A Mad Dash for Liquidity

Governments, monetary bodies, companies large and small, and individuals are fighting to maintain enough liquidity to stay afloat until the peak of the coronavirus passes. Fear of the coronavirus spreading has brought the global economy, ironically excluding China and S. Korea who are now recovering, to a virtual halt with full economic and personal impacts to come. For instance, economists believe that second quarter U.S GNP could fall by over 20% with unemployment increasing several million before slowly recovering as we move through the second half of this year into 2021.  We just finished one of the worst weeks on record as stocks fell by 15%, high yield bonds by 12%, corporates by 13%, oil by 29% and gold, too, by over 4% while the dollar soared. Treasury yields rose through the week as a huge supply hit the market only to fall and close near the lows on Friday. Program trading has never been more prominent, exaggerating the daily swings, scaring investors as it takes no prisoners. We still believe that the market will be much higher by the end of the year as we expect the spread of the virus to peak by the third quarter. But, for the moment, liquidity is king and few, if any, are looking over the valley as investors would.


These are unprecedented times as over 25% of our population has already been told to stay home.  Businesses, schools, flights, restaurants, theaters, casinos, cruises, hotels, retailers, sporting events and much more are being closed for at least several weeks with more closing to come until the virus crests. Small businesses are being especially hit hard. On the other hand, there are a handful of winners those being companies that generate most of their business over the internet 


Web usage worldwide has increased by 25+% over the last few weeks. The web is being used for social media, education, business, entertainment, shopping, healthcare, legal and many other services.  Imagine the increase in clicks at Facebook or the increase in usage on Google’s web browser. We mentioned Amazon as a clear-cut winner last week. This week they announced hiring an additional 100,000 people to meet their extraordinary demand. Alibaba is the Amazon of China. Interestingly, laptop computer and tablet sales like Apple’s iPad have taken off as more and more people need them to traverse the web at home. Smart phone sales are benefitting, too. We expect the trend toward more web usage for business and pleasure will be a long-term phenomenon rather than a short term burst in demand. 


The government is about to introduce several different programs exceeding several trillion dollars for immediate relief to help all Americans get through this period; provide money for healthcare and local governments; prevent companies, both large and small, from closing their doors and losing their teams; and finally, to fund future stimulus to boost the economy. These programs can only serve to stabilize the economy but will not stimulate demand which will only resume once we can leave our homes without fear of the coronavirus.


The coronavirus relief package will total initially around $2 trillion which will include two $1200 direct payments to individuals totaling over $600 billion;  extension of tax payments totaling over $300 billion; small business loans and grants totaling over $350 billion; targeted industry/company loans and grants totaling over $450 billion; unemployment insurance and healthcare grants over $250 billion; state assistance and many other additional loans and grants totaling over $200 billion. These numbers are not finalized yet and may change. Many issues remain like terms of loans, executive compensation, dividend policy, stock buybacks and equity participation.  Again, none of this helps demand but provides needed liquidity to avoid further potential risks to the economy and financial system.  


The government will issue bonds of all durations, even up to 50 years, to pay for these various programs while the Fed will buy treasuries, municipals, mortgages, money market assets and, most likely corporate debt of several trillion to maintain liquidity and stability in each market trying to prevent spreads from blowing out even further. Watch spreads as the key to see how successful Fed actions are in calming the markets. 


The Fed also established a program to lend billions at near zero interest rates to foreign banks to arrest market instability oversea and a lack of dollars.  Other monetary authorities announced similar programs of the Fed: the ECB announced a $820 billion program of public and private sector asset purchases; the Bank of England announced a $232 billion program; the BOJ commenced a $12 billion buy back; and many other countries announced similar plan to buy debt issued by their governments to fund financial relief due to the coronavirus. These programs could easily expand if needed. 


We are in the eye of the storm. We expect it to get darker before dawn as the number of coronavirus cases and deaths rise dramatically immediately ahead. We expect the virus to crest over the next 6 weeks; the curve will then flatten out; and finally, slowly decline into summer. The second quarter will be most impacted with GNP declining by 20% and unemployment rising by several million people. Thereafter, we expect the economy to slowly recover during the third quarter and pick up steam into 2021. Unfortunately, all anyone can see is the immediate future which is bleak indeed. A successful investor must be willing to look over the valley. But major changes in mindsets are in the air and will linger much longer.


Many companies that we had admired and were financially strong have been turned upside down by the coronavirus. The airlines are a prime example. Management had truly done a great job managing the business and balance sheets over the last few years. Most of them were generating substantial free cash flow, increasing dividends and buying in stock. But then the coronavirus hit and demand dropped 75%. Now many of them are facing bankruptcy without government aid. The industry, with a total market value of $50 billion now, is asking for over $50 billion in loans and grants to stem them over until the virus peaks. Buffett would ask for a high paying preferred and low-priced warrants for over a 20% equity stake. Where is Buffett anyway as he owns huge positions in many airlines. What will the government take from Boeing for a $50 billion lifeline to them and their suppliers? Any industry and company that takes money from the government will be burdened for years to come changing their valuations for years. We expect the government to treat small businesses, the backbone of our economy, differently and won’t burden them for years to come. 


We would continue to avoid any economically sensitive areas of the market including the financials, capital and industrial goods, traditional retail, housing and all commodities until we get a better sense when the virus will peak and whether long term demand has been impacted by changes in industry fundamentals and mindsets. 


The one area that really stands out to us remains those companies whose businesses are tied to the internet. As we mentioned, web usage has grown globally by nearly 30% over the last few weeks as more and more people stay home. Each of the companies that we own have superior managements, have market dominant multi source strategies, grow over 20% per year, generate billions of free cash flow per year, have over $600 billion of cash on their balance sheets in total, and are selling less than 20 times earnings.  And future growth may get even stronger as use of the internet grows more than earlier projected. 


We also continue to favor industries/companies with stable demand, increasing profitability, strong cash flow, dividends more than twice the 30-year treasury bond yield and have strong stock buybacks programs out of free cash flow. We particularly like healthcare companies whose growth cycle have just begun and have strong pipelines.


Finally, we continue to maintain well above average cash reserves ready to deploy once we get a better sense that the pandemic is peaking. We own no bonds, no private equity and are flat the dollar. 


All of us are concerned as we are living during unchartered times. History tells us that these opportunities are rare but have always been great opportunities to profitably invest if you maintain a long-term perspective. This too shall pass. 


The weekly Investment webinar will be held on Monday, March 23rd at 8:30 am EST. You can join the webinar by typing https:/zoom.us/j/9179217852 into your browser or dial 1-408-638-0968. 


Remember to review all the facts; pause, reflect and consider mindset shifts; do not listen to cable news; look at your asset mix with risk controls; do independent research and …


Invest Accordingly!


Bill Ehrman

Paix et Prospérité LLC



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