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PODCAST: COVID-19 (CORONAVIRUS) RESPONSE AND MARKET INSIGHTS

Podcasts

  • Transcript

    Introduction:

    Welcome to the Bryn Mawr Trust Wealth Management podcast, providing commentary on what’s moving the financial markets, financial planning, and other timely business and monetary topics. Please welcome your host, Jennifer Fox, president of BMT Wealth Management.

    Jen Fox:

    Good morning and welcome to the BMT market insights podcast. This podcast is being recorded on March 9th as of 10:00 AM all insights are based on information available to us at this time. Jeff Mills, BMTs chief investment officer will be providing the details of the market insights, highlighting the impact of the Corona virus, the OPEC energy disputes, and the fed. Before we move to the market insights, I do want to provide an update on Bryn Mawr Trust response to COVID-19 the health and wellbeing of our clients, communities, and team members is foremost in our minds. As we carefully monitor the coven 19 outbreak, BMT is prepared for and continues to plan in the event an outbreak should result in a business interruption in any of the communities we serve. BMT has in place business continuity, pandemic and disaster recovery plans, which are active and updated as a regular course of our business.

    Jen Fox:

    In accordance with our internal corporate policies, we conduct regular tests of these plans including rigorous testing of our networks and operations, ensuring we are prepared in recent weeks. We’ve completed additional tests that included employees from across our organization working remotely without impact on our operations and service to your accounts. This includes the ability to meet virtually via conference calls or our WebEx service. If you visited a BMT facility, you may have noticed we’ve have hand sanitizers throughout the public areas. Our back office areas also have access to hand sanitizers to reduce the risk of germs spread. Our employees receive communications about the importance of frequent hand washing, the importance of not coming to work if they are experiencing any symptoms of illness, avoiding large crowds and physical contact. For example, handshakes. In addition, our cleaners are disinfecting our buildings including door handles and surfaces. These measures are the practical steps we should be practicing to STEM any passing of contagious germs. We understand the concerns that uncertainty brings and we want you to know that we are working each day to ensure we are as prepared as we can be to provide uninterrupted support to you for our clients. Please contact members of your relationship team if you have questions or need assistance. Our relationship team members will also be proactively reaching out to you.

    Jen Fox:

    So now Jeff, I’m going to turn it over to you to provide an update on our market insights.

    Jeff Mills:

    Sure. Thank you, Jen. Good morning everyone. Obviously a lot going on in the marketplace right now. So I’m really happy to have this opportunity, get to speak with everyone and at least put forth a point of view in terms of how we’re thinking about the situation as it develops. You know, as as I tend to, I’ll always start with a little bit of perspective and philosophy, but I think when thinking about an investment plan and creating that plan, I think the best thing that we can do is develop an understanding that things aren’t always going to go according to that particular plan. You know, the last weekly insight piece that we put out at the end of 2019 had a quote that said, expecting the unexpected is the best way to control our emotions when things don’t go as planned.

    Jeff Mills:

    We did a little bit of a retrospective on 2010 through 2020 and we talked about how there was a laundry list of things that the market just couldn’t have predicted beforehand. And we speculated that the next 10 years would probably include a another long list of events that we could not expect before the fact. Sadly we’re adding to that list more quickly than maybe we had hoped. But here we are. And I think that perspective certainly holds true today. And you know, really a good investment plan when we’re talking to our clients should never be predicated upon the market going up without disruption. That’s why we talk so much about asset allocation and yes, right now we’re experiencing extremes in the equity markets, in the bond markets and now in the oil market. So I think there’s an ample opportunity for pervasive fear.

    Jeff Mills:

    However, although the probability of an economic contraction I think has risen, I also do believe that additional stimulus that has and will likely be pumped into the system is likely to create a little bit of a Slingshot effect on the other side of all of this, perhaps lead into a more expedient recovery and would have otherwise occurred. I think the question right now is off what levels are we going to be recovering? Until then, you know, we really don’t think it’s sensible to try to trade around this market. It’s so volatile. There’s so much uncertainty. I think what is sensible is systematically reducing risk. So using days of market strength to try to rebalance portfolios that may have drifted above equity target exposures, for example. Really just to ensure that there’s no undue risk in our portfolios. I think that’s the easiest thing that we can do to try to manage risks and try to manage our portfolios and not make a bold market call in the face of so much uncertainty.

    Jeff Mills:

    I’ll, I’ll leverage the publication that we put out on February 27th. We, we use some information from a paper that I love called the seduction of pessimism. And really there is a certain amount of entry in being pessimistic. If you watch the news or you read the newspapers, that’s very clear. People tend to gravitate towards that kind of information. It’s really just how we are wired. But I love a quote from that and it says the difference between pessimism and optimism often comes down to time horizon. If a recession or downturn is the end of your show, you should be pessimistic. If it’s a bad commercial during an otherwise great episode, you should be optimistic. So I think before we even dive into what’s going on in the marketplace, I think having that perspective generally is a really important place to start. But with that, I will transition into where we stand today and some of the recent events that have transpired and how we’re thinking about them.

    Jeff Mills:

    So the latest bout of volatility as Jen and alluded to is triggered by OPEC’s inability to come to terms with an extension of output cuts. So specifically Russia said they no longer be adhering to production cuts and Saudi Arabia is of course, unlikely to bear the brunt of additional supply reduction. So what Saudi Arabia did was they announced a drastically lower official selling price in order to raise exports to the U S Europe, Asia, etc. So what we’re seeing this morning is the oil market is pricing in a significant increase in supply and oil prices are down over 20% this morning. Equity energy energies in the equity space down even more in many cases. It’s worth noting that oil prices were already falling in response to the perceived demand disruptions from coronavirus. So I think this simply adds to the pressure that we were already seeing in a, in a difficult environment for energy companies.

    Jeff Mills:

    You know, the concern for investors, I think at this point as it relates to this particular issue, is that lower prices are going to have knock on effects within credit markets. Some lenders may be particularly exposed to the oil patch and us economic growth could suffer given how important energy has become. The things like capital investment and employment within our country. I’m just looking at the high yield energy ETF HYG just as an example down over 5% this morning. Just it’s a really good example of the market stress and what the market’s trying to price in as it relates to the lower oil prices and how that might impact energy companies. I think we’re going to continue to closely watch credit markets to determine the extent of the weakness. I think if it’s just contained the energy, the overall impact is of course going to be far less negative.

    Jeff Mills:

    I think the fact that consumers benefit from lower gas prices does seem somewhat secondary at this stage, especially if demand actually is disrupted from the Corona virus. If people aren’t traveling, lower oil prices aren’t all that beneficial, at least in the very near term. In terms of the virus, I think things continue to progress here in the United States. Our view is, you know, obviously we’re not doctors or scientists, but the virus probably will continue to spread. I think you, if you listen to experts subject matter experts, they basically said that containment is off the table and now it’s just trying to mitigate the spread the best we can. I think from a pure investment standpoint, the debate abound around the actual severity of the virus or the mortality, you know, I think that’s also secondary, the fear that’s being created and the steps that are being taken to slow down the virus.

    Jeff Mills:

    I think ultimately that’s going to be the biggest impact on the economy and the markets regardless of whether this is analogous to the flu or whether it actually is something worse. You know, we’ve seen travel demand drop, we’ve seen events canceled, businesses are being disrupted to different degrees. So this is going to have economic consequences over the next couple of quarters. And unfortunately, I think, you know, one can’t really argue that the risk of recession has arisen at this point. Financial markets are attempting to price in this uncertainty, but as we’ve said in the past, that can be a very painful process. And I simply think that’s what we’re living through today. I was thinking this morning though about recession risk and what we may or may not want to do in light of that. And even if we do have a recession and in particular in this instance, the snapback might mean that it’s really not worth worth making massive shifts in asset allocation.

    Jeff Mills:

    You know, I talked about the potential stimulus that could be added to the economy. So even if we knew with 100% certainty that economic growth was going to contract over the next couple of quarters, I think the nature of this slowdown in the stimulus being introduced might mean that trying to get in and get out just at the right time plus paying taxes may not be worth it if the recovery is as robust as I think it might be given the amount of stimulus put into the system. You know, as I said, there’s no doubt that monetary and fiscal authorities are going to respond to this crisis in a dramatic way. I think large amounts of stimulus will be introduced to the system and that is going to fuel the fire of the recovery. I also think the good news is that the virus timeline [inaudible] timeline is finite.

    Jeff Mills:

    We don’t know the exact duration, but we know that it will end. And the situation with oil markets is very likely to stabilize over the next number of weeks. A OPEC does meet again later in the month. So I think there could be additional discussions there. And quite frankly, Saudi Arabia is fiscal break even for the price of oil is over $80 a barrel. And I think especially given the recent IPO of their current of their crown jewel, Saudi Aramco I would be surprised if they were willing to crush the price of oil for an extended period of time. So once we have a little bit of visibility on the virus once oil markets stabilize, I do think that the stimulus that is being put into the system will be felt both in the real economy and financial markets. And this has faded to the background a little bit, but I do think that Joe Biden’s moved to the head of the democratic pack also does diminish some of the risks that investors would have otherwise had to deal with all the way until November.

    Jeff Mills:

    If a different candidate was more probable in terms of the democratic nomination. So in combination, certainly some things to worry about in the near term. But I do think that the recovery is imminent and will be supported by the fiscal stimulus and monetary that is likely to be introduced. I did want to give a little bit of perspective in terms of, of the market and where I think we might go from here. But first let’s not forget one thing. We’re starting from an unusually good place. Inequities. We were at all time high equity prices. We were trading at 19 times next 12 months. Earnings. again, something we talked about in the publication we put out a couple of weeks ago, but as the phase one trade deal was signed, as Brexit was resolved, as the fed promised to keep interest rates, low market risks really seem to go away.

    Jeff Mills:

    And the S and P 500 made 37 new all time highs between October of 2019 and the recent highs we experienced in 2020 so I went back and looked at the past decade from 20 Oh nine to 2019 and the average annual total return in the S and P 500 was over 15%. So we had been living the good life for a really long time and portfolio values were probably a lot higher today then they would be in an otherwise quote unquote average return environment depending on when you start. So if you go back to the 50s, the 20s, even before that, the long-term average total return for the S and P 500 each year, it’s somewhere in the 10 to 11% range. So you’ve been doing quite a bit better than that for a long time. So let’s not lose sight of that. I know the market moves are dramatic and it feels really painful.

    Jeff Mills:

    But portfolio values have benefited from higher than average market returns for quite some time. That said, I do think that because of where we started from, there could be additional downside in the near term and I think we all should probably try to mentally prepare ourselves for that. We don’t know for sure. Obviously predicting short term market fluctuations is exceedingly difficult, but I did pull some data to try to give us a little bit of perspective. So if you look at the last three meaningful market correction, so that would be in 2011 2015 2016 and then again in 2018 so the PE ratios at the bottom of those corrections were 10 times 14 and a half times in 13 and a half times. So today the PE ratio is still 16.6 times. That was before the market opened this morning. So it may be a little bit different now, but still 15% above what we’ve seen in recent market corrections.

    Jeff Mills:

    And that’s using 14 times is the average. I think 2011 was maybe a little bit of an outlier just given, we were still so close to the market recovering from the financial crisis, but assuming earning stay about where they are on a forward basis. And I think that’s probably also a fairly big assumption. A 14 times PE multiple would bring us to 2,500 in the S and P 500. That would be about 16% lower than where we closed on Friday and that would be about a 25% decline from the highs. So certainly scary, extremely uncomfortable, but not out of the realm of just given the valuations that have enticed investors to come back into the market during the recent episodes of volatility that we’ve experienced throughout this bull market. I also do think on top of that, what we’ve seen in the credit markets is illuminating.

    Jeff Mills:

    I’m looking at a chart in front of me here and it looks at B AA corporate credit spreads versus the PE ratio of the S and P 500. And the moral of the story is, is that credit spreads and market valuations tend to move together. When credit spreads widen out, investors in the equity markets are willing to pay less for their equities because they see perceived risk rising in the credit markets. So what we’ve seen is be AA credit spreads increase fairly dramatically over the last number of days, maybe week. And it has decoupled a bit from where current equity valuations are. So what I mean by that is PE ratios have not kept up with the move in credit spreads. So higher credit spreads, would forecast a little bit of a lower PE ratio than the market is currently trading. So I think we all need to be aware of that as well.

    Jeff Mills:

    In terms of where the market could go in the near term. Let me just move on to the interest rates and then just wrap up with kind of where I think we are sentiment wise in the marketplace. But you know, the interest rate move really has been staggering. And I, I’ve found myself staring at my country, my computer screen, just sort of in awe of the levels that we’re seeing. I started my career in fixed income and frankly never thought I would see some of the numbers that I’m looking at. The 10 year treasury yield was as low as just about 0.4% this morning. The entire yield curve is below the current fed funds target rate. And if you adjust those rates for inflation real yields are also negative across the curve. So the bond market is clearly pricing in a pretty severe economic slowdown and basically rock bottom interest rates for the next 30 years.

    Jeff Mills:

    Whether that’s correct or not, we don’t know at this time. But like I said, I do think there are actions the fed can take in order to try to mitigate some of this economic slowdown that the fixed income market is currently pricing in. I think that they, they probably will cut rates at their next meeting. It’s interesting. Every time the fed has cut rates in between regularly scheduled FOMC meetings, it’s cut again at the next meeting and it’s almost been by about that same amount. So if history is any guide, they’re likely to provide additional support at the next meeting. I also think they can do things in terms of increasing liquidity in the market. They can encourage banks not to hoard cash. By pulling different regulatory mechanisms. They can issue additional for guidance about interest rates. They could start QE again.

    Jeff Mills:

    I don’t think that that would happen until their target rate gets much closer to zero. I’m really where I think they could have the most impact is on the regulatory front in alleviating some on borrowers most directly affected bye. What’s going on either with oil now or the Corona virus. They can reduce bank capital ratios if they lend to certain areas of the economy. This is not unprecedented. They’ve done it during natural disasters in the like. So there are other lever levers to pull and I think they may do that in, in the coming weeks and months, as I said before. And ultimately I do think that finds its way through the real economy once we get past some of the uncertainty. Just from a technical perspective, I think everybody’s always curious. You know, where is the bottom? I talked a little bit about from a valuation perspective where investors have come in in the past.

    Jeff Mills:

    But I do think there are other areas that we can look at to try to give us a sense for how close are we to a bottom. Is there more downside? And I think that the bottom line is that we are making progress toward getting toward a market low, but I don’t think there’s sufficient evidence to say that we’ve reached it yet. So it does corroborate the, the valuation analysis. You can look in the options market as, as one example. So investors are buying a lot more put options than they are call options right now. So that is a clear expression of fear and concern. And oftentimes when that ratio of put buying to call buying gets up into that 95th percentile, which is where we are today. It’s a pretty good sign that enough beer is being priced in financial markets and you may be getting closer to a bottom.

    Jeff Mills:

    So I would say that is, that is a good sign as it relates to fear being a Contra indicator and us being closer to a bottom than further away. One area where I think we might need to see a little bit more stress is just in positioning. You can look at CFTC. Net positioning is I think it’s a really good proxy for hedge funds and other speculators in the marketplace. Usually you see fairly dramatic net short positioning near big market bottoms. So again, at the end of 2018 we saw it in 2015 and 2016 in 2011 positioning got very net short. Today we’re not quite there yet. We’ll get some more data this week. We’ll see how positioning shakes out. But I do think that you might need to see a little bit more net short positioning in the marketplace to make me feel like we’ve, we’ve gotten closer to the actual bottom.

    Jeff Mills:

    Mmm. One other thing I’ll highlight, which is interesting just from a sentiment perspective. So those are some examples of actual portfolios and where money is moving. I would say generally speaking, telling us that we’re getting close to a bottom but not there yet. And I would say sentiment or survey measures it would be telling us something similar. So investor intelligence is a group that does a sentiment survey on a weekly basis. They ask are you bullish, are you bearish? And they just calculate the percentage of investors who respond to each. Typically you have a pretty widespread between those that are bullish, those that are bearish, usually quite a, quite a bit more investors are bullish. Then bearish, what you typically see at market bottoms, and again, we saw it very clearly in 18, 15, 11 is actually the number of bearish respondents exceeds the number of bullish respondents.

    Jeff Mills:

    So we have not seen that yet. We’ll get more data here this week as well, but I would expect sentiment via survey measures to also have to get a little bit more negative for us to be more more certain that we’re, we’re at a bottom, ah, very finally. Things that we’re watching going forward. I think first and foremost, and it’s extremely simple thing to watch is a jobless claims. You know, you can’t really find any examples of recessions without people getting fired. So claims are going to be really important. The unemployment claim, the unemployment rate starts to rise. Initial unemployment claims start to rise before recession almost by rule. And what we’ve seen currently is unemployment claims and the unemployment rate remain very low. So in thinking about that increased probability of a potential economic contraction, one of the things that I’ll be watching very closely is simply the, the labor market and looking at initial unemployment claims.

    Jeff Mills:

    If I start to see that rise, I would be more concerned that that higher probability of a recession could actually manifest in an economic contraction. So far, we have not seen evidence of that. Additionally, I would look at housing. So I think refinance activity, it’s the most clear and direct mechanism whereby lower interest rates can actually have an economic impact. And it’s also a good read on how the consumers are responding, the lower interest rates. So if you start to see refinance activity pick up that would be a good thing as it relates to the transmission mechanism of lower interest rates into at least parts of the real economy. Clearly we’ll be looking at interest rates. We would want to see some stabilization in the treasury market. We’ll be watching the high yield market to see if credit stress is contained to energy or whether we start to see it in other places.

    Jeff Mills:

    We’ll be looking very carefully at the yield curve. The yield curve is actually steepened as interest rates have fallen and you usually see an inversion of the yield curve before recession. So we watching that and very finally just clues about the virus and trying to piece things together. Our school is closing. Our travel is being restricted further or our company’s making announcements that we feel like might have a further impact on the economy. I think all of those things taken in combination will help us in the road forward because there is still is so much uncertainty. So I think for now that’s our general point of view. I hope that was helpful. We’re always here to answer questions or concerns as are our clients investment advisors. So please, please keep an eye out for additional publications from us and we will try to continue to communicate as things change in the coming days and weeks.

    Jen Fox:

    Jeff, thank you for such an important update given the markets where they are today and a very fluid new cycle at Bryn Mawr Trust. Our client commitment is to connect you to life fulfilled and we do that by leading with advice and planning to activate the best in every relationship. And the way we do that is by bringing all the resources of Bryn Mawr Trust to you, your family, and your overall relationship. I do want to reiterate what Jeff said is that please do not hesitate to reach out to your relationship team with any questions or contact us directly. Thank you and have a great day.

    Closing:

    This has been a production of Bryn Mawr Trust. Copyright 2020 visit us online at bmt dot com slash wealth. The views expressed here in are those at Bryn Mawr Trust as of the day recorded and are subject to change without notice. Guest opinions are their own and may differ from those of Bryn Mawr Trust and its affiliates and subsidiaries. This podcast is for informational purposes only and should not be construed as a recommendation for any product or service. BMT Wealth Management provides products and services through our bank corporation and its various affiliates and subsidiaries which do not provide legal tax or accounting advice. Please consult your legal tax or accounting advisors to determine how this information may apply to your own situation. Investments and insurance products are not bank deposits, are not FDIC Insured, are not backed by any bank or government guarantee and may lose value. Past performance is no guarantee of future results. Insurance products not available in all States. Any third party trademarks and products or services related thereto mentioned in this podcast are for discussion purposes only. Third party trademarks mentioned in this podcast are not commercially related to, or affiliated in any way with BMT products or services. Third-Party trademarks mentioned in this podcast are not endorsed by BMT in any way. BMT may have agreements in place with third party trademark owners that would render this trademark disclaimer, not relevant.

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