Q2 2020 Market Comments

After one of the worst first quarters in history, equity markets hit the ground running in May, staging an impressive comeback in the three month period ended June 30. As has so often been the case historically, the relentless downdraft during the second half of February and virtually all of March was followed by a sizzling rally.

By quarter’s end, many broad domestic equity indexes had recovered to yearly losses of less than 10% after declines of approximately 35% from February’s all‐time highs at their lows on March 23.

Clearly, there is more ground to cover for markets, but leadership from technology issues heavily represented in the NASDAQ Composite Index and the S&P 500, has given investors a boost.

The market recovery stalled during the second half of June as new Covid‐19 case detections shot higher, however, there is no denying that the second quarter produced an emotional sea change from the dark days of mid‐March, exemplified by a string of new all‐time highs for the “Comp” late in the quarter.

Markets posted quarterly gains in virtually all sectors and geographic regions. Representative equity benchmark index changes for the periods noted are illustrated below.

Most economic data released during Q2 was unsurprisingly dismal, however from early May through the end of June, there were some unexpected positive numbers, particularly in the employment arena. Once businesses began reopening, workers returned to their jobs in droves suggesting that dire predictions of a painfully slow recovery could be overly pessimistic.

In recent days, a surge in new cases of Covid‐19 in the US and particularly in Florida, Texas and Arizona has led many pundits to speculate that the nascent economic rebound could founder under the weight of re‐imposed contact restrictions, a cri de coeur rapidly adopted by the press.

To date, the main upturn in statistical measures of the disease’s impact has been the number of new cases. Hospitalizations have risen but not to an extent that health infrastructures are overwhelmed. Most importantly, fatalities are not tracking the upward slope of infections.¹

Several states have paused their reopening processes, notably California, Texas and to a lesser degree, Florida, but a resumption of blanket lockdowns does not appear likely. Companies have implemented measures designed to enhance worker insulation from infection and there seems to be a gathering consensus in the country that economic conditions will continue to improve despite a “second wave.”

There was some “breath‐holding” by investors as the third quarter approached and markets turned choppy, but the failure of an upturn in deaths to materialize in tandem with new infections has confirmed that expanded asymptomatic testing is a significant component of the positivity surge. Effective treatment regimens and therapeutic drugs are mitigating virus‐related mortalities.

Throughout the pandemic, China has led in infections, lockdowns and now recovery. Uncertainty surrounds the future impact of business decisions to reduce exposure to China‐based supply chains, but inside the country, Chinese consumers are regaining confidence that the virus has been conquered and largely eradicated as a threat.²

Data released during the final week of the second quarter confirm that Chinese sentiment and purchasing indexes have moved well into expansion territory after plunging deeply into contraction during the shutdown.³

China’s recovery is evidence that the virus is a finite detriment to economic activity, which may reassure those in the US concerned about another round of economic pain. It is our firm belief that widespread indiscriminate lockdowns such as those instituted during the late February to early May period are not a looming possibility, regardless of press reports that seem to be advocating new shutdowns.

But it’s not just China that is rebounding. In Europe and Asia, purchasing manager indexes are also trending higher. The chart on the following page shows the track of several representative manufacturing purchasing manager indexes.

In addition to those displayed, uptrends in similar indexes are evident in the US, UK, Australia, and other European and Asian countries.⁴ As more governments across the globe permit businesses to resume quasi‐normal operations, we can expect more 50%+ participants.

In addition to the rebound in selected US economic statistics and the Chinese recovery, hard evidence that businesses are expecting and experiencing a return of demand for their products is being reflected in firming industrial commodity prices.

We noted the uptrend in copper earlier last quarter as support for a conclusion that the equity rally was more than a “bounce.” Oil supply/demand has also moved closer to equilibrium, now trading back around $40/barrel. The choking surplus triggered by curtailed economic activity has become manageable.

The chart below shows the Dow Jones Commodity Index movements since the beginning of 2020. This index is a valid proxy for manufacturing activity. Rising demand for industrial commodities will eventually translate to increasing corporate revenues and profits.

World economies are steadily clawing back the ground lost to draconian anti‐Covid‐19 policies. But material distance remains between current prices and new highs for broad based global equity benchmarks. Out of context press focus on the rising number of detected Covid‐19 cases over the past several weeks has given pause to a strong equity market advance, but as noted above, correlated fatalities have not confirmed that these data portend a new, deadlier phase of the pandemic.

The demonstrable direction of economic activity around the globe is toward a resumption of growth. Virtually all economic statistics in the US and numerous other Developed and Emerging Market countries point to an April trough for government induced recessions. Workers appear ready and anxious to resume work and consumers are eager for a more normal lifestyle.

Should second quarter earnings support the tenor of positive surprises that have characterized recent indicator reports, equities will likely benefit further. By historical yardsticks, valuations remain relatively low and expected returns high compared to those at the market peak in mid‐February, possibly setting the stage for further equity gains as the third quarter unfolds.

This is not a prediction, however, as we are always cognizant that random, unforeseen events can exert tremendous influence on markets.

Investors were emotionally prepared for two to three quarters of disappointing news as lockdowns spread in the spring. But worst case predictions have not been realized. Focusing on long term plans and ignoring noise from the press (to the extent possible) has once again proved a valuable and viable investment philosophy.

¹ “Media is obsessed with COVID cases, but death rate is what is important, www.nypost.com, July 6, 2020. ² “China’s Economy Regains Strength After Strict Coronavirus Measures,” www.wsj.com, July 3, 2020. ³ Ibid. ⁴“Global Manufacturing Shows Fresh Signs of Recovery,” www.wsj.com, July 1, 2020.

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