The spread of the coronavirus has caused global disruption unfamiliar in the modern era, with massive efforts at containment and mitigation across whole populations, as medical professionals struggle to care for the sick and work toward treatment. On an economic level, travel bans, population controls and social distancing have contributed to a sharp drop in growth, while the stock market ended its long bull run, moving wildly amid uncertainty as to the timeline and ultimate impacts of the pandemic.
For investors, we believe it is important to take a step back—to understand the current dynamics in relation to history, and to assess portfolio positioning in light of risk exposures and long-term goals.
Volatility Spiked With Virus’ Spread
S&P 500 Daily Returns
A Different Challenge
As a health matter, the coronavirus crisis represents a challenge that is very different from what investors have experienced in previous decades, whether the financial crisis of 2008, the technology stock bubble of 2001 or the real estate crisis of 1990 (see “Previous Bear Markets,” below). Rather than being triggered by economic or market excesses, or by sharp rate cuts by the Federal Reserve, it has involved a systemic shutdown by governments designed to stifle a deadly contagion. The global pause has led to startling projections of U.S. GDP contraction (our base case is a 25 – 30% decline in the second quarter) and unemployment (about 20%). In theory, the economy could recover sharply once the “all clear” is sounded—something that is built into our Asset Allocation Committee’s base case for a 6% full-year contraction. But much depends how long recovery takes—and the damage that occurs in the meantime.
Previous U.S. Bear Markets: Characteristics and Performance
|PEAK||TROUGH||MONTHS: PEAK TO TROUGH||MAX. DRAWDOWN||MONTHS: PEAK TO RECOVERY||CAUSES|
|Sep ‘29||Jun ‘32||33||-86%||300||Great Crash, following excessive stock market speculation and margin lending amid declining economic fundamentals|
|Sep ‘32||Feb ‘33||6||-41%||9||Great Depression; very volatile markets with short bull and bear cycles within the secular bear market|
|Jul ‘33||Oct ‘33||3||-29%||27|
|Feb ‘34||Mar ‘35||13||-32%||19|
|Mar ‘37||Mar ‘38||13||-54%||107|
|Nov ‘38||Apr ‘39||5||-24%||75|
|Oct ‘39||Jun ‘40||8||-32%||56||World War II|
|Nov ‘40||Apr ‘42||18||-34%||29|
|May ‘46||Oct ‘46||4||-27%||48||Anticipation of economic downturn due to drop in military spending|
|Jun ‘48||Jun ‘49||12||-21%||20||First post-WWII recession|
|Aug ‘56||Oct ‘57||15||-22%||25||Recession, sharply rising bond yields|
|Dec ‘61||Jun ‘62||6||-28%||21||Cold War tension escalations|
|Feb ‘66||Oct ‘66||8||-22%||15||Fed tightening; bear market was brief as spending drove earnings upward|
|Nov ‘68||May ‘70||18||-36%||39||Mild recession with high inflation; Vietnam unrest|
|Jan ‘73||Oct ‘74||21||-48%||90||Oil embargo sent energy prices skyrocketing, leading to a long recession and high inflation; Watergate scandal|
|Nov ‘80||Aug ‘82||20||-27%||23||Volcker tightening in an effort to tame inflation pushed economy into recession (fed funds rate hit 20%)|
|Aug ‘87||Dec ‘87||3||-34%||23||Black Monday, exacerbated by "portfolio insurance" program trading that called for selling stocks into falling markets|
|Jul ‘90||Oct ‘90||3||-20%||7||Iraq War, oil price shock after Iraq invaded Kuwait led to a brief recession|
|Mar ‘00||Oct ‘02||30||-49%||86||Dot-com crash following a period of excessive speculation on emerging Internet companies|
|Oct ‘07||Mar ‘09||17||-57%||65||Collapse of the housing bubble led to the collapse of the subprime mortgage market and grew into the Global Financial Crisis|
Source: Bloomberg, general news sources, St. Louis Fed, NBC News, the Motley Fool. Drawdown and recovery data is based on the S&P 500 price index (excluding dividends). Nothing herein constitutes a prediction or projection of future events or future market or economic behavior. The duration and characteristics of past market/economic cycles and market behavior, including length and recovery time of past recessions and market downturns, are no indication of the duration and characteristics of any current or future market/economic cycles or behavior. Due to a variety of factors, actual events or market behavior may differ significantly from any views expressed or any historical results. Investing entails risks, including possible loss of principal. Indexes are unmanaged and are not available for direct investment. Past performance is not indicative of future results.
The need to mitigate those impacts has driven enormous monetary and fiscal interventions. The U.S. Federal Reserve has not only cut short-term interest rates back to zero, but has pledged its unlimited support to preserving liquidity in the markets. In fact, it has already purchased more bonds than it did during its post-global financial crisis bond-buying, and by some estimates will increase its balance sheet to as much as $9 billion by late 2021, or more than double its previous peak. Other central banks have done their part as well, with aggressive easing by the ECB, Bank of England and the Japanese Central Bank (see box at the end of this page).
Meanwhile, Congress and the president have put aside partisanship to approve some $2 trillion in stimulus, with more on the way. The Coronavirus Aid, Relief and Economic Security (CARES) Act, passed on March 27, has something for nearly everyone—including medical funding, $1,200 checks for most taxpaying adults (and $500 additionally for their children), expanded unemployment benefits for gig workers, forgivable bridge loans to small businesses who retain their employees, and payments to airlines and other particularly stressed industries (see display). At the time of writing, Congress was negotiating regarding further aid to small businesses. Authorities appear willing to do everything in their power to keep the economy afloat while the coronavirus rages on.
Watching for Progress
This is such a rapidly evolving situation that anything written now may seem dated by the time it is read. With that caveat, much depends on how the coronavirus crisis unfolds in the coming weeks and months. Worldwide, as of April 17, there were 2.2 million reported cases and 146,000 deaths. Since the first U.S. case was revealed in January, known infections have exploded with the spread of the disease and wider testing, to 671,000 cases and 33,000 deaths (again as of April 17). Initial hotspots in Washington state and New York have broadened to include Louisiana, Illinois and Florida, among others, although new cases are slowing in some areas. At this time, our best estimate is that the virus could peak in the United States in May or June, followed by a gradual decline. Transitions back to workplaces in some regions could occur by summer, but that depends on many factors.
The success of containment efforts and the avoidance of unforced errors, including overly optimistic returns to work, will be essential to flatten the curve of the disease, so we avoid overwhelming our health care system and seek to limit the death toll. Also crucial will be progress on developing treatments, including the use of medicines that resist the virus and reduce the lung inflammation that can come with it. A vaccine may be down the road as well, which could help with management of future surges and hopefully reduce COVID-19 to a seasonal flu-like risk. More testing kits to better track the contagion and more ventilators and other medical equipment to help with identification and isolation more effectively are needed so lockdowns become less necessary. Our Health Care and Big Data research teams have working closely to track the course of the disease and the efficacy of possible treatments. You can read their analysis, and the views of other Neuberger Berman analysts and portfolio managers here.
Although saving lives is paramount, limiting economic damage is also of great importance. As we look ahead, there are two key issues to focus on from a research perspective. The first is supply chain disruption, and how the virus will impact the ability of companies to produce goods and generate revenues and profits. The second relates to “demand destruction.” If people are staying home and not traveling or buying discretionary goods, how is that going to affect the economy? If you skip dinner at a restaurant, you aren’t going to go back and have two dinners the next night. Multiply that concept by millions of people and a period that stretches from weeks to months and you see the potential damage that may occur—particularly at small businesses. They are the ones most vulnerable to this crisis if it drags on, employing about half of all U.S. workers; so, the fact that there is fiscal support for small business—as well as employees—in addition to larger companies is huge.
Stimulus Is Key for Small Business
“How long would your business survive if sales stopped completely?”
Source: Womply survey of 2,300 small business owners across 50 states, womply.com, March 31, 2020.
With the virus trajectory noted above, we would anticipate that economic recovery could begin in the second half of the year with a sharp acceleration in 2021, built on extraordinary stimulus and pent-up demand. However, a full return to normalcy would take time. Many businesses are likely to close and not reopen. Many people will fall behind on the rental payments, forgo major purchases, begin work on rebuilding their savings. Some industries like energy that were previously under stress could see consolidation. The migration to online shopping that was decimating many retailers may accelerate. There are many variables here, and “unknown unknowns,” as Donald Rumsfeld might say.
As for the markets, we anticipate continued volatility going forward. Investors hate uncertainty, and companies thus far have not been comfortable providing much guidance in a rapidly changing environment. While many investors have asked us about a time to “get back in,” we believe that this is a long game. The markets dropped precipitously and then roared back part of the way with stimulus, but there remains potential for considerable bad news ahead—perhaps more than investors are willing to acknowledge. As our Asset Allocation Committee has indicated, there should be plenty of time to reallocate on a tactical basis when there is greater clarity that we are emerging from the crisis.
What Investors Can Do
How can investors approach the current environment? First, we would suggest close interaction with your advisors and portfolio managers, to ensure that your asset allocation is well diversified and aligned with long-term goals. Diversification across stocks and bonds has historically softened the impact of periodic equity weakness, while broad exposure to assets within those categories and to alternative assets has further spread risk exposure. If, at this point, you remain overly exposed to risky assets, it may make sense to take advantage of periodic rallies to rebalance. If, after equity declines, you are over-weighted in bonds or cash, we would favor holding steady until there are signs that the other side of current turbulence is within sight.
Average Performance During Recent Severe Downturns (Hypothetical Portfolios)
(1980 – 82, 1987, 1990, 2000 – 02 and 2007 – 09)
|Equity/Fixed Income Allocation|
|Average Maximum Drawdown||-1.2%||-5.6%||-14.0%||-22.7%||-31.0%|
|Average Months to Recover||2||7||22||30||37|
|Annualized Return 1980 – 2019||7.5%||8.8%||9.9%||11.0%||11.8%|
Source: Neuberger Berman, Bloomberg. Specific periods covered: Nov. 1980 – Aug. 1982, Aug. – Dec. 1987, July – Oct. 1990, Mar. 2000 – Oct. 2002, and Oct. 2007 – Mar. 2009. Based on monthly total return data (including dividends and interest income) for the S&P 500 and the U.S. Barclays Aggregate Bond Index. Peak-to-trough may be different than if computed using daily data. Portfolios are allocated to the indices in the percentages shown. Nothing herein constitutes a prediction or projection of future events or future market or economic behavior. The duration and characteristics of past market/economic cycles and market behavior, including length and recovery time of past recessions and market downturns, are no indication of the duration and characteristics of any current or future be market/economic cycles or behavior. Due to a variety of factors, actual events or market behavior may differ significantly from any views expressed or any historical results. The returns shown are gross of fee and do not reflect the fees and expenses associated with managing a portfolio. Investing entails risks, including possible loss of principal. Indexes are unmanaged and not available for direct investment. Past performance is not indicative of future results.
Keep in mind that the path out of the coronavirus pandemic is liable to be long and winding. Economies simply need time to rebuild from the demand destruction noted above, and may take paths divergent from what might have been expected even a couple months ago. Even in the best of scenarios, markets will likely need to see signs of improvement before they become more comfortable with riskier assets.
Looking to the Long Term
That leads to another key idea, which is the long-term investment horizon. Contrary to popular perception, few (if any) investors have any idea what specifically is going to happen to the markets over short periods. There are just too many factors at play, many of which have nothing to do with underlying fundamentals. However, over the long term, it’s generally acknowledged that stocks have historically increased in value—even from the peaks prior to bear markets. For those with effective risk-managed asset allocations, time is likely to be a friend.
Long Timeframes Have Limited Portfolio Declines
Market Returns Over Multiple Time Periods (1988 – 2020)
Source: Bloomberg, monthly data as of February 28, 2020. For illustrative purposes only. Nothing herein constitutes a prediction or projection of future events or future market or economic behavior. The duration and characteristics of past market/economic cycles and market behavior, including length and recovery time of past recessions and market downturns, are no indication of the duration and characteristics of any current or future market/economic cycles or behavior. Due to a variety of factors, actual events or market behavior may differ significantly from any views expressed or any historical results. The returns shown are gross of fee and do not reflect the fees and expenses associated with managing a portfolio. Investing entails risks, including possible loss of principal. Indexes are unmanaged and not available for direct investment. Past performance is not indicative of future results.
The COVID-19 pandemic represents an extraordinary human challenge, and requires all our efforts to avert loss of life. The virus’ economic implications are also profound, and if not addressed, could threaten the well-being of billions of people. We are heartened by the aggressive steps taken by central banks and governments, and believe that they will be sufficient to avert worst-case scenarios and set the world back on a path toward growth.
Today, as always, we believe that investors should be informed about the macro and financial environment, but try to avoid worrying too much about day-to-day changes in sentiment. That’s the job of advisors and portfolio managers, who can help you feel comfortable with your investments and asset allocation in relation to personal investment goals and needs. Providing yourself with a little psychological “separation” can leave time for more meaningful activities, like cheering on our brave health care workers and catching up with family members, as we wait out this difficult period.
Policymakers Step Up—But Will It Be Enough?
Adapted from the 2Q20 Asset Allocation Committee Outlook
In facing the effects of the coronavirus pandemic, central banks and governments have moved aggressively to shore up the global markets and economy.
The immediate priority of monetary authorities was to stabilize markets and provide liquidity as investors sought to sell everything—including traditional safe havens such as U.S. Treasuries. They re-opened the 2008 playbook, led by the Federal Reserve, which cut rates to zero, loosened the terms on international dollar swap lines, committed to unlimited quantitative easing and provided liquidity to money market mutual funds. These moves calmed Treasuries, but credit markets, while improved, may require more action.
The Fed also set up a Commercial Paper Funding Facility to address strains on companies’ short-term operational financing, and later extended support to mid-cap companies, “fallen angel” corporate bonds and the municipal market. The Bank of England introduced its own commercial paper measure for the U.K. and the Bank of Japan opened a new, zero-percent lending facility. The European Central Bank came out with a new €750 billion public and private securities purchasing program and pledged to buy high-quality commercial paper.
The fiscal response needed to be just as rapid, and focus on small businesses and individuals. The U.S. passed stimulus worth trillions of dollars, including small business loans, tax deferrals, stabilization funds and direct payments to individuals. The U.K. Treasury effectively promised to pay 80% of the wages of any worker furloughed due to the crisis. And Germany set out plans to remove constitutional debt limits for a support program worth almost 10% of GDP, focused on providing equity capital to companies and backing loans. It also urged a joint euro zone debt issuance, which would likely be bought by the ECB. Around the world, countries are attempting similar fiscal measures, often amounting to several percentage points of national GDP.
Gauging the Impact
The speed of this response has been remarkable. During the 2008 – 09 financial crisis, the Fed cut rates to zero only in December 2008, and the G20 meeting that started a global coordinated response came in April of 2009, a full seven months after the peak of the crisis. But will it be enough this time?
We believe that, as long as fiscal support prevents unemployment from exceeding low double figures, and supply chains remain intact, there could be potential for powerful pent-up demand to drive renewed consumption growth in the second half of the year.
Our base case is that second-quarter U.S. GDP could decline by 25 – 30% annualized, which assumes a sharp decline in goods spending and an even more significant contraction in services—with demand coming largely for health care, food and consumer essentials. For the full year, U.S. GDP may finish down 6% versus 2019. This would imply a strong clawback in the second half—but it is important to recognize that much depends on the effectiveness of the stimulus, and that the fallout for small businesses in particular means a full recovery to the pre-crisis GDP trends is likely to take many months.
See a summary of the Committee’s asset class views here.