1st Quarter 2020 Update

April 28, 2020

Key Points

• The global economic environment is now in a serious downturn, with no region spared as a result of governmental efforts to slow the spread of COVID-19
• Central banks around the world have taken aggressive action, but are now limited in any additional response as interest rates have now hit zero percent as the lower bound
• The yield on the benchmark 10-year US Treasury note ended the quarter at 0.67%, compared to 1.92% on December 31
• Collapsing oil prices resulting from the production war waged by Saudi Arabia and Russia has resulted in a pullback in investment in the energy industry

THE GLOBAL ECONOMY

The global economic environment is now in a serious downturn, with no region spared. Significant portions of the U.S., European and Asian economies are effectively shut down. A shutdown of this magnitude is unprecedented, and while the US economy had been in the midst of the longest expansion on record, the economy is undoubtedly now in recession. While the economic effects of the COVID-19 coronavirus are just beginning to appear in the data, the US economy’s growth remained steady in the fourth quarter of 2019 (the latest quarter reported).

Central banks around the world have taken aggressive action, but are now limited in any additional response as interest rates have now hit zero percent as the lower bound. In the US, Congress passed a $2 trillion stimulus package providing substantial financial support to hard-pressed households and businesses. Other governments around the world will likely follow suit, and the extent of the economic damage COVID-19 ultimately inflicts will depend both on how governments respond and the path the virus takes.

The Federal Open Market Committee (FOMC) was aggressive in taking action in providing a policy response to the outbreak of the COVID-19 virus. The committee lowered the federal funds rate target to a range of 0% to 0.25% from 1.00% to 1.25%. The FOMC is doing everything it can from a monetary policy perspective, but is now limited in any further steps it can take. In addition to slashing the federal funds rate, the FOMC also launched another round of quantitative easing, totaling $700 billion. As part of this program, the Fed will purchase $500 billion in US Treasury securities and $200 billion in mortgage-backed securities. In its statement accompanying the lowering of the federal funds target, the FOMC said rates would remain extremely low until the committee is confident the economy has “weathered recent events.”

Below, we’ve highlighted broader market returns for the 1st quarter and year-to-date time periods:

Source: Refinitiv

FIXED INCOME

Fixed income securities’ prices and yields were of course impacted by both policymakers’ actions and investor behavior resulting from the COVID-19 outbreak, with total returns on fixed income securities were mixed, with generally positive returns in the Treasury securities segments, and negative returns in the credit portions of the market. Demand for US Treasury obligations was high in the risk-off environment that defined financial markets throughout the month of March. High volatility defined not only equity markets, but fixed income markets as well during the month. As mentioned above, the FOMC was quick to step in with aggressive action in an attempt to ensure sufficient market liquidity and to mitigate the potential economic impact from a monetary policy perspective.

By the end of the quarter, the yield on the benchmark 10-year US Treasury note had plunged, ending at 0.67%, compared to 1.92% on December 31.

EQUITIES

From the perspective of stock prices, it was a tale of two markets in the first quarter. Strong economic data through the fourth quarter of 2019 had led to positive gains in most broad market indexes through January and much of February. Indeed, some stock indexes set all-time highs on February 19, before the full extent of the spread of COVID-19 was known. From that point forward for the rest of the month, stocks went into a tailspin, with the S&P 500 Index declining more than 30% over the ensuing 24 trading days. The bull market that had begun 11 years earlier was now over, and the market was in correction territory. Volatility also spiked to all-time highs, and remained elevated for many days. Stock prices steadied in the last week of the quarter, as investors digested the potential longer-term economic effects of the virus.

SUMMARY

Without question, the outbreak of the COVID-19 virus has quickly wreaked havoc on a US economy that had been in the midst of its longest expansion on record. Economists are of the consensus that the economy has fallen into a recession, with the only questions being how deep the downturn will be and whether it will be reflected in the first quarter or second quarter results.

Some analysts believe that there could potentially end up being three phases in which the virus impacts the US economy: The first is the current environment of shutdowns and related layoffs. Weekly unemployment claims have surged to all-time highs. A material portion of the recently passed $2 trillion stimulus bill is designed to help mitigate these issues by incentivizing businesses to retain employees through the shutdown period. Analysts believe the second phase will take place when the negative impacts of the wealth effects are realized. The essentially forced shutdown of a large portion of the economy has meant significant losses of wealth for households, as the stock market has shed an estimated $10 trillion. Consumers will naturally pull in the reins on spending. A potential third phase would be a contraction in business investment. Collapsing oil prices resulting from the production war waged by Saudi Arabia and Russia has resulted in a pullback in investment in the energy industry, and if the shutdown persists for any length of time a contraction in other industries will likely follow.

What most economists and market analysts seem to be in agreement on is that the extent to which the virus will adversely impact the economy will be determined by how quickly the trajectory of the virus is slowed, and the magnitude of the policy response.

Information provided is for informational purposes only and should not be construed as investment advice. The views expressed are current only as of the publication date, are based on information that St. Clair Advisors believes to be accurate, and subject to change without notice. All investment decisions must be evaluated as to whether they are consistent with your investment objectives, risk tolerance and financial situation. St. Clair disclaims any liability for any direct or incidental loss incurred by applying any of the information in this publication. Indexes are unmanaged and one cannot invest directly in an index. Past performance is no guarantee of future results.

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