Perspective On Q2 2020 - The Quarantine Quarter

To state the obvious, the second quarter of 2020 was a major challenge in every way—The Covid-19 virus traveled across continents leading to a global pandemic. The economy dipped into the steepest recession in nearly 100 years (and possibly rebounded… more on that later). One out of five Americans were unemployed overnight. And the death of George Floyd launched unrest among neighbors and the most profound call for racial equality since the civil rights movement of the 1960s. The societal background of fear and chaos has prompted much needed reflection and focus on the truly important things in life.

Despite the disruption, there is reason for optimism. Human beings are resilient. And, broad incentives to spark strategies for progress and cures expedite innovation and advancement. Good businesses will seek outside thoughts and opinions to shape strategy and create best practices during times like these, but great businesses will do so all the time. We were already in the process of forming our new strategic board of advisors when the pandemic hit, so we are especially grateful for their vast experience and unique perspective as we seek to serve clients’ best interest during this period of ambiguity. The advisory board includes a retired vice admiral and former inspector general of the Navy, a Harvard trained attorney and former amateur boxer, and an advanced analytics specialist and strategist in the NBA. Please take a moment to “meet” our extended team— click here to view.
Like 994 Group, many companies will continue evolving and growing despite the difficult environment encompassing the economic themes we outlined at the beginning of the year. Of course, we didn’t predict the pandemic, but we did acknowledge that something would happen to disrupt the economy—we just didn’t know exactly what or when. The aforementioned economic themes include ballooning federal deficit exacerbated exponentially by efforts to mitigate the pandemic’s economic fallout, the move from multi-lateral to bi-lateral trade deals, the presidential election year, and the economic tug-of-war. Only one theme is no longer a concern: the obsession with recession prediction… because it already occurred! Not only did it already start, it may already be over, so let’s start there: …

• Signals the recession is over. A recession is defined as two consecutive quarters of GDP (Gross Domestic Product) decrease. Q1 GDP was revised to a decrease, and Q2 is expected to deliver the worst quarterly drop ever recorded. Economists predict a decrease of 25-35%. Remember, the end of a recession is simply a return to growth. Increases in business activity, retail sales, and a jump in employment were all reported in May and June. Furthermore, the stock market is a leading indicator of the economy, meaning that stock market increases or decreases occur before the economy registers the impact of a growing or receding economy. Markets have rebounded as we will outline below. It will take time to return to the economic strength which marked the beginning of 2020, but we are seeing green shoots of growth.
• A rising stock market in a poor economy? This is the most frequently asked question we get from clients and random strangers who find out what we do for a living. As previously noted, the stock market is a leading indicator for the economy. The entire stock market functions as a clearinghouse for valuing companies’ future cash flows relative to current stock prices. Key word: future. Looking back at previous recessions, including the Great Recession of 2008, the stock market rebounded before the economy, even though it didn’t seem like the positive increases were warranted. Positive gains in the stock market also reflect an incredibly important occurrence; the Federal Reserve cut interest rates to 0. A company’s stock price is calculated by dividing future cash flow by a discount rate. The discount rate is driven by the prevailing interest rate set, in part, by the Fed. So, if the denominator of the equation is reduced, the result goes up—sometimes dramatically. This means that prior high levels of earnings are not required for companies to earn the same stock price. For example: $10 of earnings/0.10 discount rate = $100 stock price, and $8 of lower earnings/ 0.08 discount rate = $160 stock price. See that? This is one of many factors that can drive the stock market up. Don’t ever be surprised by the stock market!
• Necessity is the mother of invention. The world has innovated at an exponential rate since 2008.The Great Recession saw the closure of many businesses, but those that survived emerged more fiscally sound and with reinforced business models. The iPad didn’t even exist in 2008 much to the utter incomprehension of modern-day kids. Medical advances that once seemed impossible have been implemented widely throughout patient care. The five-year cancer survival rate reached nearly 70% from 2010-2016, and the cancer mortality rate dropped by 27% from its peak. Consider the Peleton…did they invent the bicycle? No…but they made stationary bikes cool, connecting Peleton disciples across the world improving health across generations. Disruption in business forces change which some will not withstand while others will evolve and thrive. Tomorrow will be better than today.
• Stay the course. Your financial plan is uniquely structured to account for market ups and downs, so stay the course! The opportunity cost of not staying invested in a risk-appropriate portfolio is too high. Consider this example: $100,000 invested on 1/1/2000 in the S&P 500® would have grown to $324,019 by December 31,2019. Missing only the 10 best days out of that 20-year period would reduce that amount to only $161,706. Even worse, missing the best 25 days would have resulted in a loss!! Yes, lost money because of just 25 days over a 20-year period. Even in the midst of the current volatility, on Tuesday, March 24th, the Dow Jones Industrial Average returned 11%, the best return since 1933. You can’t know when the best days will be, but you do know what could happen if you miss them.
• Bonds have performed as expected this year. Through June 30th, our bond allocations have provided the expected level of downside protection. Bonds are one of the tools we use to manage risk in your portfolio. Here’s a recap of index performance over the period:
  • U.S. Bonds (Bloomberg Barclays Aggregate Index ): +6.14% YTD, +2.90% Q2
  • U.S. Stocks (S&P 500®): -4.04% YTD; +19.95% Q2
  • Emerging Market Stocks (MSCI Emerging Index ): -10.73% YTD, +17.27% Q2
  • International Stocks (MSCI ex US Index ): -12.59% YTD, +14.17% Q2
  • U.S. Small Cap (Russell 2000 ): -13.61% YTD, +25% Q2

2020 has been tumultuous, and the resulting change and uncertainty are unnerving. The second quarter presented an array of trials that will test the will, grit, and patience of our nation. Fortunately, we have a long history of progress and success. We remain optimistic that tomorrow will indeed be better than today. We intend to play a part in creating that better future for our clients, for our families, and for the betterment of our community.





Sources: https://seer.cancer.gov/, cancer.org, dimensional.com, ftportfolios.com, BlackRock.com, Morningstar.com, MSCI.com, finance.yahoo.com

Disclosure:
This material represents an assessment of the market and economic environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. Forward-looking statements are subject to certain risks and uncertainties. Actual results, performance, or achievements may differ materially from those expressed or implied. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Past performance does not guarantee future results.

Index Disclosures:
Barclays U.S. Aggregate Bond Index: The Bloomberg Barclays U.S. Aggregate Bond Index is an unmanaged index of fixed rate debt securities rated investment grade or higher by Moody’s, Standard & Poor’s, or Fitch rating services. All issues in the index have at least one year to maturity and an outstanding par value of at least $25 million to $1 billion based on the type of security. Indices are not available for direct investment and do not reflect any fees that may be charged.

S&P 500®: The S&P 500® index is an unmanaged index of 500 companies used as a representative sample of the United States economy. The S&P 500® index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charged.

MSCI Ex-US: The MSCI Ex-US index is an unmanaged index used as a representative sample of the global developed economy outside of the United States. The MSCI Ex-US index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charge.

MSCI Emerging Markets: The MSCI Emerging Market index is an unmanaged index used as a representative sample of the global emerging market economy outside of the United States. The MSCI Emerging Market index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charge.

DJIA: is an unmanaged index of 30 companies used as a representative sample of the United States economy. The S&P 500 index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charged.