Investing Through Volatile Times

03.27.2020 - Carin L. Pai, CFA

Market Reaction to the Coronavirus Crisis

Since February 19, the selloff in equities has been violent and swift, with elevated volatility and a 35% decline in the S&P 500 Index. As shown in Chart 1, this sharp reaction looks eerily similar to the  Global Financial Crisis (2008) and the Great Depression (1929), although, admittedly, these are very unusual comparisons as the latest crisis was caused by a pandemic and a largely self-inflicted economic downturn in an effort to cure it. The government-mandated shutdowns to meet the health threat will undoubtedly lead to massive layoffs (the first data point released on March 26 showed 3.3 million new claims) and a significant hit to consumption. The Fed’s liquidity injections and credit facilities are providing backstops to the market, while the pending passage of a massive $2 trillion fiscal relief package will hopefully soften the impact.  However, the duration and magnitude of the downturn are difficult to predict due to the uncertainty of the containment measures surrounding the coronavirus.

Chart 1: Current Market Decline Is Similar to 2008 and 1929

Source: Bloomberg, TS Lombard. Data through March 25, 2020.

Where do we go from here?
  • Although it’s still early in the crisis, the shock and panic phase in the US should soon begin to lessen.
  • Risk assets may begin to bottom out, but market rallies and re-tests of lows likely will follow in the coming weeks.
  • In our opinion, the eventual recovery will be gradual and muted.

The initial shock stage, typically characterized by high market volatility and unusual correlations (i.e., indiscriminate selling), looks to be receding as volatility may have peaked with a dispersion in returns now starting to occur. As more data becomes available surrounding government action via the fiscal stimulus and the virus containment status, we will learn more about valuation levels  After a swift and steep selloff, stocks were, on a technical basis, oversold so a bounce upwards on good news has not been surprising. 

At this point, are equities cheap? 

Compared to fixed income, stocks are definitely discounted, with dividend yields that are substantially higher than 10-year US Treasuries and equity risk premiums that are twice their historical average.[1]  The caveat to these valuation measures is that the expected earnings for companies (shown in Chart 2) could potentially decline by as much as 20% for the year, especially since share buyback programs, which had been a supporting factor in prior years, have largely been suspended. This situation places investors in a position in which they are somewhat dependent on the epidemic containment efforts in gauging corporate earnings. 

Chart 2: Tech, Staples, and Utilities will continue to trade at a premium

Valuations by sector (forward P/E – current vs. last 10-year range)

Source: Bloomberg, data as of March 24, 2020

What types of companies should investors focus on?

In the current climate, we are focused on high-quality companies with market leadership, balance sheet strength, ample cash flow, and good management teams which possess the ability to weather the storm.  On a high level, we also strongly suggest staying with long-term secular growers and quality defensive equities. Also, our team favors a cautious approach to cyclical stocks which may appear cheap today but the outlook for growth has become increasingly uncertain.  Finally, if markets suddenly turned volatile again, we would consider using the occasion as an opportunity to upgrade select portfolio holdings.

What sectors do we find attractive?

We favor investing in the digital transformation of content trend underway within Communications Services, which is allowing consumers to engage and share information in a new paradigm. Our long-term outlook remains positive on Healthcare because of US demographics and an aging population, the unmet medical needs in oncology, diabetes, hepatitis B and Alzheimer’s, to name a few, and innovative treatments starting to emerge, specifically, in genomic therapy. We maintain a favorable view on Consumer Staples, given the expected decline in economic growth and a low-yielding environment. We find Information Technology to be attractive, especially in a post-virus world in which the benefits of connectivity and digitalization become ever more critical. Utilities provide a large degree of countercyclicality, displaying defensive characteristics based on their relative attractiveness from a yield perspective.

What sectors do we find unattractive?

Concerns around weak macro environment and the resulting oil demand, combined with a rising US shale and OPEC supply, plague the Energy sector. Financials, especially banks, face a declining interest rate environment with lower net interest margins along with potentially rising credit losses.  Our preference in Materials remains for specialty chemicals and processing companies, while maintaining an unfavorable outlook on commodity-like businesses with high sensitivity to economic growth. Consumer spending will likely suffer as global demand will be impacted by the containment efforts around COVID-19, hurting Consumer Discretionary, as trade concerns already were hurting retailers and will continue to be a headwind in the foreseeable future. Capital expenditure spending was already on pause due to the trade war with China, so we expect the decline in economic activity to weigh on Industrials and prolong the recovery.  We are cautious regarding the Real Estate sector due to concerns of rising business closures. 

Don’t sell into panic

In our opinion, it’s too late to sell due to the panic now gripping the equity market. Instead, we advocate for a patient and cautious approach over the next two to four weeks as we hopefully shift to a less uncertain and anxious investment backdrop. Investing, on a long-term basis, in high-quality, defensive and secular growth companies offers a strong core to a portfolio at this time. Additionally, we believe the current market may provide long-term opportunities for investors who stay the course or take advantage of opportunities as they arise.

The information provided is intended solely to provide general information. The information and opinions stated may change without notice. The information and opinions do not represent a complete analysis of every material fact regarding any market, industry, sector or security. Statements of fact have been obtained from sources deemed reliable, but no representation is made as to their completeness or accuracy. The opinions expressed are not intended as individual investment, tax or estate planning advice or as a recommendation of any particular security, strategy, or investment product. Please consult your personal advisor to determine whether this information may be appropriate for you. This information is provided solely for insight into our general management philosophy and process. Historical performance does not guarantee future results and results may differ over future time periods.


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