Navigating the Pandemic and Beyond

The economy has just gone through the deepest recession on record. It is our job to forecast the path forward including how the Fed and government will respond; what the implications are for asset allocation; who will win/lose throughout this period and beyond; and then invest accordingly.  Our 2021-2022 economic forecast is premised on the successful development of fast response testing, additional therapeutics, and vaccines which, along with the use of masks and social distancing, will mitigate the spread of the virus since it is the root cause of shutting down our economy and most of the industrialized world.
While deaths continue to rise, the decision by states to curb opening, more widely use masks, and insist on social distancing has finally turned the rate-of-gain curve down. However, the damage is done as the economic recovery has been slowed; businesses have delayed opening further and are permitting employees to continue working at home for an extended period of time; school openings are in doubt, and consumer/business sentiment has been hit. We still expect the economy to remain on a recovery path but it will not be as quick as earlier assumed.
The news on testing, therapeutics, and vaccines is positive. For one, getting test results back faster is finally happening and several drug companies have announced they will have additional therapeutics and even vaccines available in the fall. Pfizer, for example, expects to have Phase 3 results within a few months and will be able to provide one hundred million doses before year-end and one billion by the end of next year. Other companies are just as optimistic although their time frame is further out into 2021 before getting results and supplying the market. We are very encouraged by comments from J and J, Astra Zeneca.  Sanofi/GSK, Moderna, and several others such that we are confident that vaccines will be readily available for all by the end of next year which plays into our view that it will take until the end of 2022 or 2023 for the economy to return to pre-pandemic levels.
While we were not surprised that the Fed maintained its commitment to maintain near-zero rates and supply all the liquidity needed by the economy, we were taken back by some of Powell’s comments at the news conference following the decision. He must have said three times that the thought of raising rates is just not in their thought process and it won’t be for a minimum of 2.5 years. He went on to say that there were many more tools available to them to provide added liquidity to support the economy. Of course, he added that we need federal government programs too, to support and stimulate demand. Real growth stocks deserve a high valuation in a zero rate environment coupled with slow economic growth.
The U.S economy contracted at a record 32.9% annual rate in the second quarter and unemployment claims rose again last week as the impact of states slowing openings filtered through the economy. While we still expect the economy to improve sequentially, it is clear that the rate of gain will be less than earlier projected even with better testing, better therapeutics, and vaccines. Unfortunately, our politicians’ have yet to pass a stimulus bill to replace the Cares Act which expires today. It is simply incredible how both parties cannot get together and put America ahead of their own agendas. The pressure will increase each day for them to pass something What a government!
Unless the economy meaningfully improves between now and November, we believe that Biden will win the election and the Democrats may possibly gain control of the Senate, too, giving them total control in D.C. We really doubt that Biden and the Democrats would pass any legislation that could deter the economy from fully recovering to pre-pandemic levels such as tax hikes. We would, however, expect bills to stimulate demand such as a huge infrastructure bill. If Trump were to win, we would also expect bills to stimulate demand. The bottom line, we are not worried about the election results impact on the financial markets for now.
We do not expect growth overseas to outpace the United States as many think. Most of these economies rely more on production and exports than domestic consumption. The U.S really is the engine of the world and global demand and trade won’t really take off meaningfully until our economy does. China is first out of the gate as the pandemic is for the most part behind them but their recovery, too, won’t be as strong as many anticipate until global demand improves.
Before we go on to our investment conclusions, we want to discuss another of our core beliefs which relate to evaluating management. As our Harvard-educated client who is a prominent business consultant said: “The impact of either good or bad management, especially the CEO, on sustainable shareholder returns cannot be overstated. They are the only ones that can set objectives; set priorities; set the right decision-making process and standards; structure the organization to maximize transparency and accountability; establish the right culture, and maximize  long term profit growth and shareholder value vs. near term revenues or short term eps.” We cannot agree more. It is a shared core belief.
Investment Conclusion
We remain fully invested.  We are living during an unprecedented period of excess liquidity created by all monetary bodies along with trillions of dollars of fiscal stimulus provided by all governments. All of this is far in excess of the needs of the real economy and it is, therefore, forcing investors further out on the risk curve owning stocks, industrial commodities and gold. Even though we expect the recovery to be uneven, the global economy will slowly but surely improve over the next several years, which should lead to higher operating rates, some acceleration in inflation albeit muted by historical standards, and steepening yield curves. We would continue to avoid all bonds with durations over 5 years.
We have argued, against the consensus, to continue to own the tech growth companies that have benefitted from the new normal. Their high multiples are sustainable during this period of virtually 0 short term interest rates; the 10-year treasury around 0.5%; the 30-year yielding under 1.2% and a sluggish recovery. Wow! We also continue to invest in moderate growth defensive companies yielding around 3% as a great alterative to cash and bonds. Finally, we also recommend owning gold and industrial companies which should benefit from the huge amount of excess liquidity in the world.
Listening to this week’s earnings calls drove home how important management can be to the success of a company regardless of the environment. We spend an inordinate amount of time analyzing and grading management which has served us well over the years.
Our weekly webinar will be held on Monday, August 3rd at 8:30 am EST. You can join the webinar by entering in your browser or dialing +1-6465588656 and entering the password 9179217852.
Remember to review all the facts; pause, reflect and consider mindset shifts; look at your asset mix with risk controls; turn off cable business news; do independent research and …
Invest Accordingly!
Bill Ehrman
Paix et Prospérité LLC

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