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Market thoughts on the Covid-19 Christmas lockdowns?


SharperDingaan
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We know that it takes roughly 4 weeks from contracting Covid, through to hospital ventilator (2-week incubation, 2-week home>hospital transition). However, the good news is that of every 100 people infected, only a small portion end up on a ventilator. How many, largely depends on the demographics and socio-economic classes of the population infected.

 

We know that a vaccine takes between 3-4 weeks to do its thing (3 weeks between shots, 1 additional week for reaction). How long depends on the vaccine, but most would expect a minimum 2 weeks. Meaningful vaccination does not start until early January 2021. Meaningful benefits will not start to show until early February.

 

We know that self-isolation isn’t very practical over a festive season, and that Covid infection WILL swamp much of the hospital sector through January/February. Hence hospital staff vaccinated now, to ensure their availability. Augmented with widespread repeat lockdowns from mid December to mid January in many places.

 

US stimulus is not really practical until late January, it will take a few weeks to show its benefits, and Winter is traditionally a slower economic time in North America. Slower still when in lockdown, and with less activity – less demand for anything related to it. Most would also expect the UK to be leaving the EU without a deal, and heightened related uncertainty.

 

We find it hard to see how WTI stays at USD 49/bbl., and would expect a temporary decline of at least 15-20%. Hard to see the major F/X rates maintaining their current trends as well. Obviously, if it comes to pass, we will do very well – if it does not, our consolation prize is still pretty good!

 

What are your thoughts? As we would seem to be coming up on another once-in-a-lifetime opportunity (hopefully!), about on-par with the daily 1700-2000-point changes in the DJIA that we saw earlier this year.

 

SD

 

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I hope so. Ive pared down more than I can remember in a very long while and even been putting on a bunch of shorts. Not so much lockdown related but valuations in some places are obscene and this is coupled with massive exuberance and even from many sophisticated investors, a lot of complacency.

 

I think theres also the fact that many people simply won't listen to holiday lockdown orders. But business wise, the mid December to mid January period is always(at least in US) pretty subdued. So vs March which is just kind of normal period, holidays are different.

 

I also think the market has largely caught on and realized that what happens in the next couple months just straight up doesnt matter very much bigger picture; granted there are some exceptions. WTI is clearly much more short term demand sensitive.

 

That said, wouldn't mind a VIX spike to 50 and widespread 10-20% correction. But in terms of positioning, most reasonable investors and especially managers of other peoples money I think have locked in their nut for the year. Myself, I'll be putting the finishing touches on in the next two weeks but am largely in the position I desired to be going into year end. I'm taking a 10 week vacation in South Florida for the first couple of months in 2021. So whatever comes, I'm good.

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We're sitting on the largest cash position we've ever had. 

 

It would seem that most see 2021 as a very good year (as we do), but not necessarily the timing within the year.

There are a number of very solid o/g entities in the Alberta oil patch, where an opportune purchase could easily boost the otherwise 2021 return by a good 30%+. All high producers, with excess FCF in the hundreds of millions (CAD), at todays price deck  ;)

 

SD

 

 

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The market is as bulled up as I've ever seen it considering we're in a recession and large companies are laying off employees. 

 

Sentiment gauges are off the charts in the greed territory.

 

All eyes on the stimulus bill, I guess.

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.... I'm taking a 10 week vacation in South Florida for the first couple of months in 2021. So whatever comes, I'm good.

 

Greg,

 

With, or without,  your decises at hand? [which to me seem to be the definition of a vacation, or perhaps not]?

 

2020 was unlike any year Ive experienced before. Like being in the Matrix movies, where you have so many different things coming at you all at once, in super high velocity. The mental exercise of process it all, individually, collectively, etc...literally nonstop from January-December and on the fly determining what was garbage, what was noise, what was relevant, etc. Between primaries, covid, politics crap, policy decisions, more covid, elections, post election....the byproduct was, IMO, more investment opportunities and especially trade setups than one could have ever dreamed of. But this amalgamation of opportunity does come at a cost. Ive been plugged in like never before and now heading into year end, see the opportunities waning. My family is at a unique point where wife and I can 100% work remotely(if need be), and the kids are sub 5 so the opportunity to do something cool without interfering with school is there. I am beyond pleased with how I'm exiting the year from an investment/trading perspective. With the current market landscape I am in no hurry to do anything. So its time to take advantage of other opportunities for a bit.

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In terms of where the market is going to trade in the next month or two i really have no idea. However, when i look out 3-6 months i see lots that tells me stocks will be higher, especially economic sensitive stuff:

1.) vaccine is now in arm

2.) lots more vaccine news from other manufacturers is coming over next month or two and there is a good chance more vaccines will have good results/efficacy and be quickly approved

3.) US stimulus: looks like something will be approved. Most other governments continue massive fiscal spending and this will continue in the coming months.

3.) the fed will remain highly accommodative for all of 2021 and perhaps longer - this may be the single most important driver of stock prices the next couple of years

4.) the more people stay at home the more they seem to want to trade stocks; lockdowns might be bullish for stocks as people need to do something to keep busy

5.) asset allocation tailwinds: more portfolios will continue reducing bond % allocation and increasing equity % allocation

6.) businesses investment: businesses can now see the light at the end of the tunnel. They will start to spend to be in position to take advantage of the improving economy. This will be largely unseen but could be a significant tailwing starting soon.

7.) housing is on fire with no end in sight (thank you historically low interest rates): this is a big part of all economies and will be an engine of economic growth, especially in the US where they under-built for years

8.) lots of sectors in the stock market remain cheap (most are economically sensitive areas) and should outperform averages in 2021 - do people really think energy, resource, financials, pipelines, tel co’s are expensive right now?

9.) economic recovery will be global in nature; not one or two countries/regions (as is usually the case) but every country at the same time. Could be large. (In the near term China’s economy already looks to be performing well and may well lead the global recover this time around.)

10.) likely record pent up demand with consumers: economic recovery could be historic in size. People want out of the cage. In every country across the globe.

 

My guess today is people are way underestimating the speed and strength of the economic recovery we are going to see in 2021 :-)

 

Now will markets fall in the coming weeks/months? Sure. A 20% decline would not shock me. However, i do expect economically sensitive stocks to do very well over the next year. Perhaps we see a rotation from Zoom type stocks to resource/financials with the averages up single digits but big moves in different sectors.

 

Just like in the late ‘90’s we might see year after year of higher stock market completely catching investors off guard (that is the risk of moving to cash to buy the dip). Back then it was .com stocks - they kept going up year after year after year. Made no sense but it happened.

 

What happens when global banks keep interest rates crazy low for years? Everyone wants to know the answer to this question. Perhaps we get historically high prices in financial assets: stocks real estate etc. And perhaps we are no where near ‘high’ yet... now let that thought blow your mind :-)

 

History does not repeat but it often rhymes :-) 

 

PS: in terms of the near term challenges with the virus, my guess is we get people slowly changing behaviour and it would not surprise me if we are at or close to peak numbers. People know the routine: wear a mask; socially distance. The holidays will just extend the peak; not result in catastrophic numbers like we saw in South Korea, Iran or Northern Italy in March/April. With every week that passes we are one week closer to recovery... soon we should see case count and then deaths fall and vaccinations shoot higher... this spring could be the inflection point when seasonality becomes a tailwind in the pandemic fight.

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I could well see a scenario where the economy will recover and the stocks will go down because of higher interest rates. Actually interest rates for treasuries have already been slowly rising - they are back to late February/ early March levels and may go up further.

 

Or perhaps stocks go down just because people have other things to do than gambling the stock market.

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Stocks fall when the bus that you didn't see hit you or when interest rates rise.

 

Only risks on the horizon IMO are Jan 5 runoff election in Georgia or some geopolitical event: reaction to Russia hack, Brexit, China territorial conquest.

 

So I remain bullish until Jan 5, then I will have cash and/or puts.

 

Cardboard (I like even more signing since it pisses off DooMoron)

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I’ve had difficulty buying in the recent 2 months. Everything just looks really expensive. I have cash + highly appreciated positions. I may sell and harvest some gains to redeploy into better priced companies but those are getting tough to find.

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Guest cherzeca

I see 2021 as being roughly a continuation of the past three years...generally positive, with a few big drawdowns. for the past 36 months I had 11 negative months.  my two biggest delta months were negative however.  so steady as she goes, cautious, lots of cash, deploy cash when the big negative event hits, and try to take profits on recovery to recharge the process. 

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If i had to identify a big risk (something to stop the bull market in its tracks) i would say the virus mutating into a more lethal version that the current vaccine’s are not effective on. (Not that i am trying to depress everyone :-)

 

I think people are way underestimating the Fed and its commitment to higher asset prices in 2021. No way they allow a big stock market correction (which could leach through to consumer confidence and spending and the larger economy etc).

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Theres still some stuff thats reasonable of course. The steady as she goes stuff will always be fine. But the difference between that stuff and the majority of lets say the Nasdaq 100 or S&P 500 is wider than Ive ever seen. You've had people whining about "valuations" for the better part of the a decade now. And most of it has just been nonsense, incompetence, or jealousy fueled. We haven't until recently had any real, widespread euphoria or markers consistent with previous bubbles. Now there are plenty, including Tesla being worth more than BRK...again, among many other red flags. Not to mentioned sentiment. No ones bearish or scared of the market anymore. If there was ever a blow off top type setup, this little post election run would be a pretty good candidate.

 

I'm still in all my core longer term stuff. Those are largely in the right places. RE, financials, etc....stuff thats not by any stretch expensive. But most people arent buying that kind of stuff anyway.

 

 

Anyway, who knows. The beauty of the market is it can be unappealing today and then something falls out of the sky tomorrow.

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If i had to identify a big risk (something to stop the bull market in its tracks) i would say the virus mutating into a more lethal version that the current vaccine’s are not effective on. (Not that i am trying to depress everyone :-)

 

I saw a headline out of england hinting exactly that...

 

Also I agree w/ Greg on the valuation difference between "blue chips" and the market darlings. It's huge.

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If i had to identify a big risk (something to stop the bull market in its tracks) i would say the virus mutating into a more lethal version that the current vaccine’s are not effective on. (Not that i am trying to depress everyone :-)

 

I saw a headline out of england hinting exactly that...

 

Also I agree w/ Greg on the valuation difference between "blue chips" and the market darlings. It's huge.

 

https://www.dailymail.co.uk/news/article-9054817/Whats-TRUTH-Englands-new-strain-coronavirus.html

 

I think the high likelihood here is that its just these cocksuckers doing what they do best...

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I think it is pretty likely that Europe will experience a double dip recession. Lockdowns have been extended in many countries and I think a lot of the governments are going to follow the UK and basically say "Suck it up for a few more months because once enough people have been vaccinated life will be able to go back to normal". The US might escape a double dip recession but economic data is going to be pretty bad for the Q4 20 and Q1 21.

 

For the most part I agree that because markets are forward looking they will be able to look past a few bad quarters with the expectation of a very strong rebound driven by pent up demand. But I wonder if that changes if it turns out that a) the bad quarters are much worse than expected and b) the rebound is a lot more modest than expected? It takes some time for expectations to meet reality but I can envision a scenario in which declining earnings estimates drive down stock prices.

 

For example Goldman Sachs has recently increased its S&P 500 earnings estimates to $175 for 2021 and $195 for 2022 and have a 2021 price target of 4300 based on 22x expected 2022 earnings. Other investment banks are similarly bullish. If those estimates come down during 2021 you'd expect stock prices to follow to some extent.

 

And if the demand recovery is as robust as markets seem to expect then I think that we could see an inflation shock in the second half of the year. Demand will recover a lot faster than supply thanks to fiscal largesse, pent up demand, and release of cautionary savings. It will take a lot longer for businesses to return to full capacity especially because they will be busy paying off debt and will require greater confidence of a lasting recovery before they are willing to make big investments and hire back staff. Commodity prices are increasing which will feed into costs and prices. While this should only be a temporary phenomenon and demand and supply will return to balance in 2022 it could be enough to change longer term inflation expectations and that has a habit of being self-perpetuating. The Fed will be slow to react due to their new average inflation targeting regime which will probably make things worse. A lot of the seemingly unlimited powers of the Fed rests on the belief that inflation is dead. So when that turns out to be untrue that could reset markets in a big way. Good for value. Not so good for growth stocks and IPOs on nosebleed valuations based on distant cash flows.

 

Big Tech are obviously a big factor in the market and have done the heavy lifting in the incredible rally this year. The acceleration of a secular shift towards remote working and online commerce not to mention the near elimination of their competition by government fiat has more than offset the impact of the economic recession. So they've been Covid-beneficiaries. But you'd expect that starting next year there will be a partial shift in working and spending patterns and that will have an impact on the bottom line. Higher taxes and regulation/fines are also a danger as governments look for deep pockets to help them pay for this year. Also Big Tech are starting to compete with each other e.g. in cloud and entertainment/media and while that doesn't matter so much in a rapidly growing market when market growth slows down you'd expect some price competition to eliminate some of the excess profits. So the medium to long term outlook isn't as bright. But I don't think that will have a significant impact until it translates into earnings disappointments but when that starts to happen as we've seen historically stock prices can take a bit hit. However I think any short term impact will be offset by the further upside that exists in value/cyclicals.

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It seems pretty obvious that when forecasting in terms of YEARS, 2021 is an up year, 2022 a transition. and 2023 anyone's guess. Most of the variance is in the up/down magnitude, not the 'timing'. Looks a little different though when forecasting the 2021 QUARTERS - there is a lot to suggest a rocky Q1, before all the positives start dominating the headlines.

 

9-months of Covid and the current vaccine roll-outs, has elevated hope to high levels, which has spilled into the markets. Understandable.

But by end-of-January, the deaths from the Thanksgiving and Christmas gatherings, will have hit a lot of families. That will be when it suddenly gets very 'real', and in the short-term - it is unlikely to go well.

 

When nations initially go to war, both sides are confident they are going to win, and in short order.

Then the bombs drop, and the bubble bursts as the bodies start piling up at the morgues/hospitals. The initial shock (negative) quickly turns into a resolve (positive) to get the job done. Process that seems familiar?

 

Point? Enjoy the well-earned Christmas, but keep both your family and your portfolio safe.

A little precaution, could go a very long way.

 

SD

 

 

 

 

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Some negative factors:

1) Trump tax cuts could be reversed. this would be a 10% hit to valuation theoretically (give or take)

2) Interest rates rising. (They have moved up already since May)

3) Inflation could go up quickly once economy opens up more which also correlates with 2). The Fed May not do much, but treasuries would move up nevertheless.

4) Biden is less fixated by stock market than Trump, which could transcedent down to Fed decisions.

5) External threads like the latest large scale cyberattack have been downplayed but can we ignore this. Tensions with China, Iran, North Korea also could come into play. Both Iran a d NK are probably close to having a nuclear bomb right now.

6) Brexit (probably doesn’t matter for the US too much but will for the UK and Europe).

7) As cardboard said, it is the bus you don’t see coming that is going to hit you.

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https://www.ft.com/content/e842dceb-d97c-42f7-bc3a-347c864d6e46

 

Quite a few signs that things aren't as rosy as they seem in China. So I think perhaps if China's financial markets take a tumble that could spillover to other markets.

 

Also a lot of companies in the US and Europe have high debt levels and are therefore ill prepared for a double dip recession induced by further lockdowns. So it could just take a few high profile defaults to shake confidence in markets.

 

 

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Does anyone know sources of market inflows the past year? I have a hard time believing it’s all Robinhood traders, and in the context of what happened end of summer with tech co options, perhaps Chinese money is a big component? Just a theory...

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Does anyone know sources of market inflows the past year? I have a hard time believing it’s all Robinhood traders, and in the context of what happened end of summer with tech co options, perhaps Chinese money is a big component? Just a theory...

 

No idea how to get this, but in my opinion, the most rational explanation would be higher equity allocation for institutional and individual investors because bond yields have been dropping so an 60/40 portfolio becomes 70/30 etc.

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I think a lot of people have found themselves saving more this year because they haven't been travelling or going out as much. With interest rates on saving accounts unappealing and the stock market rallying strongly from the bottom it probably seemed appealing to climb on board and throw some money in an index fund.

 

I think also Big Tech have been quite unique during these times offering a combination of safety and growth that has been quite irresistible to gamblers and investors alike. So I think a lot of money that would have otherwise been parked in cash waiting for the uncertainty to clear has gone into those stocks. So that has also contributed to strong net inflows and the surprising resilience of the general market rally. And now of course with the vaccines recovery plays seem like an obvious catch up trade.

 

It will take a long time for interest rates to become a viable alternative to equities especially if the Fed continues to manipulate interest rates. So for the situation to change you need something to come along that will scare investors out of all equities. Although you'd expect that would be met by a similarly aggressive policy response to reassure investors and a repeat of the sharp but short correction and strong rebound that has characterised the second half of this bull market. So buy the dips will probably remain the mantra.

 

I think stagflation could reset market expectations. A tepid economic recovery won't be particularly favourable to cyclicals and raise concerns about credit losses and demand. Inflation will put upward pressure on interest rates making growth stocks less attractive. Obviously inflation is no good for bonds. But if inflation starts to hurt stock prices there will be the temptation to sell in the hope of buying back at more reasonable market levels and if enough people start to do that it will build its own momentum.

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Central bank policy of absurdly low interest rates, which are here for years, are likely driving a big chunk of the increase in equity prices. And there is lots of room for stocks to go higher and perhaps much higher.

 

Here is a parallel example. My guess is it costs about CAN$2,500/month to rent a 2,400 square foot house where i live in greater Vancouver (this is the suburbs) = $30,000 per year (this might be low). If you have a $1 million mortgage your interest costs are less than $20,000 per year (mortgages can be had under 2%; 5 year fixed rate). Property taxes are $4,500 per year. So it is very rational for people who are renting to buy single family homes right now even though they are at historic high prices - when viewed through a ‘monthly payment’ lense... kind of just like car payments, which is how most people think.

 

That is what absurdly low interest rates do... they make $1 million mortgage homes ‘rational’ decisions for people who are thinking in terms of monthly payments. Factor in quality of life and it makes even more ‘sense’.

 

So my guess is even though my house has gone from being worth $600,000 in 2010 (which i thought was very high at the time) to being worth about $1.25 million today, i see a scenario where it could easily go to $1.4 this spring and to $1.5 million next year. All driven by crazy low interest rates. And ‘monthly payment’ logic.

 

I call it Monopoly money because that is what it feels like. I remember starting out in my first job and barely being able to save $200/month. Now my house is going up $60-$70,000 per year (and this is all tax free in Canada if it is your principal residence) for 10 years with no end in sight...

 

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My guess is the exact same thing is starting to happening in the stock market. With government bond yields below 1% and likely to stay this low for many years the multiple that is ‘rational’ for Mr Market to pay is much, much higher than we have ever seen before. Our brains are ill equipped to understand things we have never actually experienced before (‘impossible’ we say, only to see it sometimes actually happen). What if an average PE multiple of 40 is ‘rational’ for the stock market moving forward. Some years it goes higher and some years it goes lower than 40?

 

Crazy low interest rates are here to stay. Maybe people better adjust their thinking about what this means for prices of financial assets like house prices, equities and bonds.

 

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And the really crazy thing is bond yields could easily be much lower in another year or two. What if the US sees negative government bond yields in 2021 or 2022? What if banks in North America offer negative mortgage rates in the next couple of years? Impossible you say? And if rates go lower what does that do to prices of financial assets? Another rung higher?

 

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I do expect an economic recovery to happen over the next year but how strong and how long? How much/fast does unemployment come down? Where do interest rates go 1year and 2 years out? Does disinflation grab hold again (30 year trend)? Or do we see higher inflation (if so, is it a short term jump or multi year?).

 

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Right now i am trying to stay inquisitive and open minded (my favourite Druckenmiller line) as i try to make sense of all the crazy things going on in the economy and financial markets :-)

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