Welcome! I hope you may benefit from this month's edition of Notes Along the Path.
Today we will be discussing
- The Swoosh: economic & market commentary
- Lessons from the pandemic (so far)
Happy 4th of July!
On July 4th we celebrate Independence Day. We remember the gift we have been given by the founders of our nation. Deeply flawed as we recognize they were, they set in motion a great experiment that continues to unfold, to develop, and I daresay to thrive. America remains the best hope for freedom in the world and I will never give up on her as long as our Constitution stands.
On July 2nd we celebrated my son's graduation from High School. It was a bit late because they gave every student an opportunity to create a slide about themselves for the video broadcast.
They call graduation "commencement" because it marks the beginning of life as an adult. It is strange to me that 18 year olds can join the Army, or be tried as an adult, but they cannot drink legally. I think you should have to be 21 for all of those things, but that's a debate we can have offline!
Seeing my eldest grow from the baby I rocked to sleep so many nights when he was colicy to the thoughtful, creative, smart, strong and friendly young man he is has been a great adventure.
For him, Independence Day is coming when he goes to Oberlin in August.
It is going to be awefully quiet around here without him and we will worry about Covid every day when he is away. The Conservatory and College at Oberlin, where he will persue dual degrees in Music Composition and Liberal Arts, are lucky to have him.
I would like to mention a new article I published a few days ago: "The Truth About Risk." You can find it on my blog or the Garrett Planning Network site.
Last month's letter could have been titled "The Approaching Light Before the Dawn." Much of the economic data at that time was still negative, with record declines in employment (U.S. BLS employment data) and consumer spending (U.S. BEA). The speed of the decline had no modern precedent.
With government-imposed lockdowns and business closures, companies furloughed employees at an unprecedented pace. It has been disheartening to see friends and family members sidelined from the workforce.
We are now in a recession, according to the National Bureau of Economic Research. The NBER is the official arbiter of recessions and expansions. The prior expansion, which began in 2009, officially peaked in February, having lasted a record 128 months.
In its determination, the NBER concluded, "The unprecedented magnitude of the decline in employment and production… warrants the designation of this episode as a recession, even if it turns out to be briefer than earlier contractions."
The shortest recession on record lasted just six months and occurred in 1980. Second place: a seven-month recession in 1918-19, which was tied to the Spanish flu pandemic. Five recessions lasted eight months, including the 1957-58 recession that coincided with the Asian flu pandemic.
While the economy is much different today, the recovery from the short, but steep 1957-58 recession was robust (St. Louis Federal Reserve).
That brings us back to last month's title, "The Approaching Light Before the Dawn."
Given surprisingly strong data in May, April likely marked the bottom of the economic cycle. If so, it will be the shortest recession on record. Remember also that the speed and depth of the decline have no modern parallels.
With massive support from the Federal Reserve, the federal government, and the reopening of previously closed businesses, employment surged 2.5 million in May and a record 4.8 million in June. The unemployment rate now stands at 11.1% due to the over 20 million jobs lost in April.
Consumer spending fell 6.6% in March and 12.6% in April, rebounded by 8.2% in May (St. Louis Federal Reserve), and June figures are not out yet. Pent-up demand, stimulus checks, unemployment benefits, a rise in employment, and reopened businesses continue to support sales.
Consumer confidence is also improving per the Conference Board's Consumer Confidence Index. It remains well below pre-coronavirus levels, but rising confidence and re-openings are supportive of economic activity.
Still, not all is rosy. And a strong recovery is not assured, as visibility remains incredibly limited.
As measured by first-time jobless claims (Department of Labor), layoffs are slowing but remain at unusually high levels. The weekly layoff numbers have been more than double what we saw at the peak of the 2007-09 recession.
Forecasting in today's environment
In his testimony before House committee on June 30, Fed Chief Powell said, "Many businesses are opening their doors, hiring is picking up, and spending is increasing. Employment moved higher, and consumer spending rebounded strongly in May. We have entered an important new phase and have done so sooner than expected."
But he also recognized the need to keep the virus in check. "The path forward for the economy is extraordinarily uncertain and will largely depend on our success in containing the virus. A full recovery is unlikely until people are confident that it is safe to reengage in a broad range of activities," Powell added.
We see a spike in Covid-19 cases in many states, creating a new round of uncertainty. It has fueled choppier day-to-day activity in the market. At least so far, the bull market seems to be coexisting with the rise in cases.
U.S. Treasury Secretary Steven Mnuchin took a more optimistic tone in his testimony with Powell. "The Blue Chip Report is forecasting that our GDP will grow by 17% annualized in the third quarter, and by 9% in the fourth quarter." Not surprisingly, he failed to mention what is expected to be record contraction of around 50% in Q2.
Let that sink in a moment: 50%. That doesn't mean economic activity was halved, it means that IF that quarter continued for a whole year, THEN the economy would be cut in half.
So I did the math and compounded the figures. If Mnuchin's forecast is correct we will still end up with an economy 11.7% smaller than when we started the year. That does not seem like any of the letters you hear about.
V-, U-, L- or W-shaped recovery? More like a swoosh.
A V-shaped recovery would be ideal, as it would represent a robust bounce. Might we get a V? I would be very surprised. Data in May was unexpectedly strong and cautiously encouraging. However, even during what we might consider more normal times, forecasting is difficult. Today, there's no agreed upon playbook or framework to model outcomes.
The strong rebound in stocks since the late-March low is astounding, especially given the economic damage. It suggests that the collective wisdom of investors is optimistic.
Fed support, rock bottom interest rates, the reopening trade, and more robust economic data have helped. I also believe institutional investors are looking past this year's hit to corporate profits and expect an upturn in 2021.
The jump in daily Covid cases has created some renewed volatility, and it bears watching, but it has yet to knock the bulls off course. Ultimately, the path of the virus will play the most prominent role in the unfolding economic outlook.
Some folks are itching to get back to normal, while others remain on guard against the disease and take a more cautious approach. It will take time for some businesses, restaurants and travel in particular, to recover fully. Some never will.
Last month I advised against expecting a return to a pre-Covid jobless rate anytime soon in spite of many investors betting that an economic bottom is in sight.
For stocks, try to look past continued volatility. Based on recent economic reports, I think we hit that bottom in April.
But the stock markt is not the economy, rather it is a leading indicator. We may get a V-shaped stock market recovery, but the economic recovery (jobs and GDP) will have a (perhaps wobbly) swoosh shape.
None of us expected an economic upheaval spawned by a health crisis as the year began.
As I discuss some of the lessons and takeaways from the Covid-19 crisis, you'll probably recognize some of the themes. Let's not forget that the fundamentals–the core financial precepts–are always the building blocks of any credible financial plan.
1. You need money at the end of your month
Saving for an emergency cannot be underestimated. Three to six months is optimal, depending on job security and how many earners are in your household. But there is an added benefit – financial peace of mind.
It's reflected in the proverb "The borrower is servant to the lender." It's not that I would counsel against a mortgage for a home. But an accumulation of wants (not needs) with debt doesn't bring contentment. Instead, it brings stress. I have seen it over and over. You want money at the end of your month, not month at the end of your money.
A financial cushion eliminates one of life's worst worries.
2. Wants vs. needs
Many of us have learned to do without certain things during the quarantine. Whether we wanted to or not, we were forced to cut back on certain items.
Ask yourself this question, "As businesses reopen, are there things I can do without? Can I continue to cutback and still maintain my lifestyle?"
Many of our entertainment options have been curtailed. As we emerge from our homes and businesses reopen, are there items that can be trimmed from the budget? It's not a cold turkey approach, i.e., no more eating out, sporting events, travel, or theater. But can we reduce expenditures on some items without sacrificing our overall lifestyle?
3. Diversification and tolerance for risk
We've just witnessed an unusual amount of stock market volatility. Calling it a rollercoaster does not fully capture the experience.
The major indexes have erased much of their losses. Yet, how did you fare emotionally when stocks took a beating. Now is the time to reevaluate your tolerance for risk. We'd be happy to assist and make any adjustments as they relate to your longer-term financial goals.
4. Expecting the unexpected
From its March 2009 low to the February 2020 high, the bull market ran for over ten years (measured by the S&P 500 Index). There were a couple of corrections (December 2018) during that run. We know bear markets are inevitable, but I recognize that the onset of a steep decline may be unnerving.
Nonetheless, a well-diversified portfolio of stocks has historically had an upside bias. That upside bias is incorporated into the recommendations we make, even as our recommendations are tailored to your circumstances and goals.
Further, a healthy mix of fixed income helped cushion the decline. While we monitor events and the markets over a shorter-term period, let's be careful not to take our eyes off your longer-term goals.
5. Rebalancing can make a big difference
In mid-March, I emailed all my AUM clients about rebalancing. The concept is that if your allocation between stocks and bonds has become different than your target, you buy more of the under-represented asset class.
For example, if your target is 70% stocks (30% bonds), you probably found yourself at 65% stocks in late March due to the decline in stock prices. If you then sold enough bonds and bought stocks to bring your allocation back to the target, you would have gained more on the rebound than if you had done nothing.
Be proactive, not reactive.
The steps above are a broad overview, of course individual circumstances vary.
Taking inventory is critical - it may be half the battle. Be proactive, not reactive. You may find you are in a much better position than you realized. As always, we are here to help.
I hope you've found this review to be helpful and educational.
I understand the uncertainty facing all of us. We are grappling with an economic and a health care crisis. It's something none of us have ever faced. We have addressed various issues with you, but there are always questions. If you want to talk any time, let's have that conversation. That's what I'm here for.
If you like it this newsletter I encourage you to pass it on to any contacts you have that might benefit.
I remain honered and humbled that my clients have allowed me to serve as their financial advisor. Thank you for your support.
All the Best!