May 2020
US Economy: Covid-19 wreaks havoc.
First-quarter 2020 US GDP contracted an annualized 4.8%, as the economic impact of Covid-19 was manifest broadly in economic data. Consumer spending, which accounts for 67% of US GDP fell 7.6%, driving the decline. Since the middle of March, more than 30 million Americans have filed new unemployment claims.
US Stocks: Optimism fuels rebound.
Despite weakening economic data, US equities rebounded strongly in April. Investors cheered Fed and federal government support for consumers and businesses, along with signs of Covid-19 containment and new treatment options. Growth stocks such as Amazon (+23% in April) continued to outperform, finding fewer headwinds.
Foreign Stocks: A lesser bounce.
Facing the continued headwind of a strengthening US dollar, non-US equities also rebounded in April but trailed US peers. Attacked by the virus during a time of relative economic weakness, the Eurozone is struggling to agree on virus relief efforts, while Asia was buoyed somewhat by prospects for continued recovery in China.
Fixed Income: Liquidity returning.
Fixed income markets seemed to repair after the Fed acted to ensure market liquidity and Congress passed the CARES Act. Both investment-grade and high-yield corporate bonds returned 3% to 5% in April. Concerns over the need for additional government support pushed municipal bonds back into negative territory year-to-date.
Real Assets: Oil whipsawed.
Futures contracts for May delivery of US-produced crude oil priced as low as negative $37, as storage capacity appeared to have reached its limit while supply continues to outpace demand. Signs of growing global demand and voluntary production cuts from all major global producers boosted oil prices back to nearly $19/barrel by month-end.
Alternatives: Solid performance.
Hedge funds trailed equities but eked out returns better than bonds, generally. Unsurprisingly, market directional strategies outperformed alongside the recovery in the equity markets. Meanwhile, relative value strategies also performed well as investors seemed to better differentiate idiosyncratic risks among companies.
Equities Total Return
| APR | YTD | 1 YR | |
|---|---|---|---|
| U.S. Large Cap | 12.8% | (9.3%) | 0.9% |
| U.S. Small Cap | 13.7% | (21.1%) | (16.4%) |
| U.S. Growth | 14.8% | (2.3%) | 9.5% |
| U.S. Value | 11.3% | (19.1%) | (11.9%) |
| Int’l Developed | 6.5% | (17.8%) | (11.3%) |
| Emerging Markets | 9.2% | (16.6%) | (12.0%) |
Fixed Income Total Return
| APR | YTD | 1 YR | |
|---|---|---|---|
| Taxable | |||
| U.S. Agg. Bond | 1.8% | 5.0% | 10.8% |
| TIPS | 2.8% | 4.5% | 9.5% |
| U.S. High Yield | 3.8% | (9.8%) | (5.3%) |
| Int’l Developed | 1.4% | 0.4% | 4.4% |
| Emerging Markets | 2.5% | (2.0%) | 3.7% |
| Tax-Exempt | |||
| Intermediate Munis | (0.4%) | (1.2%) | 1.9% |
| Munis Broad Mkt | (1.5%) | (2.2%) | 1.9% |
Non-Traditional Assets Total Return
| APR | YTD | 1 YR | |
|---|---|---|---|
| Commodities | (1.5%) | (24.5%) | (23.2%) |
| REITs | 8.8% | (16.7%) | (8.3%) |
| Infrastructure | 9.4% | (22.5%) | (14.8%) |
| Hedge Funds | |||
| Absolute Return | 2.4% | (3.5%) | (0.2%) |
| Overall HF Market | 2.7% | (4.3%) | 0.7% |
| Managed Futures | 1.1% | 0.6% | 2.0% |
Economic Indicators
| APR-20 | OCT-19 | APR-19 | |
|---|---|---|---|
| Equity Volatility | 34.2 | 13.2 | 13.1 |
| Implied Inflation | 1.1% | 1.6% | 2.0% |
| Gold Spot $/OZ | $1687 | $1513 | $1284 |
| Oil ($/BBL) | $25 | $60 | $73 |
| U.S. Dollar Index | 124.5 | 116.8 | 114.8 |
Our Take
Record unemployment claims, as well as plummeting manufacturing and retail sales underscore what we communicated last month: The US economy is in a recession, and it is likely to get worse before it gets better. Covid-19’s impact on the economy did not arrive until early March. Consequently, based on what we know right now, Q2 GDP is likely to show an even sharper contraction.
We still believe the duration of the recession depends on how well the virus can be slowed and how quickly normal activities are resumed. Peaks in US Covid-19 cases and deaths in the last few weeks give hope we have begun answering the first question. As to the second, even as some states have started the reopening process, consumer and business activity of most varieties will still lag. This leads us to believe that while the recession itself might be short-lived, the recovery is likely to be drawn out with the potential for false starts along the way should a second wave of infection take hold.
One Step at a Time
The financial markets rebounded swiftly in April even in the face of bleak economic data. Key to this was the general restoration of confidence, liquidity, and new issuance in the credit markets – although not uniformly – through Fed support and the CARES Act.
Even if financial markets appeared to recover in many respects in April, we believe investment risks and volatility warrant maintaining a cautious stance at this point. That investor confidence seemed to rebound so strongly without better answers to questions about testing, treatment and a vaccine, let alone corporate earnings, gives us pause.
At LNWM, we are pleased to have made several adjustments to portfolios to reduce risk as the economic environment deteriorated. Those recommendations generally espoused favoring high-quality fixed income at the expense of equity investments, particularly non-US holdings. That said, our focus has begun to shift to the next stage of 2020 and the new normal after the country reopens. To that end, we have been identifying opportunities on the horizon to take advantage of unfairly battered corners of the markets to generate strong risk-adjusted returns.
