The Dividend Cafe - A Good Friday Indeed

Episode Date: April 10, 2020

The market week is cut short by the Good Friday holiday this week, but investors liked what they received out of the four days markets were open. Monday represented one of the biggest up days in market history, and Wednesday and Thursday added to the rally, with the Dow now a stunning 5,500 points off its March 23 low level (which was itself an intra-day number). No, we do not know what equities will do next week, but we do know that the Federal Reserve gave markets a lot of news this week, and that will be the primary focus of the Dividend Cafe. But if you want to understand what it all means for the economy at-large, for housing, for bond investors, and for those just sort of wondering when our country is going to re-open, we invite you to jump into this week's very special Dividend Cafe. Links mentioned in this episode: DividendCafe.com TheBahnsenGroup.com

Welcome to the Dividend Cafe, financial food for thought. kind of done because of the Friday holiday. The markets are closed. Banks are closed for Good Friday. And so it's a rare moment. Often I'm recording on Thursday morning. And so not only is the Thursday market action still going, I have to record then to usually give my team time to prep everything. But then you also have the full market day. And so it's very rare, but for me, nice to be recording with the finality of the week baked in. Now, that is true as far as markets go. It may not be true as far as news issues go. We're sitting here still waiting for more announcement from the OPEC plus meetings taking

place in the other side of the world with Russia and Saudi Arabia. And even tomorrow, Friday, there will be a G20 meeting with the energy ministers. On Saturday, there will be a conference call with OPEC Plus and some of the Texan shale producers. And so in the energy markets, which is something I think has a lot of correlation right now to overall financial markets, there will be ongoing developments. And obviously, there will be ongoing developments. And obviously there will be ongoing developments day by day around COVID. And most of that ongoing development has been centered this week around the expectation of hitting a peak level in new cases of the novel coronavirus here in the United States, something that markets are very excited about and have begun to price in.

And so the way that we closed today, we're very close to 24,000 in the Dow again. 23,719 appears to be the closing level. And so it is a number that's a little bit uncomfortable for me because it is meaningfully higher off of 18,000, where we got into the 18,000s at the low points a couple weeks ago. But it also is obviously still meaningfully lower than the highs we had seen in February. But to have achieved a net of 5,000 points higher in the Dow in this time period is surreal, although perhaps not as surreal as the rapidity with which we lost 10,000 points on the Dow. So we're kind of getting close to that point I had talked about,

phase one being the national margin call having to come to an end, the significant selling pressure from overly clogged and overly levered financial systems that were in a panic mode of a couple weeks ago. I'm not getting calls anymore at all about people wondering if they need to sell out of their portfolio. And a couple weeks ago, those calls were at their peak. And of course, we're proud of how we handled that at the Bonson Group. And I'm hopeful that any of you that are listening, and either under your own counsel and direction or under the direction of another advisor, also avoided that fatal idea of capitulation. I don't say that because I'm assuming that we don't go lower from here. I'm going to continue saying this because it's very important.

I'm saying it because nobody knows. I made the comment to a couple of my advisors today that those people that continue to talk about how, oh, yeah, we think we're going to retest lows. They're doing something right now you have to understand is very intentional. I've seen it my whole career. And it's basically based on this. If we end up retesting lows, they are able to say, look, I told you we were going to do this. And if we don't, no one's ever going to bring it up because everyone's going to be so excited about the fact that we didn't. Markets just went higher. So it's what we call asymmetrical risk reward.

And I find it obnoxious and frankly frankly very unhelpful to people that are actually looking for real guidance. We're going to hit a point in which the market cannot continue escalating very quickly, and yet in the meantime, the ability to have priced in some degree of improvement around the health pandemic, the fact that a lot of the headline news, the expected death count to mortality rate has come down precipitously. The caseload overall, the peaking of new cases, it's expected any time now if we haven't, in fact, already hit it. And then, of course, what the numbers can't show, which is just the unbelievably high amount of people that by the time they test positive are already better or about to get better. So that continued recovery data is now in the cycle of overwhelming the bad news. And yet, because of how behind we were in testing, that's a work in

progress. What is unknown, by the way, around the health pandemic we were in testing, that's a work in progress. What is unknown, by the way, around the health pandemic is, of course, the exact details as to what the reopening of the American economy will look like. A lot of people have strong opinions on the subject. I have very strong opinions on it, but they're not pertinent to my forecasting and work around what we ought to be doing from the vantage point of financial markets and investing. around what we ought to be doing from the vantage point of financial markets and investing. So we'll get more clarity hopefully in the weeks to come as to what parts of the economy at what level will be reopening and when. And probably the how they reopen and what incremental phases will end up being more relevant to financial markets than the actual when, because a when of April 27th versus May 10th, let's say, doesn't tell you much.

What does tell you much is when, you know, certain public transportation reopens, when churches and public gatherings can reopen into the future, sporting events. I suspect they're going to phase these things in and on top of that have a lot of geographical particularities, meaning certain lower risk areas will reopen at a quicker pace than higher risk areas. So I've done all this, you know, to kind of capture the health pandemic and its role in markets this week and the kind of severity of markets rallying and being willing to kind of get off of that phase one of the really tight financial conditions. But there isn't anything bigger to report this week

in financial markets than what the Federal Reserve announced this morning. And that was their kind of clarity that has been expected any time now that we finally got around the TALF 2.0 facility, the Term Asset-Backed Securities Lending Facility. securities lending facility. TALF was originally created in late 2008. Details came in March of 2009. The market hit its low within a couple of days of those details coming. And what really happened in March 2009 is the Fed announced that they were going to be buying a lot of riskier assets with a little injection from Treasury. It came from the TARP funds, and then the Fed levered it up and basically took that illiquidity off of the balance sheets of a lot of the banks. And back then, it was the actual banks, the major commercial and investment banks of the country that were holding these troubled assets. And now, of course, the balance sheets of the banks do not hold a lot of these assets,

but the non-bank lenders do, and investors do, and mutual funds do, and hedge funds do. So it's sort of democratized across different investor pools, but nevertheless has clogged up a lot of the ability for buying and selling of assets to function smoothly. So the Fed, and by the way, in March of 2009, when they announced this, they coupled it with congressional relief, Treasury Department, the Obama administration essentially got the message, I think a few months later than most of the world did, that mark-to-market accounting was killing the banks. You were in a spiral of assets. Assets were getting marked down, which was then forcing more markdowns because of the leverage

in the system. So the combination of TALF and mark-to-market relief became the foundation for relief in capital markets that led to our 2009 recovery out of the great financial crisis. Fast forward to where we are now with what we're calling TALF 2.0, and they've already been providing liquidity in the municipal bond market, but only for the first six months of maturities and very selectively, and they hadn't been up and running on funding. Well, today they announced the details. The Treasury is only going to put in $35 billion of equity, and the Fed is now going to go up to $500 billion. So you're talking about 13 to 14 times leverage on the municipal credits that they'll be able to buy. And that will go a long way towards

smoothing and normalizing those markets. On the corporate side, the news was even bigger. And this is still something I honestly just can't believe. Not only are they taking the $500 billion of primary and secondary market corporate bond issuance that they were going to provide support to. But they're going to increase it up to $850 billion. The Treasury will put in $75 billion. They're going to lever that up a little over 10 times. And they are allowing for junk bond-rated credits to fit into that portfolio of assets that will be on the Fed's balance sheet. Primarily what they would call BB credits, which is the higher rating of junk credit that were formerly BBB, which is the lower rating of good credit, and they got marked down. Okay,

so they got downgraded and the Fed is saying, yeah, we're going to come in and help out those credits and help provide liquidity to what had become a huge part of the marketplace is what we call fallen angels, those kind of lower rated but still good credits that then kind of fell into another category. The Fed is not only allowing those on their balance sheet, providing significant liquidity. The ETFs for these high-yield bonds were up 7%, 6% today, but they're even buying those ETFs directly. So this is an incredibly discriminatory act of providing benefit to risk assets if you really believed that the Fed was done there. If you thought that the only lower risk asset class that the Fed was done there. If you thought that the only lower risk asset class that the Fed was going to backstop were junkier credits, then I guess you could accuse them of being somewhat discriminatory. I think the statement the Fed's making is that they intend

to unclog the system around a number of risk assets. And indeed, they announced their TALF facility will include the levered loans. Now, again, only have a AAA credit quality so far, but these collateralized loan obligations, CLOs, the Fed providing a backstop into that space. And then the CMBS that I've been talking about a lot in my COVID and markets daily missives. CMBS being commercial mortgage-backed securities. And obviously, you have a significant amount of mortgages out there that are in a risky pool based on retailers and offices not receiving rent from tenants. Therefore, them being potentially unable to service their investors who own these pools of mortgages.

It's created a significant amount of illiquidity. Even though there's incredible equity in the assets that provide a lot of protection to the investors of this debt, it freezes up the marketplace. This enables these, especially performing loans, to have more trading liquidity and more of a, again, efficient market behind them. So I'm already way more in the weeds than I probably would have intended to do for Dividend Cafe podcast listeners, but I want to give you an idea of the real magnitude of what the Fed has done. you an idea of the real magnitude of what the Fed has done. They had already blown away any idea that they were going to be kind of tiptoeing into

their support weeks ago when they announced basically unlimited quantitative easing for as long as is needed quantitative easing and what we're calling yield curve control. They're basically saying they're going to use their ability to buy 30-year treasuries and six-month treasuries to help kind of control the shape of the yield curve. And so you're going to see, and you already see, just unbelievably different fixed income markets, bond markets, credit, all behaving completely differently than it was at that just collapse levels of mid-March. The stock market has rebounded a bit. It's not out of the woods, but it's certainly the whole week has been much different than we had anticipated.

So yeah, better health news, better Fed news, stimulus still kind of working its way through the economy. I'm very skeptical of a lot of the media reports that we're hearing on the Triple B program because my Triple P program, the paycheck protection, because our own experience in guiding clients and in talking to banks directly and getting a lot of data and intelligence from the banking community is that we really are seeing an awful lot of credit get out to those who will need it. And I think it's going to save a lot of jobs. Speaking of jobs, the initial jobless claims for this week came in at, again, another six and a half million. This is the third week in a row the jobless claims number was awful. And the third week in a row on

the day of it coming out, the markets are not only up, but up big. Between those three days put together, don't hold me to this, but I think you're over 2,000 points in the Dow on the three days of the jobless claims coming out. And all, well, particularly the first week and the third week, less so last week. The reason primarily being that there was a sort of whisper number of what people had been expecting, Wall Street, economists, even policymakers. And the number was awful, but not as awful as that whisper number it indicated. Today, though, it has a lot more to do with the Fed. So when you get different major events going on at once, you could even argue today the market would have been up a lot more with the Fed news if it weren't for the uncertainty that lingers out of OPEC. Because on one hand, we got a report that Saudi and Russia had come to an agreement on cutting production. But then on the other hand, oil prices fell off when no details

came. The meetings were still ongoing. So it started to look like maybe they weren't really ready to fully make an announcement. So for those of you listening to the podcast, watching the video, if you are enjoying staying up with what's going on in the market and hearing our perspective and direction, and your thought is, hey, once or twice a week is great, I would take even more. I am doing a daily writing at covidandmarkets.com, where every day we're going to put up some investment perspective, some health data, you know, illuminations from my conversations with policymakers, hedge funds, things along those lines. But as far as the Dividend Cafe goes, we're going to continue that going every Friday.

And so not only the written commentary that is sort of the, you know, eight to 10 page kind of weekly market charts and commentary that I've done for many, many years. And obviously along with that, this podcast and video that we do each week, that's going to sort of be our routine for the time being. I don't know. I'm knee deep in trying to absorb all these things going on. One of the things that I think is going to be different is that credit markets are responding as favorably to the Fed support as they did in 2009. The difference is it may very well be that happens even quicker this time than last time, because there was a lot of ambiguity in 2009 as to what they were doing. And it was almost sort of stunning, like people really couldn't believe it. And I think that in this case, we now have a precedent for their willingness to do some of this.

And, of course, the Fed is showing that they're going to levels that they never had gone to before. What I mean by levels the Fed has never gone to before, it is a sort of posturing that they're taking, that they're displaying. And the vast majority of it is not posturing. These are real actions. I mean, these are interventions that are at this point in the capital markets. Their interventions are real in the present tense. But there is a piece that needs to be added on to that thinking, which is also what they're demonstrating about the future. When this happened in the European Union in 2012, they called it Mario Draghi's bazooka moment, where he basically said they would do whatever

it takes to support the euro. And the questions, if you recall, coming out of 2010, but especially out of the summer of 2011, was whether or not the euro currency was going to be viable, whether or not it was long for this world in the context of what was happening in Europe at the time and the breakdown between the kind of tensions of their fiscal union and monetary union, or in the case of their fiscal union, the lack thereof. So the monetary union was called into question and Draghi essentially, by saying they would do whatever it takes to support the euro, made a declaration that markets were able to rely upon. And it resulted in trillions of euros of quantitative easing. And there's all sorts of issues, good and bad, more bad than good, actually, in Europe. But my point, economically, but my

point being that I think there is a kind of declarative statement from the Fed about their intentions to support risk assets, particularly in credit and particularly in credit where they view there to be contagion risks. And so if they thought there would be a kind of breakdown from one event to another that would bring down other economic actors with it, that seems to be what holes they're trying to plug. So yeah, from an investment standpoint, it is my belief that this gives you a sort of understanding of Federal Reserve backstopping into commercial mortgage back, into CLOs, into most structured credit. as credit ratings, but as far as the asset classes themselves, it's very hard for me to believe that the Fed is willing to save junk bond investors, but not save municipal bond investors or things of that nature. They're already heavily engaged in the short duration side of municipals

as well. So I need to leave it there because I can go on and on. I'm going to bore you to pieces. But this stuff has really kind of been the subject of about 20 hours a day of my life for a couple of weeks. And it's coming to fruition. And I think that we have very good investment theses lined up as to how we want to be positioned going forward. Certainly the energy sector has continued to rally. Certainly the energy sector has continued to rally. A lot of the things that were most oversold in March have been most recovered here in this first week of April. And now as we go into this holy weekend, I hope a lot of people can get their minds off of capital markets for a few days. I hope that our medical professionals will continue the fine work they're doing around the country. And I hope that markets will find relief going into next week, relief from the improved health news that we hope will continue to surface.

The challenges going into the economic carnage of what's been done are real. And to kind of sort through where there may be more quick recoveries versus slower and more incremental recoveries, there's a lot of work to be done. And we have to then do that work and apply it in a cogent investment thesis. And that's what we intend to do. So please reach out if you're a client of ours and have any questions about what we're doing on behalf of your portfolio and the broader audience and broader questions just as far as the whole kind of landscape of where things are. We're happy to discuss that with you as well. I do wish you and yours a wonderful Good Friday on into Easter weekend. And I do thank you for listening to the Dividend Cafe.

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