Heading into 2020, we expected to see elevated volatility because it is a presidential election year. But the primary cause of the incredible volatility that defined the first quarter was a “silent” source. The coronavirus spread across the globe, creating a global pandemic that has claimed many lives, infected an untold number of people, and shuttered non-essential businesses. This “black swan” event is largely unprecedented. Global governments are scrambling to handle the situation, children are home from school, citizens are confined to their homes, businesses are struggling to survive, and people everywhere are simply trying to cope. It is a trying time that is likely to shape our behavior for years to come.
What happened in the markets: Q1 2020 saw the fastest-developing bear market in history. The U.S. presidential election took flight, pitting Democratic candidates against each other to see who may be the frontrunner to potentially replace President Trump. This quickly became a side show as COVID-19 spread around the world, forcing governments to close non-essential businesses in an attempt to slow the spread of the virus. Adding to the turmoil, Saudi Arabia decided to launch an oil price war, severely impacting U.S. oil producers. Initial weekly jobless claims soared to record highs, and policy makers reacted to the economic damage with massive stimulus measures. The U.S. Federal Reserve took extraordinary action, reducing interest rates to nearly zero, embarking on an unlimited quantitative easing program, recommending that banks use the discount window, and supporting an array of markets, including money markets, commercial mortgages, municipal bonds, and commercial paper. Meanwhile, Congress passed several stimulus bills that include direct payments to U.S. citizens, a major expansion in unemployment benefits, as well as a broad combination of grants, loans, and loan guarantees for large and small businesses, hospitals, schools, and state and local governments.
How we are interpreting it: It is important to note that the stock market is not the economy; it is only part of the economy. The stock market precedes the broader economy, as prices of securities reflect investors’ expectations for the future. Investors require dependable information to form reasonable forward-looking expectations. As markets plummeted and uncertainty escalated in February and March, dependable data was largely unavailable in the market. Will Congress pass a stimulus bill? Will that bill be enough? What is the Federal Reserve going to do? As these questions started getting answered, markets began to settle. But that doesn’t mean that we are out of the woods yet. We anticipate a recovery after the second quarter, but we expect the second quarter to be extremely challenging. While market volatility is beginning to subside, it remains very elevated and we expect it to remain so for the short term, at least until we see a peak in COVID-19 cases.
While this unprecedented time has led to challenges, it is creating opportunity as well. We have been monitoring the investment landscape during this drawdown and have added a few world-class stocks at great values. Many of these companies previously were too over-valued for our tastes. As opportunities like these continue to present themselves, we will take further action. Keep in mind that our portfolios are designed to focus on high-quality companies with durable competitive advantages. These companies will likely emerge from this crisis even stronger, while weaker competitors struggle. As difficult as it may feel, we encourage you to stick to your financial plan during this time and remain focused on your long-term goals.
Until next quarter,
Brian Dorn, Director of Portfolio Management