May should be an important transition month in the fight against COVID-19 and all its repercussions. On this week’s earnings call, Disney’s CEO Bob Chapek (DIS – $101.06) announced that Shanghai Disneyland will open its doors on May 11 based on limited reservation-only attendance and Disney will employ temperature screenings and provide clear safety guidelines for guests. We expect this reopening will be watched carefully by many government and business leaders around the world since Shanghai could eventually become a blueprint for other theme parks, resorts, and businesses. The Ultimate Fighting Championship (UFC) has also announced plans to hold three Fight Night events in Florida between May 9 and May 16. All three lineups will take place at the VyStar Veterans Memorial Arena in Jacksonville without a live audience and with protections to safeguard athletes and staff. Most importantly, 32 states have announced individual plans to restart their economies based upon their own unique scientific data and circumstances. All of these announcements have received both praise and criticism by people and the media.
This is our take on the situation. COVID-19 is now part of the world’s long list of communicable diseases. It is far more contagious than normal flu and far more dangerous for those with underlying medical conditions. It will be impossible to ever totally eliminate the risk of contracting this virus and a vaccine is many months away, at best. But at this juncture, everyone has had the opportunity to learn how to reduce one’s risk of contracting the virus by washing their hands, keeping their hands away from their face, wearing a mask, social distancing and being sensible about activities outside the home. The underlying purpose of the nationwide shelter-in-place guidelines was not just to prevent deaths, but it was vital to slow the number of cases of COVID-19 so as not to overwhelm the capacity of hospitals and healthcare workers to care for patients. It was important in order to give the healthcare industry the time to gather necessary materials, drugs, and space to treat COVID-19 victims. It seems that this latter goal has been accomplished.
The Path to Resiliency
In the last two months the capacity for most hospitals and healthcare workers to address a possible second wave of COVID-19 has been markedly increased. New therapies for COVID-19 are being tested and multiple vaccines are moving closer to the testing phase. And therefore, we believe it is time to holistically take care of all Americans in terms of not only their physical, but also their mental and financial health. To do this, life needs to be restarted. And with the exception of a few COVID-19 hotspots, it seems appropriate for most Americans to start carefully down the path toward normalcy.
Still, the war against COVID-19 revealed disturbing weaknesses in our nursing home system, our drug and medical equipment manufacturing pipeline and other industrial areas that will require addressing in coming months. In short, two decades of globalism has not made American stronger nor more resilient against a variety of ominous threats. Perhaps this was the most important lesson learned from this plague.
Discounting Bad News
Meanwhile, the stock market has absorbed an amazing amount of bad news. From an economic perspective, first quarter GDP is estimated to have dropped 4.8% quarter-over-quarter and some economists are forecasting the second quarter to decline as much as 40%! See page 3. Real personal disposable income only grew 0.1% in March and is apt to see an actual decline in April. Personal consumption expenditures fell 3.8% in the first quarter led by a decline of 12.9% in durable goods. See page 4. All segments of personal income fell in the first quarter while unemployment insurance payments rose from an annualized rate of $26.2 billion in February to a $65.3 billion pace in March. We expect this to increase again in April. See page 5. The savings rate jumped from 8% to 13% in March, which was predictable since we noted that demand deposits at commercial banks jumped 26% YOY in the week ended April 13. They rose to 32% YOY in the week ended April 20. Likewise, money supply, as measured by M1, rose 24.1% YOY as of April 20, setting a new record. See page 6. Sentiment indicators for April were abysmal tumbling to levels last seen during the 2009 recession. These include the National Association of Home Builders housing market index, the University of Michigan consumer sentiment, Conference Board consumer and NFIB Small Business confidence indices. See page 7. Total retail sales for March fell 7% YOY and were down 2.3% YOY excluding vehicles. Auto and auto parts sales fell 24.3% in March, which was the worst since the recession. ISM indices for April were bleak with the manufacturing index falling to 41.5 and the nonmanufacturing index dropping to 41.8. Both indices were clearly below the base line of 50 which denotes recession. See page 8. The Refinitiv/IBES S&P 2020 earnings growth estimate fell from minus 17.2% to minus 20.9% this week and the S&P/Dow Jones consensus estimate fell from minus 13.4% to minus 20.1%. Both are now at the negative 20% level we expected. See page 12. Nevertheless, the good news is that the bad news is out, and it is being discounted in equity prices. Investors appear to be noticing and the market is demonstrating impressive resiliency.
Do not Fight the Fed or Fiscal Stimulus
This brings us to the important Wall Street adage “Don’t fight the Fed.” The Fed’s balance sheet grew by $2.5 trillion between the end of February and April 29 which is a record surge in liquidity in eight weeks. See page 9. We are monitoring excess reserves, which are liquid assets held on the balance sheets of banks beyond the level of required reserves. This represents monetary stimulus that is not entering the economy. Excess reserves are reported on a delayed basis, but in the month of March, excess reserves increased by $409 billion. In sum, Fed-driven liquidity still sits on the balance sheets of banks which means there is more potential stimulus from the monetary side. And we expect there is more stimulus coming from the fiscal side as well in terms of business loans, unemployment checks and $1200 payments. See page 10. To date, the total amount of monetary and fiscal stimulus put into effect by the government equates to more than 22% of nominal GDP. This liquidity not only supports stock prices, but we believe it points to great economic potential in the second half of the year. However, it requires businesses to open and people to get back to work. There is a counter side to the stimulus which is the growing deficit. The federal deficit grew by $387 billion in the first quarter and on a 12-month moving average basis this means the deficit as a percentage of GDP grew from 4.7% to 5.7% in the first three months of 2020. See page 11. However, the deficit is a problem for another day.
Watching Those Technicals
We have been impressed by the charts of all the popular indices. All indices were able to better the first level of upside resistance represented by their respective 50-day moving averages. They continue to trade above these levels and the longer this continues, the more the 50-day moving averages will become support and the more convincing the current rally becomes. The Russell 2000 index has been the laggard index for the last twelve months, but it too remains above its 50-day moving average. See page 13. Our 25-day up/down volume oscillator was in overbought territory for two consecutive trading sessions, before the 90% down day recorded on May 1 carried it back to neutral. This was not the long sustained overbought reading that would have implied a V-shaped bottom was materializing. Nonetheless, this indicator, along with all sentiment indicators, suggests that the March 23 was a major low. We remain long term bullish.