Tag Archives: corona virus

How COVID-19 May Move Markets

As the pandemic drives markets to the 2018 lows, certain relationships in trends between the markets and the COVID-19 virus are evident.  As social distancing increases, markets continue to fall. So, by looking at the expected breakout levels of the virus, we can assess possible market reactions. The chart below shows the inverse correlation between the expected peaks of the virus and potential lows in the markets: 

Source: FIPhysician – & Patrick Hill  – 3/18/20

In the COVID-19 – SPX model above, the steep red line is a forecast of new cases if social distancing were not in place.  The green line shows how social distancing will flatten the curve of new cases. The blue curve shows how growth in the pandemic may unfold doubling every 4 – 7 days.  The lower chart shows how social distancing correlates to movements in the SPX. As the number of cases peak, there is a related trough in the SPX. Looking at present levels, we are likely to see more selling as the number of cases increases to a possible low of 2000 in the May-June time frame.

Epidemiologists currently forecast the COVID -19 pandemic will unfold in two waves, with the current breakout and remission during the summer followed by a possible second breakout in the fall and winter of this year.  Researchers think the closest analog to the COVID -19 pandemic is the Spanish Flu in 1918, which came roaring back the following winter resulting in a second wave of even greater infections and death. 

The first blue dot shows where the SPX is today at this early stage in the pandemic.  The SPX index may continue to fall as the economic damage increases and GDP declines in the first and second quarters. Two consecutive declines will officially put the economy in a recession.  

The SPX may fall to 2030 in this first wave, which represents a Fibonacci retracement of 50 % from the 2008 low to the 2020 peak.  From there, markets may rebound back up to 2350, a Fibonacci retracement of 61% as the virus breakout fades, relief rally emerges, and economic activity picks up.  However, as this occurs, higher interest rates from massive stimulus spending may weigh on financial markets, as seen in the spike of bond yields, the decline in gold prices and other safe haven assets. 

Consumers who are already financially stretched are being furloughed or laid off, which will trigger loan defaults.  Finally, corporations are now at the highest level of debt since 2008 and are experiencing a steep decline in sales, causing a cash squeeze leading to layoffs.  The most important consideration is that the virus is exposing the heavy reliance on debt on major institutions and consumers in our economic system.

The slide into a recession is evident in announced layoffs by significant corporations. Marriott and other hotels have announced thousands of layoffs. Other hospitality industry companies will follow. Harley-Davidson, GM, Ford, Fiat Chrysler, Nissan, and Tesla have all suspended manufacturing for several weeks in the U.S. Thousands of workers are on furlough until manufacturing resumes. There is a growing risk consumer demand may not return to pre coronavirus levels forcing permanent layoffs.

While manufacturing is 30% of GDP, services contribute 70% of GDP.  Many services can be offered online or via web conferencing.  The present social distancing experiment will provide significant insights into how well the economy can perform when many knowledge workers are working from home.  If working from home is successful, we expect to see more companies permanently move employees to their homes to reduce office space and cut expenses. This has grave implications for the commercial real estate industry and investors of those properties. 

The diverse U.S. economy is likely to recover quicker than the world economy.  However, an earnings recovery may stall due to the fact most S&P 100 companies derive 55% of their sales from overseas and 60% of their profits from international markets.  

Looking at a possible second virus wave in the fall, it is likely that economic damage will grow worse due to increasing unemployment, declining corporate spending, falling consumer spending, and a resumption of social distancing. The second wave fits a decline model seen in 2000 from the Y2K software bug scare.  That crisis was an external event, causing a demand shock, though little supply shock.  The bottom for the NDX did not happen until 18 months after the market peak. The virus seems to be compressing the market drop period as there have been three trading halts of 7% in the markets in just eight days of trading.  SPX support is near 1810 – 1867 in 2016, just above the Fibonacci 38% level of 1708.

In our post of February 14th about the coronavirus triggering a downturn, we saw the strong possibility of the economy sliding into a recession.  In the post we noted that Allianz Chief Economic Advisor, Mohammed El-Arian observed that we are likely headed into a U or L shaped recession:

“…analysts and modelers should respect the degree of uncertainty in play, including the inconvenient realization that the possibility of a U or, worse, an L for 2020 is still too high for comfort.”

Hope is not a strategy. Of course, we hope the virus is contained, lives saved, and the economy can weather the stress on corporations and consumers.  However, as long term investors, we need to look at the reality of what may happen based on research and plan our strategic investments accordingly. Plan for the worst, and hope for the best.

Patrick Hill is the Editor of The Progressive Ensign, writes from the heart of Silicon Valley, leveraging 20 years of experience as an executive at firms like HP, Genentech, Verigy, Informatica, and Okta to provide investment and economic insights. Twitter: @PatrickHill1677.

The Problem With Pragmatism… and Inflation

Pragmatism is seeking immediate solutions with little to no consideration for the longer-term benefits and consequences. An excellent example of this is the Social Security system in the United States. In the Depression-era, a government-sponsored savings plan was established to “solve” for lack of retirement savings by requiring contributions to a government-sponsored savings plan.  At the time, the idea made sense as the population was greatly skewed towards younger people.  No one seriously considered whether there would always be enough workers to support benefits for retired people in the future. Now, long after those policies were enacted and those that pushed the legislation are long gone, the time is fast approaching when Social Security will be unable to pay out what the government has promised.

Pragmatism is the common path of governments, led by politicians seeking re-election and the retention of power. Instead of considering the long-term implications of their policies, they focus on satisfying an immediate desire of their constituents.

In his book Economics in One Lesson, Henry Hazlitt made this point very clear by elaborating on the problems that eventually transpire from imprudent monetary and fiscal policy.

“The art of economics consists in looking not merely at the immediate but at the longer effects of any act or policy; it consists in tracing the consequences of that policy not merely for one group but for all groups.

Nine-tenths of the economic fallacies that are working such dreadful harm in the world today are the result of ignoring this lesson.”


One of the most pernicious of these issues in our “modern and sophisticated” intellectual age is that of inflation. When asked to define inflation, most people say “rising prices,” with no appreciation for the fact that price movements are an effect, not a cause. They are a symptom of monetary circumstances. Inflation is a disequilibrium between the amounts of currency entering an economic system relative to the productive output of that same system.

In today’s world, there is only fiat (“by decree”) currencies. In other words, the value of currencies are not backed by some physical commodity such as gold, silver, or oil. Currencies are only backed by the perceived productive capacity of the nation and the stability of the issuing government. If a government takes unreasonable measures in managing its fiscal and monetary affairs, then the standard of living in that society will deteriorate, and confidence in it erodes.

Put another way, when the people of a nation or its global counterparts lose confidence in the fiscal and monetary policy-makers, the result is a loss of confidence in the medium of exchange, and a devaluation of the currency ensues. The influence of those in power will ultimately prove to be unsustainable.

Inflation is an indicator of confidence in the currency as a surrogate of confidence in the policies of a government. It is a mirror. This is why James Grant is often quoted as saying, “The gold price is the reciprocal of the world’s faith in central banking.”

Confidence in a currency may be lost in a variety of ways. The one most apparent today is creating too many dollars as a means of subsidizing the spending habits of politicians and the borrowing demands of corporations and citizens.


There is plenty of modern-day historical precedent for a loss of confidence from excessive debt creation and the inevitable excessive currency creation. Weimar Germany in the 1920s remains the modern era poster child, but Zimbabwe, Argentina, and Venezuela also offer recent examples.

Following the 2008 financial crisis, many believed that the actions of the Federal Reserve were “heroic.” Despite failing to see the warning signs of a housing bubble in the months and even years leading up to the crisis, the Fed’s perspective was that it exists to provide liquidity. As the chart below illustrates, that is precisely what they did.

Data Courtesy Bloomberg

That pragmatic response failed to heed Hazlitt’s warning. What are the longer-term effects for the economy, the bailed-out banking system, and all of us? How would these policies affect the economy, markets, society, and the wealth of the nation’s citizens in five, ten, or twenty years?

Keeping interest rates at a low level for many years following the financial crisis while the economy generally appears to have recovered raises other questions. The Fed continues to argue that inflation remains subdued. That argument goes largely undisputed despite credible evidence to the contrary. Further, it provides the Fed a rationalization for keeping rates well below normal.

Politicians who oversee the Fed and want to retain power, consent to low-rate policies believing it will foster economic growth. While that may make sense to some, it is short-sighted and, therefore, pragmatic. The assessment does not account for a variety of other complicating factors, namely, what may transpire in the future as a result? Are seeds of excess being sown as was the case in the dot-com bubble and the housing bubble? If so, can we gauge the magnitude?

Policy Imposition

In the mid-1960s, President Lyndon Johnson sought to escalate U.S. involvement in the Vietnam War. In doing so, he knew he would need the help of the Fed to hold interest rates down to run the budget deficits required to fund that war. Although then-Fed Chairman William McChesney Martin was reluctant to ease monetary policy, he endured various forms of abuse from the Oval Office and finally acquiesced.

The bullying these days comes from President Trump. Although his arguments for easier policy contradict what he said on the campaign trail in 2016, Jerome Powell is compliant. Until recently, the economy appeared to be running at full employment and all primary fundamental metrics were well above the prior peaks set in 2007.

Additionally, Congress, at Trump’s behest and as the chart below illustrates, has deployed massive fiscal stimulus that created a yawning gap (highlighted) between fiscal deficits and the unemployment picture. This is a divergence not seen since the Johnson administration in the 1960s (also highlighted) and one of magnitude never seen. As is very quickly becoming clear, those actions both monetary and fiscal, were irresponsible to the point of negligence. Now, when we need it most as the economy shuts down, there is little or no “dry powder”.

Data Courtesy Bloomberg

President Johnson got his way and was able to fund the war with abnormally low interest rates. However, what ensued over the next 15 years was a wave of inflation that destroyed the productive capacity of the economy well into the early 1980s. Interest rates eventually rose to 18%, and economic dynamism withered as did the spirits of the average American.

The springboard for that scenario was a pragmatic policy designed to solve an immediate problem with no regard for the future. Monetary policy that suppressed interest rates and fiscal policy that took advantage of artificially low interest rates to accumulate debt at a relatively low cost went against the American public best interests. The public could not conceive that government “of, by and for the people” would act in such a short-sighted and self-serving manner.

Data Courtesy Bloomberg

The Sequel

Before the COVID-19 pandemic, the Congressional Budget Office (CBO) projections for U.S. budget deficits exceeded $1 trillion per year for the next 10-years. According to the CBO, the U.S. Treasury’s $22.5 trillion cumulative debt outstanding was set to reach $34.5 trillion by 2029, and that scenario assumed a very optimistic GDP growth of 3% per year. Further, it laughably assumed no recession will occur in the next decade, even though we are already in the longest economic expansion since the Civil War. In the event of a recession, a $1.8 trillion-dollar annual deficit would align with average historical experience. Given the severity of what is evident from the early stages of the pandemic, that forecast may be very much on the low end of reality.

The 1960s taught us that monetary and fiscal policy is always better erring on the side of conservatism to avoid losing confidence in the currency. Members of the Fed repeatedly tell the public they know this. Yet, if that is the case, why would they be so influenced by a President focused on marketing for re-election purposes? Alternatively, maybe the policy table has been set over the past ten years in a way that prevents them from taking proper measures? Do they assume they would be rejected despite the principled nature of their actions?


Inflation currently seems to be the very least of our worries. Impeachment, Iran, North Korea and climate change were all crisis head fakes.

The Fed was also distracted by what amounted to financial dumpster fires in the fall of 2019. After a brief respite, the Fed’s balance sheet began surging higher again and they cut the Fed Funds rate well before there was any known threat of a global pandemic. What is unclear is whether imprudent fiscal policies were forcing the Fed into imprudent monetary policy or whether the Fed’s policies, historical and current, are the enabler of fiscal imprudence. Now that the world has changed, as it has a habit of doing sometimes even radically, policymakers and the collective public are in something of a fine mess to understate the situation.

Now we are contending with a real global financial, economic, and humanitarian threat and one that demands principled action as opposed to short-sighted pragmatism.

The COVID-19 pandemic is clearly not a head fake nor is it a random dumpster fire. Neither is it going away any time soon. Unlike heads of state or corporate CEOs, biological threats do not have a political agenda and they do not care about the value of their stock options. There is nothing to negotiate other than the effectiveness of efforts required to protect society.

Given the potential harm caused by the divergence between stimulus and economic fundamentals, it would be short-sighted and irresponsibly pragmatic to count out the prospect of inflation. Given the actions of the central bankers, it could also be the understatement of this new and very unusual decade.

Our Triple-C Rated Economy: Complacency, Contradictions, and Corona

“I got my toes in the water, ass in the sand

Not a worry in the world, a cold beer in my hand

Life is good today, life is good today” – Toes, Zac Brown Band

The economic and social instabilities in the U.S. are numerous and growing despite the fact that many of these factors have been in place and observable for years.   

  • Overvaluation of equity markets
  • Weak GDP Growth
  • High Debt to GDP levels
  • BBB Corporate Debt at Record Levels
  • High Leverage and Margin Debt
  • Weak Productivity
  • Growing Fiscal Deficits
  • Geopolitical uncertainty
  • Acute Domestic Political Divisiveness
  • Rising Populism
  • Trade Wars
  • Corona Virus

As we know, this list could be extended for pages, however, the one thing that will never show up on this list is…? 



As reported by the Bureau of Labor Statistics (BLS) and the Bureau of Economic Analysis (BEA), inflation has been running above 2% for the better part of the last few years. Despite CPI being greater than their 2% target, the Federal Reserve (Fed) has been wringing their hands about the lack of inflation. They insist that inflation, as currently measured, is too low. We must disclaim, this all assumes we should have confidence in these measurements.

At his January 29, 2020 press conference, Chairman Powell stated:

“…inflation that runs persistently below our objective can lead longer-term inflation expectations to drift down, pulling actual inflation even lower. In turn, interest rates would be lower, as well, closer to their effective lower bound.

As a result, we would have less room to reduce interest rates to support the economy in a future downturn to the detriment of American families and businesses. We have seen this dynamic play out in other economies around the world and we’re determined to avoid it here in the United States.”


There are a couple of inconsistencies in Powell’s comments from the most recent January 2020 post-FOMC press conference. These are issues we have become increasingly interested in exploring because of the seeming incoherence of Fed policy. Further, as investors, high valuations and PE multiple expansion appear predicated upon “favorable” monetary policy. If investors are to rely on the Fed, they would be well-advised to understand them and properly judge their coherence.

 As discussed in Jerome Powell & the Fed’s Great Betrayal, Powell states that the supply of money that the Fed provides to the system is to be based on the demand for money – not the economic growth rate. That is a major departure from orthodox monetary policy. If investors had been paying attention, the bond market should have melted down on that one sentence. It did not because the market pays attention to the current implications for the Fed’s actions, not the future shock of such a policy. It is a myopic curse that someday could prove costly to investors.

As for Powell’s quote above, the first inconsistency is that the circumstances they have seen “play out in other countries” have not shown itself in the U.S. To front-run something that has not occurred assumes you are correct to anticipate it occurring in the future. It is pure speculation and quite a leap even for those smart PhDs at the Fed.

“Overall, the U.S. economy appears likely to expand at a moderate pace over the second half of 2007, with growth then strengthening a bit in 2008 to a rate close to the economy’s underlying trend.”  – Ben Bernanke, Testimony to Senate Banking Committee, July 2007

Although we have not actually seen this “dynamic” play out in the U.S. since the great depression, Fed officials are so concerned about deflation that they have begun telegraphing their intent to allow inflation to overshoot their 2% target. Based on current Fed guidance, periods of lesser inflation would be offset by periods of higher inflation.

Our question is, how do they come to that conclusion and based on what analytical rigor and evidence? There is, by the way, evidence from other countries throughout the history of humanity, that when money is printed to accommodate the spending incontinence of politicians, people lose confidence in the domestic currency. That would be devastatingly inflationary, and it is, without question of measurements, where we are headed.

The next inconsistency is that the Fed’s protracted engagement in quantitative easing (QE) over the past ten years has created precisely the circumstances about which Powell warns here – “less room to reduce interest rates… to the detriment of American families and businesses.”

The Chairman of the U.S. Fed, Jerome Powell, should understand how supply and demand works, but as a reminder, the less available something is, everything else constant, the more it is worth. Mr. Chairman, your predecessors removed $3.5 trillion of bonds from the market, what did you think would happen to bond prices and therefore yields?

Powell stumbled head-first into that self-contradiction, especially after watching the fantastic failure to normalize rates through rate hikes and quantitative tightening (QT) earlier in 2019, which caused him to perform a hasty 180-degree policy reversal in the fall of 2019.

We think this is a workable plan, and it will, as one of my colleagues, President Harker, described it, it will be like watching paint dry, that this will just be something that runs quietly in the background. – Janet Yellen, Federal Reserve Chairman, June 14, 2017, FOMC Press Conference

Contrary to the reassurances of Janet Yellen and many other Fed members, it (QT) was a lot more exciting than watching paint dry. That too is troubling.

Wise Owl

In a recent interview on RealVision TV, James Grant, publisher of Grants Interest Rate Observer said:

“Is inflation a thing of the past?… are forces in place today that could reproduce [the great inflation of the 1970s? Inflation by definition, represents a loss of confidence in money. How do you lose confidence in money? Well, you create too much of it to subsidize the spending habits of the politicians. That’s one possible cause and are we on the way to something like that? Well, possibly. In this splendid economy, we’re generating a trillion-dollar budget deficit.”

Grant continues:

“Then two, there is the physical structure of the economy. We live in a world of expedited delivery of just in time rather than just in case. We live in a world of ubiquitous information about supply chains, but maybe if push comes to shove in the world of geopolitics, the supply chains might break. Lo and behold, we might be on our own in America for things we now import, and if we are, those prices would not be so low, they would be much higher.”

Again, pointing back to our recent article referenced above, Jerome Powell & the Fed’s Great Betrayal, there are other indicators of inflation that contradict what the Fed believes. In that article, we discussed real-world examples such as M2 growth, and auto and housing prices, to contrast with the BLS and Fed engineered metrics. Despite a plethora of readily available data to the contrary, we are continually reminded by the Fed of the absence of inflation.

As we know, the Fed just began another round of radical policy accommodation to incite higher inflation. If you pre-suppose a confluence of circumstances that begins to constrict global supply chains, then the inflation Grant theorizes might not be so far-fetched. The Fed, as has historically been the case, would be caught looking the wrong way, and given their proclivity toward wanting more inflation, it would almost certainly be too late to respond.

“Moreover, the agencies have made clear that no bank is too-big-too-fail, so that bank management, shareholders, and un-insured debt holders understand that they will not escape the consequences of excessive risk-taking. In short, although vigilance is necessary, I believe the systemic risk inherent in the banking system is well-managed and well-controlled.” – Benjamin S. Bernanke Fed Chairman confirmation hearing November 15, 2005

“Rather than making management, shareholders, and debt holders feel the consequences of their risk-taking, you bailed them out. In short, you are the definition of moral hazard.” – Senator Jim Bunning at Bernanke second confirmation hearing December 3, 2009

In the same way, there were recorded levels of laughter in FOMC meetings at the absurd incentives homebuilders were offering to sell houses in 2004, 2005, and 2006. The Fed is now equally blind, neglect, and arrogant concerning the perceived absence of inflation. The laughter in the Eccles Building boardroom stopped abruptly in mid-2007 as the housing market stalled. The Coronavirus may be a similar wake-up call with serious economic consequences.

Here and Now

The situation that is developing illustrates the one-dimensional nature of Fed thinking. Despite having the latest news on the spread of the Corona Virus at the January 29, 2020 Federal Open Market Committee (FOMC) meeting, the Fed’s concern was for a slowdown in global growth and failed attempts to prime inflation. There was no consideration for possible second and third-order effects of the virus.

What are the possible second and third-order effects? They are the things that follow after the obvious occurs. In this case, there is no question that China’s growth is going to be hurt by the virus and quarantines, the restrictions on flight and travel, and factory shutdowns. That is obvious.

Consider the virus is now spreading rapidly to other suppliers of U.S. goods and services such as Korea, Japan, and Italy. What might not be obvious is that the growing problem will impede global commerce and cause fractures in the extensive and complex network of global supply chains. Goods and services we are accustomed to finding on the shelves of the local Wal-Mart or via the internet may not be available to us, or if they are, they may come at a cost well above the price we paid before the pandemic. If that occurs, those changes in prices will eventually find their way to the BLS inflation data collectors, and then, as the old saying goes, all bets are off.


There are plenty of uncertainties in the world. Individuals have the decision-making ability to evaluate those uncertainties and the risks they pose. That said, it is difficult to remember a time when the potential turbulence we face has been so broadly ignored by the “market” and so overlooked by the Fed and politicians. It is as though we have been tranquilized by the ever-rising stock market and net worth as an artifact of that fallacious indicator of security.

By all appearances, stock index levels convey not a worry in the world. Indeed, life is good today. We are just not so sure about tomorrow.