trying to manage this virus.
How we’re progressing
Entering the second half of 2020, we are encouraged by the progress made since the onset of the global pandemic. This includes the valuable experience gained in treatment and management for Covid-19 and the relentless commitment to seek viable future vaccines. It also includes significant fiscal and monetary relief from these programs:
As the country began to reopen in the second quarter, the sheer magnitude of these programs, along with general optimism about the prospect of containing and controlling the virus, allowed markets to recover much of the abrupt losses they incurred from the onset of the pandemic. By the end of the first half of 2020, the S&P 500 had experienced both the worst quarterly decline since 2000 in Q1 AND the best quarterly gain since 1999 in Q2, taking investors on an emotional roller coaster ride.
A perspective on recent market activity
So far in the 3rd quarter, we are experiencing economic and financial crosscurrents where the reopening process has been met with a significant amount of new spread. As a result, many businesses and individuals are coming to grips with the fact that the consequences of the pandemic will take time to address and overcome. Meanwhile, the broad markets continue to show signs a recovery is still in the works, albeit with an undertow of volatility and mixed signals in many areas of the market.
“In the short run, the market is a voting machine but in the long run, it is a weighing machine.” —Benjamin Graham, British-born American economist
This expression, coined by the father of value investing, Ben Graham, explains why market actions in the short run can reflect more sentiment than substance. Stock prices can change rapidly based on the current environment, and can be heavily influenced by fads, “fast money” traders, and speculation. Yet, over the long run, the markets will value companies based on more sturdy financial fundamentals such as profitability, free cash flow, and capital investment.
Disruptions of the magnitude of the pandemic are presenting fertile ground in testing Graham’s theory. We often talk about the moral hazard created when the Fed employs generous monetary policy because 1) it creates misallocations of resources where unprofitable companies can access cheap capital to survive longer than perhaps they should, 2) savers are punished over borrowers, and 3) trillions of dollars are sloshing around in the financial markets providing fuel for speculation and prognostication.
Mega implications of the new virtual world
Consider the following graph of the S&P 500. While most of the stocks in the index are off their recent lows, a disproportionate amount of the index’s recovery is attributable to a handful of the largest, more expensive stocks. Essentially, companies who supported “staying at home” or the “new virtual world” have outperformed while many others have been left behind, at least in the short run.
A new breed of traders
Over the last several years, the proliferation of online gambling has been something to behold. Whether it’s the Super Bowl, the Masters, or a host of other sporting events, hordes of everyday folks are spicing up their sports experience by placing bets on these online platforms.
It has been estimated that over 40% of males between aged 25-34 who watch sports place at least one bet per week. In light of the fact that most sporting events have been on hold, it appears these frustrated gamblers have turned to stock speculation to satisfy this urge. In particular, Robinhood, a relatively new online trading service, has been reporting a brisk increase in new account openings. This has been contributing to the run up of stocks like Tesla, Moderna, and Apple.
At this stage of the Covid-19 economy, it appears investors are falling into two camps. There are those who are trying to ride the wave of popular sentiment or, in some cases, simply gambling in the markets. While others feel the magnitude of the economic damage from the pandemic, along with how the Fed and Treasury’s continued spending spree has put this country on very shaky ground. Based on these two camps, we have been witnessing stretched valuations in many “story stocks”, while gold is reaching all-time highs, money market holdings are over $4 trillion, and over $100 billion has flowed out of U. S. stock funds. You could argue that in all cases, investors are doing more voting than weighing!
Our investment strategy remains grounded in long-term fundamentals and prudent diversification among asset classes. Throughout this pandemic, we have been taking actions in accordance with this strategy. We have made several subtle changes to our equity allocations, as well as rebalancing. These actions have been done while preserving our general equity tilts.
In the fixed income space, we are maintaining our high quality, short/intermediate-term duration positions. We are also further strengthening our fixed income investments with actions such as moving prime money market funds to 100% Treasuries in order to ensure safety and liquidity of these assets. Additionally, we made minor adjustments to the target duration of our holdings and further improved credit quality to provide downside protection during these uncertain times and historic low interest rates.
The markets and the economy will continue to present challenges and opportunities, whether it is a pandemic, bull and bear markets, election cycles, or a host of other scenarios. Through our ongoing financial planning conversations, we help you manage the dynamic circumstances of your financial lives, recalibrating tax and estate planning strategies, and other aspects of your plan. In this process, we listen carefully for any changes in your goals, objectives, and personal life circumstances. It is important for you to make us aware of any changes in your circumstances so that we may discuss the need to adjust your financial plan or investment strategy accordingly.
Thank you for your continued confidence in our services.