On Monday the DJIA suffered its third-largest percentage loss in history. The only bigger losing days were on October 19, 1987, and October 28, 1929. If that wasn't dramatic enough, the current market also wins the reward for the fastest bear market in history and is setting records for volatility.
History is being made and the action is unprecedented -- and that requires a calm and methodical approach to ensure that we are in a strong position to benefit once the storm has passed.
The easiest mistake to make at this point is to assume that a recovery will be quick and easy. Market participants have grown used to V-shaped bottoms, like that which occurred in December 2018. Central banks have consistently jumped in when the market has struggled and fixed the problems quickly with a gush of liquidity.
Central banks are now taking some of the most-aggressive action ever and Secretary of the Treasury, Steve Mnuchin, is said to be offering a package of $850 billion in stimulus later on Tuesday. There is no question that these efforts will fuel the economy at some point, but in the short term, there is the giant hurdle of trying to quantify the damage that is going to be done by the coronavirus.
Reports are coming out that the White House has an optimistic scenario in which the coronavirus peaks in one month and a pessimistic scenario in which it peaks in three months. The difference between the economic fallout of the two scenarios is many trillions of dollars -- and the psychological and emotional impact can not be measured.
At this point, the market probably has not fully discounted the worst-case scenario and is inclined to embrace any positive news at all. Every time there is a bounce or rally, there is a huge sigh of relief and hope that the worst may be over. It is an understandable emotional reaction, but not a very logical one.
The key issues to keep in mind as you consider this market action are:
- Fiscal and monetary policy moves are likely to be the basis for a countertrend bounce, but unlike prior markets in the past decade, a V-shape bounce is unlikely due to the great uncertainty that still exists about the coronavirus, its spread and the economic damage. The longer it lingers the greater the impact there will be on confidence and sentiment.
- Not only is this now a bear market, but the economy is likely to experience a recession. While it is tempting to believe that the 30% collapse in the past month is already severe enough that it has priced in the worst, that is a calculation that will take quite a bit of time to actually make. Bear markets are a function of both price and duration -- and by any measure, this is a very young bear market. It is going to be a struggle for the market to fully adjust.
- The current action is index driven and not conducive to stock picking. Fundamental and technical conditions don't matter when emotions are driving the market like they are now. The individual merits of stocks don't matter, but when the volatility slows and emotions cool, stock pickers will be in great shape to find the next crop of winners.
- Bounces at this point are going to be used for repositioning. The abruptness of this bear market has caught many folks by surprise and they will be anxious to escape the pain of a prolonged bear market. If they can cut losses into a bounce, they will likely do so. In addition, the bears are now energized and are likely to be more aggressive at shorting into strength. Bounces in an environment like this are very big and very powerful. They tend to last long enough to entice people to think the worst is over. That makes their failure even more miserable, so be emotionally prepared when a V-shaped bounce does not occur.
- What is most notable about the market right now continues to be the very high level of uncertainty. There is much hope that maybe things will not be as bad as feared, but no one is going to know until some time has passed and we see what happens. Risk will remain extremely high for a while, which is why there should be no rush to put capital to work. When the recovery comes, it will last many months and there will be many opportunities. You aren't going to miss out if you rush to buy while the market is still trying to figure out what is going on.
Right now there isn't much for investors to do other than try some short-term directional trades, if that is their inclination. The best vehicles for that are the indices and some of the big-technology names. I have been preaching quite a bit lately that there is no rush to build longer-term positions, and that is still the case. Don't panic buy into a bounce out of fear that you will be left behind.
Anticipation of an announcement of fiscal action is bringing in some buyers, and in view of the recent pattern of action, a sizable countertrend move at this time is likely.