A few weeks ago, the economy was strong and the stock market was humming along just fine, making new highs almost every day. Unfortunately, the coronavirus came along and it not only slowed down the global economy but also created a tremendous amount of uncertainty. If I can offer any ounce of optimism, when we eventually emerge from this crisis we will be in one of the most favorable stock market environments in history. Think of it as global liquidity on steroids combined with the persistent fear that gets created during market declines.
The first thing I want to stress is this will require a great deal of patience. We need to see two things happen before confidence starts to turn: 1) A decrease in the number of cases and deaths 2) A vaccine for the virus or at least some drug to be developed that can slow down the symptoms. No one knows if this will happen 3 weeks from now, 3 months from now or longer, but keep in mind the market is a discounting mechanism. It trades on what will happen 6 to 9 months in the future. In other words, the market can bottom well in advance of these two factors occurring. Again, all this will require patience before we will see a new sustainable uptrend (and yes, we will see one again).
The best move is to stay defensive — for now
When the market experiences decisive technical damage as it has the past few weeks, it is best to remain defensive until conditions improve. I wrote about this in a November 2018 article titled: 4 Things to do During Market Corrections. Basically, it encourages people to protect capital, protect confidence, minimize trading, and keep a watch list. All of these are important but minimizing trading is imperative so you don’t get tossed around with this unprecedented volatility. When you look at past examples of technical damage, you will see the importance of being defensive because it took time (around 3-6 months) before the volatility subsided and we saw a new uptrend.
When the coronavirus fears eventually subside, consumers around the world will come storming back and the global stock markets will recover strongly. Here’s the best part: The equity friendly environment that we were previously in will be on steroids! What I mean specifically is that the global central banks were already providing us with a liquidity driven, low interest rate environment.
Low rates will be around for a while
Over the past few weeks, they have added even more liquidity, created more quantitative easing (QE), and have lowered rates even further. For example, the US Fed cut rates to zero and is launching $700B in QE this week, the European Central Bank announced measures to support bank lending and expanded its asset purchase program by 120 billion Euros, and the People’s Bank of China have cut reserve ratios and is releasing 550 billion Yuan in liquidity.
By the way, for the economic purists out there, I’m not saying any of this is right. I am simply encouraging people to take advantage of the situation when we eventually get a confirmed new uptrend. Of course lowering interest rates will not cure the virus, but it does give confidence to investors, consumers, and small businesses that the Fed will do whatever it takes to help prevent a severe recession and to help the markets recover.
Some will argue that any positive news over the next few months will lead to the Fed taking back their recent rate cuts. These people fail to realize that the Fed will not rip the Band-Aid off so quickly. In their statement on Sunday night after their surprise rate cut, the Fed said: “The Committee expects to maintain this target range until it is confident that the economy has weathered events and is on track to achieve its maximum employment and price stability goals.” In other words, they will wait for at least 6 to 12 months of economic data to improve before raising rates again.
In addition, with the uncertainty surrounding the upcoming Presidential election, the Fed will not want to change monetary policy. It reminds me of when the Fed took action after the 1998 Russian financial crisis. After the crisis passed, they did not want to disrupt any potential problems that could arise from the upcoming Y2K situation. At that time, the Fed not only cut rates to fight the Long Term Capital Management blow up but also engineered the biggest expansion of money supply in the Fed’s history to curb possible Y2K fears. In other words, the current Fed won’t even consider altering their easy money policy until at least 2021.
When the coronavirus fears subside, we will not only be left with tons of pasta and toilet paper, but we will also be in one of the most favorable stock market environments in history. Of course it will take some time before all this uncertainty diminishes, but the market is a discounting mechanism and will bottom well before we get any positive news. The biggest thing right now is to be patient, but also to remain optimistic that a new uptrend is coming in the future. In the meantime, stay defensive and wash your hands.
Read more on the coronavirus and the markets:
We just got our first look at how much the coronavirus will damage the U.S. economy
Goldman Sachs warns the S&P 500 could sink to 2,000
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