The Dividend Cafe - Daily Covid and Markets Podcast - Thursday May 21

Episode Date: May 21, 2020

The market was down a hundred points today, and basically stayed between flat and down one hundred all day. Oil remains around $34/barrel. Muni bonds continued about ten consecutive days of trading well. Corporates were off a tad. And syndicated loans seemed to be up a tad despite equity markets being off a tad. Weekly initial jobless claims came in at 2.4 million, bringing the total number to 38 million since the COVID pandemic began (~8 million of those 38 million, though, are no longer on unemployment, presumably having found new jobs or re-secured their old job). Links mentioned in this episode: DividendCafe.com TheBahnsenGroup.com

Welcome to the Dividend Cafe, weekly market commentary focused on dividends in your portfolio and dividends in your understanding of economic life. Hello and welcome to today's COVID and Markets. This is David Bonson, Chief Investment Officer of the Bonson Group, and our COVID and Markets podcast is brought to you by the Dividend Cafe. I have the normal things to go through today, markets, health data, oil, mortgage housing, policy, market technicals, and a little more of the normal on the Fed. So we'll get into it. Market was down about 100 points today. It basically was between flat and down 100 pretty much all day. So one of the less volatile days

we've had in the market in quite some time. Oil was up on the day, remains around $34 a barrel on WTI. Muni bonds, I believe, are looking at about 10 consecutive days of positive trading now. Corporates are off a tad as best I can tell, not much between both junk and IGs were off a little. Syndicated loans seem to be up a little bit, which is only noteworthy because equity markets were down a tad and generally they've been pretty positively correlated. But again, it's Thursday. And so that means weekly initial jobless claims came and the number came in at 2.4 million, which is around the number that consensus was expecting. It brings the total number to 38 million of initial jobless claims filed since the COVID pandemic began. And the economic estimate I got today

is that 8 million of those are no longer collecting unemployment, meaning they've either found a new job or re-secured their old job, which is interesting. 8 million out of 38 million effectively getting back into the workforce really before the economy is actually back up and running. So I assume a lot of those are probably in states where the economy began reopening sooner than other places. Or some of them perhaps are people that went on unemployment in the immediate aftermath of COVID, but then CARES Act and PPP money allowed their employer to bring them right back. So either way, our estimate is that there are still somewhere in the range of 30 million people, which is just a ghastly, incomprehensible number that we hope and pray will continue to go down and down dramatically

as states continue reopening. Speaking of which, on the health data front, case growth was one and a half percent yesterday, so still staying very low. The absolute number of cases, on the health data front, case growth was 1.5% yesterday, so still staying very low. The absolute number of cases, though, is staying stubbornly above 20,000 a day. And for my sneak peek into today's number, which isn't complete yet at recording time, it looks like it's above 20,000 again. But it really is, explained by that increased testing, because it's coming with a continually collapsing positivity ratio, which is exactly what we want. Testing today was yet again over 400,000. This was either the second or third biggest day we've ever had. 408,000 tests done, a positivity rate of right around 6%.

right around 6%. One thing I didn't know before some analysis very early this morning was that the UK had also seen its case growth increase when their testing increased dramatically about a month ago. So their big surge higher in testing was a month before ours. we now have been enjoying a much higher testing capacity over maybe the last couple of weeks. But UK throughout the whole month of May saw their deaths decline. And so even as cases may have been going a bit higher with increased testing, the mortalities were declining. And if the US's situation is to go the same, big increase in testing, very minimal positivity, or excuse me, really encouraging positivity ratio drop, but coupled with a kind of maintenance level of case growth where that absolute number does not decline, and yet deaths do continue to decline. And all those things I

just said were the case in the UK over the last four weeks. I think they'll end up being positively received here in the States. I do think that the data around States reopening is vital towards educating us as to what is working and what is not, to guide those ongoing safety decisions that policymakers, public officials are making, but also to provide the public confidence needed to resume their daily activities. And most of those daily activities, work and recreation, have really direct economic implications. When we look at the COVID case growth in the states that have reopened either three weeks ago or longer, at some degree had some marginal increase in their opening, we see a very steady decline of new cases, not a surge, and yet we see a surge higher in new testing being done.

So again, I put two charts at covidandmarkets.com today. One of those states that began reopening the last week of April. Another of those that began reopening in very early May. And what you see in both cases is a declining amount of new cases and a dramatically increasing amount of testing. And that is in conjunction with them reopening opposite of what many have feared. I watched an absolutely fascinating presentation today from Dr. Michael Roizen, who's the founder and chief wellness officer of the very famous Cleveland Clinic, one of the most respected doctors in the country. The data supporting human behavior as a key ingredient in protection from COVID, things like hand washing and avoiding face touching and hair touching,

reheating of food. I did not know that one. Isolation of those with symptoms, obviously. All of it was amazing. But the regional differences in the spread of the disease, New York as held out against the experience that was had in Florida, California, Texas, continues to be something not fully understood, even in the medical community. And yet one of the things that's abundantly clear are the comorbidity factors that have driven the fatality rate. It's very, very clear. And the primary comorbidities that Dr. Roizen focused on were obesity, high blood pressure, diabetes, immune suppression, lung disease. And then also, of course, the central role that senior facilities, nursing homes, long-term care had in the spread and then subsequent mortality with the disease. That data is readily available and I believe will serve a very important purpose

in how policymakers think about this going forward. Vaccine news filled our TV time again today. This time there was a report early this morning that the BARDA, which is the Biomedical Advanced Research Development Authority, has granted a billion dollars in vaccine funding to AstraZeneca, which is going to be sort of the production and distribution arm of the Oxford University project. So should the kind of joint venture between the Jenner Institute and Oxford, and you'll recall that they are the ones who have spoken most confidently about believing that they're going to be shovel ready by September of this year. Glaxo is committed to being able to produce, excuse me, not Glaxo, AstraZeneca. Glaxo has a different product altogether. 400 million minimum in treatments, but up to a billion doses of the vaccine, again, upon approval. They're in phase three clinical trial right now, 30,000 participants. But it is necessary for me to say that no trial data from even prior trials has been released. So that makes such a

large government investment all the more noteworthy, I would think. From a market technical standpoint, the underlying theme that most technical analysts are focused on right now, as it pertains to seeing another significant move down in stocks is what happens with the so-called weak links in the market, the most volatile and vulnerable areas that were at the hub of market carnage a couple months ago. We're talking about oil, copper, the bank stocks, and then of course credit spreads, which is something I've talked about quite a bit over the last couple months. So we're monitoring all of these, but I think it's very interesting to see either out and out strength in these areas or at least stabilization

again across the board from oil to copper to banks to the credit spread conditions in the bond market. Speaking of credit spreads, there's a chart at COVID Markets just showing both in the high yield side and investment grade side. Whenever I say IG, it's investment grade, high yield, equivalent to junk bonds. How those spreads have tightened and held up here in the last month or two. Well, obviously not two months, really more in the last four to five weeks. really more in the last four to five weeks. On the public policy front, Senator Marco Rubio in Florida indicated earlier today that he claims they have the votes in the Senate level to extend the time beyond two months that businesses have to spend the borrowed money from the PVP program and still maintain their eligibility for loan forgiveness.

So I think that's a potential significant move. If they do have those votes congressionally and they're able to do it as a standalone bill, they can rather quickly give some businesses the assurance that they can still get loan forgiveness from PPP, even if they're not prepared to fully have all that money spent within two months because of the nature and dynamic of their own business. I'm counting this under the public policy silo, but the Treasury Department yesterday sold 20-year Treasury bonds, bonds that will mature, debt from the U.S. government maturing in 20 years. It's the first time they've sold that maturity since 1986. Now, why does it matter? I suspect that they're testing a little bit to see what the appetite is for longer duration

bonds. They only sold $20 billion worth. And so that's obviously not a significant amount in the grand scheme of things, but they were able to sell it all to the private sector quite quickly at 1.2%. sell it all to the private sector quite quickly at 1.2%. So we'll continue watching this. I would really hope that they are indeed headed towards issuance of some 50-year or even 100-year maturities. Two factors there. One is for the sake of the government and therefore the financial system at large. It would take a huge tail risk off the table. People constantly say, what happens if interest rates goes up? The government's running this really, really, really short-term term structure, their own debt profile, and all of a sudden interest rates skyrocket higher. It makes debt service costs explode and boost deficits even further.

And I'm of the mindset that's not likely to happen. It is a big part of why the Fed holds rates down and I believe will maintain the ability to hold those shorter rates down. But it's a tail risk and so they address that issue with the virtually free money never before seen in capital markets where one can extend debt out

such a long period of time and not see interest costs skyrocket in any meaningful way. That's the sort of societal and macroeconomic reason that I like to see it happen. Selfishly, I believe it would provide an extremely low cost deflation hedge that could be purchased on behalf of clients with a carry benefit. It obviously would be cash flow generative, where a long-duration U.S. government asset is, in my mind, one of the better substantial deflation hedges we can access. And so it would give us a good way to purchase that.

Natural gas as a percentage of electricity generation in our country is leading the way. And I talked yesterday about how 32% of natural gas production comes from oil well production. So with the rig count collapsing with oil wells, that then in turn will end up pushing natural gas production lower, which will in turn impact electricity. And to the extent there's no real appetite in our country to see coal picked up as a means of generating electricity, there is in this sense a sort of societal-wide consideration from the domino effect of these oil rigs to what it means for coal and electricity. Natural gas has really become that preferred mechanism, and yet if a third of natural gas production is off, that has a huge impact. In housing, the FHFA announced

in recent days that borrowers and forbearance may elect a deferral option where they can resume making normal payments, but then have the monies owed from the missed payments added to the back end of their loan. So these payments will just get made whenever the loan is paid off or the house is sold or the loan is refinanced, etc. This deferred option becomes another option in addition to other things that were already on the table, such as the borrower negotiating with the servicer for a repayment plan, a reinstatement, a custom modification, etc. but at least a deferral is now specific on the table. Well, the bottom line is that this does give increased clarity for how mortgage borrowers who skip payments can be made whole, but it also gives clarity to investors who hold these pools of mortgages that include these particular mortgages.

A lot of these are credit risk transfers, which were Fannie and Freddie loans at the time they were written, but that were since sold off into the private sector and may not maintain conforming criteria now, and in fact are not specifically backed by Fannie and Freddie now. But I think this is broadly helpful to the CRT space. That's why I bring it up. Finally, in Fed news, I will use this moment to just reiterate one of the most needed economic reminders of this era. I harp on it in Dividend Cafe all the time. The Fed is increasing their balance sheet at rapid speed. That is, they're buying bonds with money that does not exist. It's called quantitative easing. It's a monetary policy tool for accommodation. The Fed did this heavily 2009 to 2014, three different rounds called QE1, QE2, QE3.

And then they resumed the task in mass just a couple months ago in March. So expanding their balance sheet with these buying of bonds most certainly holds down yields, but in and of itself it does not create new credit. Individuals and companies borrow when they have a need and a demand for more credit to drive their own production and or consumption. Banks lend more to meet that demand. Post-financial crisis, banks have had stricter liquidity requirements, stricter capital requirements, and that's a good thing. No one wants inadequately capitalized banks. But my point is this, the Fed can create excess reserves at the banks out of thin air. It cannot create demand for credit, which takes those reserves

off the shelves of the bank and into the real economy. The delta between these two was very crystal clear after the financial crisis. I put a chart up at COVID and markets you have to see. I harp on this issue so that we will understand what the real risk is in this policy, distorting asset prices, what the real risk is not producing runaway inflation. I harp on it to demonstrate their real policy objective, why they're doing it, which is to hold down bond yields and support liquidity in financial markets. But I also want to illustrate what their policy tools cannot be expected to do, what I don't think they're after, and that is actual credit demand in the economy.

but I don't think they're after. And that is actual credit demand in the economy. There's another chart at COVID markets, just getting into, it basically shows the currency exchange rate with China, Yuan and US dollar. And you just see how much the Chinese have weakened their currency in the last couple of months, how the dollars rallied against it. I think it's sort of an encapsulation of the strained relationship right now between China and U.S. And that remains a short-term catalyst, I think, to market volatility. Because of the political popularity right now of anyone job-bunning with China, I don't think markets are going to respond much if it's just a tweet here or there or a couple policy proposals that aren't going to go anywhere. But if you get some substantive legislation where it escalates and China retaliates,

then I do believe that that could become a catalyst to market volatility. Okay, look forward to coming back to you in a weekly Dividend Cafe tomorrow, Friday. In the meantime, reach out with any questions you have. A lot to chew on this week in COVID and markets. Please share far, share wide. And in the meantime, you be well, be safe and be free. The Bonson Group is a group of investment professionals registered with Hightower Securities LLC, Thank you. This is not an offer to buy or sell securities. No investment process is free of risk. There is no guarantee that the investment process or investment opportunities referenced herein will be profitable.

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