Market Recap

Posted on January 31, 2020 by Gemmer Asset

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Economic Backdrop


Before we get to the Coronavirus discussion, a few macro notes.




We are still in 4th quarter earnings season. Key observations:


– 38% of S&P 500 companies have reported Q4 earnings


– 73% beat EPS estimates, surprising positively by 4%


– EPS growth is coming in at +6% y/y. All sectors except Energy and Materials are delivering positive earnings growth


– Sales growth is solid. 64% of companies are beating estimates



So far it is shaping up to be a better than expected earnings season.


4th Quarter Economic Growth


The government released their first estimate on fourth quarter GDP growth. It was pretty much as expected. Growth came in at +2.1%, driven in part by accelerating government spending. Consumer spending slowed to +1.8% from +3.2% in the third quarter. This last number got a lot of attention. But as you can see from the chart below, the 3rd quarter consumer spending number seemed unusually strong.



No surprises here. The focus is now on how first quarter growth will be impacted by the Coronavirus.




There was also some housing data this week. The one that stood out concerned mortgage applications. They increased 7.2% from one week earlier, as you can see below.



Of course, applications are up due in large part because rates are attractive. We are almost back to the lows last seen in 2016 on 30-year mortgages. We aren’t that far away from all-time lows.



As Bloomberg notes:


“But the decline in mortgage rates since their late 2018 peak has dramatically changed the affordability equation. The average 30-year fixed mortgage rate in the U.S. has fallen from 4.94% in November 2018 to 3.51% today. For buyers making 20% down payments on a $300,000 home, this means that a monthly payment on a house purchased today would be about 12% less than it would have been a little more than year ago. Factor in average wage growth of 3% or more for a prime-age worker during that period and it means buyers have 15% more purchasing power than they did at the end of 2018.”


It’s going to be an active spring selling season by the looks of it.


Fed Surprises No One


The Fed met this week and chose to leave the funds rate target range at 1.5-1.75%, as widely expected. Comments regarding both growth and inflation in the statement were mostly unchanged. They did briefly acknowledge the uncertain impact on growth from the Coronavirus, but it was almost in passing.


However, the market has moved pretty aggressively to price in rate cuts in 2020, triggered in part by the renewed inversion of the yield curve (at least between 10-year and 3-month rates). As you can see below, the risk asset sell-off this week pushed the spread negative again.



As it stands, the market thinks there is only a 10.6% chance of rates staying static this month.



Virus Uncertainty


Of course, the reason for the sell-off in risk assets and the rising odds of a rate cut tie back to the uncertainty around the Coronavirus. (known as “novel coronavirus” or “2019-nCoV”). As of Friday morning, the virus had killed 215 people and infected 9,802, as you can see below.



Worryingly, the virus seems to transmit more readily between humans than SARS, a similar coronavirus that killed almost 800 people after it originated in China 17 years ago. But so far the new virus is less virulent than SARS, which killed 10% of those infected.


In terms of transmission, the virus seems to be spreading faster than the SARS virus, as you can see below.



But in reality, all the numbers have to be taken with a grain of salt. It is way too early to make any real conclusions. To quote The Economist:


“The greatest uncertainty is how many cases have gone unrecorded. Primary health care is rudimentary in China and some of the ill either avoided or were turned away from busy hospitals. Many more may have such mild symptoms that they do not realise they have the disease. Modelling by academics in Hong Kong suggests that, as of January 25th, tens of thousands of people have already been infected and that the epidemic will peak in a few months’ time. If so, the virus is more widespread than thought, and hence will be harder to contain within China. But it will also prove less lethal, because the number of deaths should be measured against a much larger base of infections. As with flu, a lot of people could die nonetheless. In 2017-18 a bad flu season saw symptoms in 45m Americans, and 61,000 deaths.”


But the lack of data doesn’t stop analysts from thinking about the economic consequences. To quote BCA:


“Many commentators have drawn comparisons between today’s outbreak and the SARS epidemic in 2003. The SARS episode imposed a significant but short-lived economic toll on the affected countries. While Chinese GDP growth fell to 3.4% in Q2 of 2003, it surged back to 15.7% in Q3, leaving the overall level of GDP down about 1% for the year as a whole relative to what would have transpired if the virus had never emerged.1 The broader Asia-Pacific region experienced a hit to growth of around 0.5%. In contrast, growth in developed economies was barely affected. Even in Canada, where 44 people died from SARS, the outbreak shaved only around 0.1% from the level of GDP in 2003, according to the Bank of Canada.”


For what it is worth Goldman took at stab at estimating the economic hit.


“Barring a significant change in the news flow around the virus itself, we estimate a 0.4-0.5pp drag on US annualized growth in Q1 followed by a subsequent gradual rebound boosting Q2 growth by 0.1-0.2pp and Q3 by 0.3-0.4pp, leaving only a small net drag on US full-year 2020 growth of around 0.05pp. The drag on growth operates mostly through lower tourism from China and lower US goods exports to China. Following the latest developments, and the releases of the Q4 GDP and the December personal income and spending reports, we are lowering our Q1 GDP growth forecast to 1.7% (qoq ar) (from 2.0% previously) but are lifting our Q3 forecast to 2.7% (from 2.5% previously).”


While the economic impact has been muted in the past, at least in the West, markets tend to sell first and ask questions later. As you can see below, in the last four historical examples (SARS, Avian Flu, Swine Flu, and Ebola) the market has sold off for the first four weeks or so until it is clear infection rates are slowing. By the end of two months the worry has passed.



J.P Morgan developed the following table. To quote from their piece:


“While the health scare over the coronavirus outbreak is a serious concern, we note past pandemics haven’t typically led to sustained selling. Examining past epidemics (see Table below), the more equities fell initially, the more they subsequently rebounded. These episodes did not lead to a prolonged period of selling, and emerged as buying opportunities within weeks.”



But all of this assumes the Coronavirus follows past patterns, which may or may not be the case. Regardless, this site seems to have the most current data I’ve been able to find on infection rates, etc.


Super Bowl and Super Ticket Prices


Apparently, there’s a game this weekend. Who knew? Anyhow, prices for tickets are nuts. A couple days ago they were running at about $8,000 each. Each! Now this is tracking above the 2015 game at the same date, but haven’t spiked the same way yet.


$8K to go to a stadium in the middle of a viral outbreak? Watching the commercials at home sounds like the way to go!!


Have a good weekend.





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