Market Commentary: Q2 2020
Much has certainly changed since the beginning of the year.
In some ways, nothing’s changed, simply accelerated. What we mean is that if you were to try to predict what would happen to online shopping, remote working, education and retail real estate, you could make the argument that we’ve jumped ahead a decade in four months. The trick is to try and figure out what this means in relation to investing and how to manage an investment portfolio.
One of the most common questions we’re getting since the economic shutdown due to COVID-19 has been why the stock market continues to move higher when there’s been so much economic destruction. The simple answer is that the market is not the economy. The stock market is essentially looking past the present and pricing what they see into 2021 and beyond; and the pricing is based on perfection.
Another reason is the massive amount of cash that’s been pumped into the system by central banks, otherwise known as quantitative easing (QE). If QE used in the financial crisis of 2008 was like shocking a heart attack patient back alive, 2020 QE is like leaving the paddles on the patient indefinitely. To give a sense of scale the U.S. Federal Reserve held about $800 billion in Treasury notes on its balance sheet before the 2008 recession according to Wikipedia; by March 2009 it held $1.75 trillion of bank debt, mortgage-backed securities and Treasury notes peaking to $2.1 trillion in June 2010. The Washington Post reported April 15th that the Federal Reserve will exceed $4 trillion in asset purchases and all told, the U.S. government has committed more than $6 trillion in spending. This is in only four months as of this writing.
Canada’s federal COVID-19 stimulus package has included spending more than $150 billion split between direct support to individuals and businesses. However, we now know that this year’s deficit will exceed $350 billion and the Bank of Canada’s balance sheet will expand beyond 20% of annual GDP and the government projects debt will rise to 49.1% of GDP in the current fiscal year, up from 31.1% last year. For comparison, in 2019 Germany had a debt to GDP ratio of 39.56%, the U.S. was 90.50%, Italy was 131.09% and Japan was 198.44% according to the International Monetary Fund or IMF. Jason Castelli, Raymond James’ VP, head of investment strategy points out as long as you have domestic savers buying the debt, these massive deficits are manageable, in theory.
The team at Aura Wealth Management continues to be cautious while still being in the market. We continue to keep cash levels higher than normal to give a cushion to a potential re-testing of market lows or a pull-back that’s less extreme. The upward momentum is being carried by positive sentiment and not fundamental data and you never know when sentiment can change. We are truly in a world where fundamentals are not being priced as we would normally expect them to and it’s difficult to “fight the Fed”. We may not fight the Fed, but we must keep our feet grounded in reality, a little light reading from David Rosenberg will help explain what I mean.