"Unless you can watch your stock holdings decline by 50% without becoming panic-stricken, you should not be in the stock market.”
- Warren Buffett
It’s been a long time since I’ve described my work attitude as “giddy”, but then last week came along. I love me a heaping dose of volatility, and we were served up a hefty pile of it. While most of the world was in panic mode, we were methodically and gradually (and giddily) reducing some of our short positions and nibbling at some fantastic bargains. These are the times when we get rewarded for having ample liquidity. No one knows where the markets are headed near-term, but I’m hoping the volatility continues.
This recent panic/crash has actually been a bit of a relief, given how long we’ve been discussing the building imbalances and fragilities in the markets and global economy. I’ve anticipated it for a while but didn’t know what the pin would be. There are always plenty of potential catalysts to pop a bubble at the peak, but the ultimate pin tends to be something that few are aware of or are watching. The coronavirus was a perfect pin, but it is only accelerating and exacerbating the underlying rot that was already present. It is, however, giving our policymakers the cover they need to continue their debt buildup and monetary madness. It was never going to end well.
There’s Something About March 9th
There are a few days that stand out to me when it comes to the markets, and March 9 is vying for first place. On this day 11 years ago, the last major bear market ended. I remember that day clearly because I bought more stock that day than on any other day in my 30 years of investing. Of course, I didn’t know that a major market low was being made on that very day. I was buying because there were so many securities for sale at bargain prices. I was actually hoping prices would fall further.
Fast forward exactly 11 years, and the 2020 version of March 9th offered us up the first trading halt in 23 years. The stock exchange utilizes several circuit breakers which halt trading for various lengths of time when the market drops significantly. The first trigger is a 7% decline and results in an automatic 15-minute trading halt. We triggered that mere minutes after trading began on Monday, and it got uglier from there. Good ole March 9th.
It was March 12th, however, that brought us the first definitive bear market of this cycle. In December of 2018, the S&P 500 suffered a 19.87% decline from its peak to its low on Christmas Eve day. A bear market is typically defined as a 20% decline, so one’s opinion on whether or not we breached the bear market threshold back then hinges on one’s view of rounding. This past Thursday’s market action took any issue of decimal places completely off the table, with the day’s 9.5% pummeling dropping the market a healthy 26% from the high it reached on February 19th. It was the fastest bear market plunge in history, occurring in a speedy 16 trading days. The stock market clearly isn’t triskaidekaphobic, however, as the eye-popping 9.3% gain on the very next day, Friday the 13th, was one of the best performances in market history.
The chart on the right helps illustrate the return of volatility. It displays daily S&P 500 returns over the past year. Daily returns in either direction of more than 2% aren’t common. Out of 254 trading days in the last year, the market experienced 17 days when the market rose or fell by more than 2%. 12 of them, or 70%, came in just the last three weeks!
Never Ending Stimulus
After Friday’s huge rally, everyone is wondering if the coast is clear. We’ll only know for sure with hindsight, but the stock market as a whole remains very overvalued, and we’ve already seen the authorities start to panic. The Federal Reserve cut the federal funds interest rate by half a percent recently and just threw another $1.5 trillion at the short-term funding markets this past week. As I’m typing this up Sunday evening, the Fed just announced that they’re taking interest rates back to zero and ramping up a new Quantitative Easing (QE) program to the tune of another $700 billion. So, there we have it. The Fed is back at zero percent interest rates already with more QE, and this party just got started. Next, we’ll soon be hearing all types of speculation as to what the Fed might try next – bigger QE, negative interest rates, buying stocks, etc. It…will…not…end.
In the meantime, let’s revisit the chart below. When investors shift from greed to fear and want to hold cash, Fed stimulus is ineffective. That was a key lesson from the last two bear markets. We already saw the market sell off on the Fed’s two most recent stimulus efforts in the last two weeks. That was an ominous sign. Futures are limit down right now following the cut to zero, so the market’s initial reaction is another thumbs down. Tomorrow’s action will be telling. If investors have finally lost faith that the Fed is in control, then we’re likely headed much lower as all the self-reinforcing variables that have been driving the market higher slam into reverse.
How Low Can You Go?
The next chart shows what we might expect if this is finally the next big downturn. The last two major downturns saw declines of 50-60%, and I see no reason why the next won’t be at least as punishing. You can see in the chart where that would take us. I also think it’s very possible that we fall further than this, but I want to keep this upbeat, so we’ll leave that aside for now. Regardless, while the past few weeks have felt panicky and traumatic to many, this is still the cuddly phase if we’re looking at ursa major.
Frankly, I don’t really care which direction the market heads in the near-term. We are still far off from levels that would cause me to turn bullish on the market as a whole, so there are no plans to increase general risk exposure any time soon. At the same time, I’m seeing select bargains the likes of which I’ve seldom seen in my career. Our cash and protective positions have done exactly what they were meant to do these past few weeks. We modestly scaled out of some of these and will continue to do so if the market continues lower in the coming days and weeks. At the same time, our active investments are positioned to benefit from either the flood of liquidity that’s about to be unleashed or outstanding industry-specific, structural, supply/demand fundamentals. If investors continue to panic dump these bargains, we have plenty of fire power to gradually add.
As always, our greatest advantage is our ability to be patient, opportunistic, unemotional, and methodical. I understand what we own, what it’s worth, and why we own it, and there is a long-standing discipline guiding when and how we’ll put our reserves to work. What we’re seeing unfold in the markets is exactly what I’ve warned we’d see, so none of us should be too surprised. We’re not active traders, but you probably noticed a bit of trading last week. If this volatility keeps up, you should expect to see more activity in your portfolio for a little while as we gradually scale into and out of key positions and do some bargain hunting. Volatility creates opportunity…and a little giddiness.
Best,
Ken Bell, CFA, CFP, MBA, Ursa Major
03/15/2020
The Market Rubbernecker is associated with Aspera Financial, LLC, an investment management and financial planning firm based in the Cary, Raleigh, and Durham area of North Carolina. This and all Market Rubbernecker missives and musings (written, oral, or mimed) are subject to the disclaimers, disavowals, and hindquarter-coverings found at www.asperafinancial.com/aboutrubbernecker.