Much has happened in the two weeks since my last commentary: the global Coronavirus outbreak has gone from an epidemic to a pandemic, while 125 countries and territories take action to contain the spreading virus. In response, global stock markets have sold off, with stocks in the U.S. going from a correction of 10% from it’s all-time high on February 19 to a full-blown bear market. The yield on the bellwether 10-year U.S. Treasury Note has fallen from 1.25% to well below 1%, reflecting the global demand for the relative safety of U.S. sovereign debt. Adding to all this is the sudden drop in oil prices precipitated by the recent decision of Saudi Arabia to increase oil production.
These volatile market conditions reflect the mood many of us have of impending doom, the fear of the unknown that is symptomatic of every crisis we have ever faced as a nation. I mentioned in my last commentary that, in theory, investors should expect lower stock prices for companies that they believe will report lower earnings from the societal effects of the Coronavirus. The question is compounded by uncertainty about how long it will take to contain the virus and what will happen to the economy in the meantime.
This leads, in turn, to questions about the proper policy response from Washington, D.C. to prevent a potentially prolonged business slowdown from becoming an economic recession. The Federal Reserve recently implemented an emergency 50 basis point cut in the Federal Funds rate and the market is currently expecting the Fed to cut that rate to zero. The Trump Administration is considering fiscal policy measures, as well, that may target sectors of the economy with financial assistance.
Because of this uncertainty, we have taken the precautionary step today of liquidating most of the bond funds in our model portfolios and moving that cash to the safety of a U.S. Treasury-only money market mutual fund, which invests solely in short-term U.S. Treasury Bills. While the fixed-income component of our model portfolios was very high quality to start with, we felt that, in light of the extreme volatility in equities, we wanted to minimize the risk of any credit problems that may appear if, in fact, the economy slows significantly.
At times like this, it is often difficult for us to find any rays of hope. For some of us, it may bring back memories of the Great Recession of 2007-2009, which was accompanied by no small amount of gut-wrenching market volatility. It would be good for us to consider just how strong the U.S. economy is going into 2020, creating 270,000 new jobs in both January and February of this year, with an unemployment rate of 3.5%. The U.S. economy has led the world for several years now, with a recent estimate of first quarter GDP growth of 3.1%. Obviously, the Coronavirus scare will cause a hit to corporate profits, exactly how much is impossible to tell.
Our hope, of course, is that the virus will be contained quickly. If it is, the shock to the economy may be short lived, and it’s possible that corporate profits may rebound quickly. If they do, the stock market may quickly recover what it has so quickly given up. At this point, however, it is impossible to predict. As I wrote two weeks ago: no doubt we will continue to see a mix of positive and negative news about the Coronavirus as time goes on and investors should expect to see more volatility
 GDPNow by the Federal Reserve Bank of Atlanta
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Posted on Thu, March 12, 2020
by Kim Frank