Market Update: 04/20/2020

Automated Video Transcript

Market update: April 20^th, 2020

Hello, I’m Alan Gillespie, managing partner of investments here at FinTrust Capital Advisors with the market update for the week of April 20th 2020.

The Bond Market

In the bond market, as we pointed out in early April, the investment grade part of the curve, starting with government bonds. Had regained its slope. Typically the slope of the yield curve as a forward indicator of the direction of the economy. As a result, we believe that the markets would begin to show some signs of recovery from the lows.

In the past week. We’ve also begun to see the high yield bond market curve straighten out. This is important because this is the part that most directly impacts banks. This is typically were small business and private equity businesses would fall on the credit curve. So you can see here, a month ago the yield curve high yield the that will be part of the curve still had inversion from three months out to about three years before regaining the slope, whereas last Friday you can see much flatter here on the front part of the curve out to about three years still before you really see robust recovery. But the bulk of this flatness is in the one year period before some slight recovery, and then a bigger recovery thereafter. So again, we were still seeing high levels of stress from an absolute level.

I was reading the Moody’s report this weekend and project it defaults in the fourth quarter or projected to be between 12 and 12 and ½ percent. Historically in high yield credits, you would then expect to see recoveries of $0.50 to $0.60 on the dollar, so total credit charges might be expected to be in the 6% or 600 basis point range. So high, but not unprecedented for this part of the credit curve. What we’re seeing. And how you’ll now, uh, is expectations about year of stress before we begin to see recovery in a more normal looking shape. So in that regard, it looks very similar to other recessionary periods as result, were more constructive on markets than most.

Many are concerned about the risk of a Great Depression because the current economic stats look horrible. But I’ve studied recessionary periods, depressions and bankruptcies like the municipal defaults in the 1930s. Penn Central Railroad in 1970 Orange County in 1994 pretty extensively and I can tell you during the depression years, the Federal Reserve made some horrible mistakes. It raised interest rates to defend the gold standard. This action kept the yield curve inverted throughout the period and cause the low end of investment grades to blow out to 10% yield levels and we just don’t see those factors in place like you can kind of see out here. The curve goes up to about 7% in the 25^th year, but again much lower levels, at a much lower credit area than what you saw during the depression years. In this regard, probably more similar to what you saw around 1990. Other more typical recessionary periods 1980. So we are seeing just typical recessionary stresses. It’s just been a very long time. People have gotten very used to very low rates and a lot of mis-pricings in the marketplace. But we just don’t have the factors in place that you saw during the Great Depression.

The Stock Market

Then why is the stock market rallying? Some is that financial relief coming off of banks as the government has poured in stimulus and in the stimulus has been dramatic in large. So to kind of touch on that a little bit, because this is what we’re seeing under the hood, what I have in my hand is the consumer expenditure survey. So the typical American household, and that’s from the Census Bureau, the typical American household spends about low over $7,900 on food per year, and that was roughly split between half at home in half out in restaurants. So, if you think about what’s happened from a stock market standpoint, is we basically have allowed large public companies like Amazon, Costco, grocers to cannibalize what otherwise would have been very much a service businesses and in many cases mom and pop businesses like restaurants. So, it’s not that this spend has gone away. It just got cannibalized and got cannibalized by large public companies, and at the same time what the government has then tried to do is to put money back in over here to help these restart now. I think that’s really the challenge to see. Does the money in fact shift back from these pools back over here? And to a degree, we think some will, and obviously a lot won’t. So, we kind of pump money in over here. We shifted a lot of money here and then we pumped a lot of money in over here, and so you’re seeing those effects kind of take place in the market. Seeing the same thing, kind of under the hood, even in areas like healthcare, right? Things that are very virus focused research companies that are focused on RNA and HIV related products because those are most closely related to this virus. From what we’re seeing in the academic literature. Versus things that are largely considered either more elective surgery items or things that were somewhat deferred, but we’re beginning to see the market also price those things coming back online because you can only defer certain types of procedures, cancer related procedures, dialysis procedures, things like that, right, you can only delay so long. So eventually these have to come back online and we’re just going to have to tolerate as a society, kind of the implications of what this virus really means.

So again, a lot of movement under the hood, but I think the big thing that’s kind of confusing is that initial reaction of money kind of shifting from these pockets over to a handful of pockets here that happened to be public companies in the marketplace from largely the private sector and then government trying to force money in over here as well. Hoping that we see some shift back in that. So again, from an economic in a market pricing standpoint, lot of movement going on, which can be kind of confusing. But there is some logic to it under the hood.

Final Thoughts

That’s pretty much it for the market update. High yield starting straighten out, we view that as a positive, but it is indicating probably a year or more of stress in the economy. But again, a lot of that’s reflected in pricing the market will begin to discount that. Volatility remains very high, so we expect to see still a lot of back and forth type activity as the market continues to sort this out. As always, we’re here to answer your questions. Feel free to reach out to us and will speak with you soon. Thank you, bye.

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