Time to Shift

361 Capital Market Commentary | July 13th, 2020

The recently rising COVID data points are discouraging from many angles. One could look at the data and think that it is time again to bombproof the portfolio like back in February and March. But that was back when there were so many unknowns about the virus. This time around, we know more about what we are dealing with and we have much evidence showing how to deal with this pandemic. We know from Taiwan, Japan, and Hong Kong that wearing masks can keep cases and hospitalizations to a minimum. And we know from New Zealand and Australia that social distancing and contact tracing can take case counts back towards nil. This is no longer an unknown that requires a rocket scientist.

I think we need to shift our thinking about the rising COVID numbers this time because we don’t want to go back to nationwide shutdowns or have our schools closed again. I think that as this recent wave of cases and hospitalizations touches some newer geographies, people will learn more quickly what to do and what not to do. We are already seeing evidence of increased mask wearing in some of the hardest hit Southern states. The White House is now further advocating wearing a mask at all times—and President Trump even wore one on a hospital visit over the weekend. Don’t underestimate how big a deal this was, and how it will get many more Americans to take the virus more seriously. So, I think that the recent exponential moves upward in all the measured COVID datapoints will begin to slow their growth rates. This is not to say that they will stop going up in the near term, but I would guess that they would flatten out again in a month or two.

The market should be happy with a slowing in this second derivative of COVID growth rates, but unfortunately many companies may continue to react to the rising absolute numbers. We are seeing this across a spectrum of industries, but with much concentration in the travel, leisure, entertainment and dining industries. United Airlines was on a summer path to resume at 40% capacity until this recent spike in COVID crushed those plans and is now forcing them to think about permanent workforce reductions. And while we hope that most all kids can return to their classrooms in the fall, some geographies with rising COVID data will need to make alternative plans. Additionally, if the kids can’t make it to school, then that ripples through to parents not being able to return to more normal work schedules. It will be bumpy and the news will continue to be both good and bad. Expect volatility to remain elevated for the time being.

There is another big shift occurring in the markets right now and that is Wall Street warming up to a potential Joe Biden presidency. While the polls and betting markets continue to show a lead for Biden, up until this month, Wall Street has viewed his presidency as a significant negative to the markets. Part of this train of thought is easily justified as he has gone on the record to support a hike in the corporate income tax rate to 28% (which would be a drag on profits) and equal treatment of capital gains to income tax rates. But in the last few weeks, we have seen more constructive thoughts on the positive side of Joe’s economic ledger from increased foreign trade, large infrastructure investments and accelerated U.S. job growth. With ballots being printed and mailed in early October, this race has only three months left until voters start to check boxes. Expect to hear much more about future economic plans from both sides between now and then.

One last big shift occurring this week will be the start to the 2nd Quarter 2020 corporate earnings reporting season. The big banks will start us out and all investor eyes will be focused on how they view their loan credit quality and adequacy of their loan loss reserves. If they can exude confidence in their loan books, then the bank stocks could have a good week. If they are required to add significantly to their reserves and leave the future outlook uncertain, then the group (and maybe the markets) will have problems. Over the next three weeks, we will see the bulk of the S&P 500 companies report. We know that the COVID-affected, work-from-home companies will do well, but will they be rewarded at their higher valuations. Or, will investors look to the value and cyclical companies that have been hurt by COVID for a bet on their rebound? It is sure to be a busy three weeks looking through all the numbers and trying to figure the markets next move. Sharpen your pencils and double check your computer speakers because the fun begins on Tuesday morning.

The market has been anxious about these rising COVID data series…

US COVID-19 Update:
-7-day avg of new pos cases: 58,704 (new high)
-% positive 7-day avg: 9.1% (highest since 5/9)
-Hospitalizations: 52,578 (highest since 4/30)
-7-day avg of deaths: 716 (highest since 6/14, +45% over last week).

Number of Positive COVID-19 Cases per Day

But as the sunbelt states see COVID increases, on go the masks which will help slow future numbers…

Mask Usage in the Sun Belt Appears to Be Rising
(Goldman Sachs)

Could there by ‘herd immunity’ in many areas of NYC?

Either we avoid the virus by wearing a mask and washing hands, or we wait for it to spread everywhere. In some of the hardest hit areas of NYC, it looks like they may have achieved herd immunity. If so, then their neighborhoods could be protected from a second wave.

At a clinic in Corona, a working-class neighborhood in Queens, more than 68 percent of people tested positive for antibodies to the new coronavirus. At another clinic in Jackson Heights, Queens, that number was 56 percent. But at a clinic in Cobble Hill, a mostly white and wealthy neighborhood in Brooklyn, only 13 percent of people tested positive for antibodies.

As it has swept through New York, the coronavirus has exposed stark inequalities in nearly every aspect of city life, from who has been most affected to how the health care system cared for those patients. Many lower-income neighborhoods, where Black and Latino residents make up a large part of the population, were hard hit, while many wealthy neighborhoods suffered much less.

But now, as the city braces for a possible second wave of the virus, some of those vulnerabilities may flip, with the affluent neighborhoods becoming most at risk of a surge. According to antibody test results from CityMD that were shared with The New York Times, some neighborhoods were so exposed to the virus during the peak of the epidemic in March and April that they might have some protection during a second wave.

“Some communities might have herd immunity,” said Dr. Daniel Frogel, a senior vice president for operations at CityMD, which plays a key role in the city’s testing program.


As we get nearer to election time, Joe Biden is releasing his plans for the U.S. economy…

@carlquintanilla: JPMORGAN: “.. our US Equity strategists have framed a Democratic sweep elections as potentially neutral-to-positive for markets .. The most positive outcome would be a Biden victory alongside a Republican Senate, which implies fewer market disruptions from foreign policy ..”

Policy Proposals of Biden versus Trump

In recent weeks, the market has shifted from only focusing on the negatives of tax increases to now also including the benefits of his economic proposals…

@carlquintanilla: JPMORGAN: “The consensus view is that a Democrat victory in November will be a negative for equities. However, we see this outcome as neutral to slight positive.”

S&P 500 EPS Sensitivity to Democratic Policy

Here come earnings…

Earnings next week will be ugly with an average earnings report -50% year-over-year on a near double-digit decline in sales. But we know that business has been terrible in the rear-view mirror. Let’s see how the companies will position to recover in the future. We also want to know if Netflix has every set of eyeballs in America.

Most Anticipated Earnings Releases

Q1 loan loss provisions were a rough stab in the dark. The level of Q2’s LLP change will be very important for bank stock investors this week. It will be a more educated guess and gives us more insight into the quality of banks’ loan books…

@LizAnnSonders: With banks kicking off earnings season, analysts still worried about huge value of loan-loss provisions being set aside for bad loans/delinquencies; which hit nearly $53 billion in Q1 (near GFC levels)… several executives expect number to climb even higher in Q2. @WSJ @FDICgov

Industry loan-loss provisios, quarterly

A good visual from Goldman Sachs on how corporate earnings might progress into the future…

We know that this year should be the trough in earnings and that we will grow into 2021 and beyond. What we want to know is what that trajectory looks like. If the baseline is correct, then with the S&P 500 trading at 3,150, then the market P/E multiple works out to be 16.8x.

GS top-down S&P 500 EPS estimates

Of course, parts of the market, like the Nasdaq 100, are showing few signs of stress…

I will ignore the 3% swing in Monday’s trading for now.


The Nasdaq outperformance is only further stretching our growth vs. value relationship further this year…

Growth vs. Value
(Goldman Sachs)

China stocks broke out last week…

Could their economic recovery combined with a strong control of the virus be a roadmap for global investors? With COVID cases well controlled, the government stimulating and Chinese retail investors buying stocks (while the rest of the world has been more cautious) perhaps there is more fuel for this market.

(Goldman Sachs)

Barry Diller thinks we will return to normal. But he really doesn’t want a part two for this pandemic movie…

“My biggest fear was and continues to be that we will reopen and have to shut down again,” Diller said. “That to me is actually catastrophic.”

It’s possible, he said, that only a federal law requiring everyone to wear face masks can halt the pandemic.


People prefer another slowdown to a complete lockdown…

If Coronavirus cases increased in your area

Consumer spending appears to be peaking out right now…

Tweet from @carlquintanilla

The Johnson Redbook index of same-store sales has yet to see a meaningful rebound…

Consumer spending is returning, but it is not occurring at brick and mortar retailers which is why there are so many new bankruptcy filings. The death of in-person retail is happening at light speed.

Johnson Redbook Same Store Sales YoY

Small businesses have stopped re-opening which could be reflective of the loss of sales volumes…

Small Businesses Open

United Airlines had expected to be opening up to 40% of its capacity but the recent uptick in COVID cases forced them to reel in those plans last week…

Increase in COVID-19

Housing will likely remain a positive for the U.S. economy as current inventory continues to dry up helped by the record-low mortgage rates…

Housing Inventory

COVID has also made cash near obsolete as most all consumers have shifted to cards or mobile payments…

Gone Cashless

Investors want gold…


As real interest rates fall, gold remains a go-to place to protect the value of your assets…

US 10y Real Rates

For stock pickers, the precious metals miners are likely a fertile sector to look…

Gold Miners Breaking Out

A great story that you may have overlooked while jumping between Zoom calls, playing with that new puppy, or perfecting your Italian coffee at home…

I began to wonder: had anyone ever studied what real children would do if they found themselves alone on a deserted island? I wrote an article on the subject, in which I compared Lord of the Flies to modern scientific insights and concluded that, in all probability, kids would act very differently. Readers responded skeptically. All my examples concerned kids at home, at school, or at summer camp. Thus began my quest for a real-life Lord of the Flies. After trawling the web for a while, I came across an obscure blog that told an arresting story: “One day, in 1977, six boys set out from Tonga on a fishing trip … Caught in a huge storm, the boys were shipwrecked on a deserted island. What do they do, this little tribe? They made a pact never to quarrel.”



Finally, I will be hosting a webcast with a Mid-Year Review of market events next Wednesday, July 22.

We will discuss second quarter earnings, how COVID-19 continues to affect investors, interest rates, trade tensions and where I see opportunity in the market for the remainder of the year. We welcome topic suggestions when you register as well. Register Here. I hope you can join.
Webcast: 2020 Mid-Year Review with Blaine Rollins

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