Monday's start for equities is great if you rolled the dice over the weekend long. It's terrible if you came in flat or short. From a long-term investors standpoint, assuming you aren't trying to game bounces, I'd theorize today feels good but isn't necessarily a long-term positive. We have indexes higher by 4% to 6%, but a VIX still holding out for everything it can get. We are under 50, so that's a start, but as I've said numerous times, we need some boring days, a slow crawl higher by .5% to 1% without huge intraday swings. Until that happens, the overnight risk will remain large. The threat of an individual name opening up or down 5%, 7%, or 10% remains.
The market is being propelled by good news on the curve flattening front. The updates from New York this weekend certainly should brighten spirits on the humanitarian front. This, by no means, indicates we've beaten the virus, but the idea, the hope that the virus peaked quicker than expected potentially takes some of the worst projections off the table should it continue for a few more days.
Unfortunately, this doesn't mean life and the economy will return to normal quickly. In fact, I worry some will become too confident too quickly and resume life as they lived it before March 2020. A second flare-up could be devastating, so patience will no doubt be tested as many are feeling some cabin fever.
Even when life returns to normal, we're going to face huge risks to small businesses and individuals. Bank of America (BAC) disclosed it has already seen strong demand for loans under the Paycheck Protection Program. Wells Fargo (WFC) added that it would be restricted to capping its lending to $10 billion due to imposed restrictions caused by its series of scandals and fraud. Never let a good crisis go to waste, eh? Wells would love nothing more than to use the current pandemic and economic crisis as a way to escape its past indiscretions early and somewhat unscathed.
There's great coverage on that news here.
I had the opportunity to get feedback on PPP from several small businesses in this area. While there is optimism, there is also some concern. PPP is fantastic if the bulk of your expenses are driven by payroll, but what about those in a high rent district?
Scott Emley, CEO of High 5 in Austin, TX, runs a family entertainment center. Bowling, video games, axe throwing, laser tag, and full menu/bar. I was able to have a one-on-one conversation with him. His situation involves a lot of hourly employees, some salaried employees, and high rent. Those are going to be the typical challenges of businesses that sit within cities like New York, Boston, Dallas, San Francisco, Seattle, Los Angeles, Miami, and so on.
So, it doesn't necessarily matter what the business does if the relative nature of the core variables are the same.
PPP may be touted as a savior, but what if it becomes a ticking time bomb? Allow me to explain.
The initial bill appeared fantastic, but then the winds shifted. PPP changed so that only the portion of the loan that would be 100% forgiven is that used for payroll, and only within the first eight weeks of receiving the loan. Rents, utilities, and interest would be 25% forgiven with the remainder repaid over the next two years at an interest rate of 4% or less.
I challenge folks to show me a business where payroll is 75% of the costs. Sure, there are some, but they are few and far between in any high rent district, which represents the majority of what is currently shut down and impacted. Therefore, if a business opts to take the PPP, pay employees for eight weeks, pay rent, utilities, and interest, it's likely fine as long as they are back up and running in eight weeks. But what happens if we continue to have closures or limited business?
Do the businesses then furlough people, possibly for a second time? If so, there's a good chance they will never see those former employees again when the business does reopen which could cause business to drag. And during that drag period, they will have an added loan payment from PPP due. If they continue to pay the employees, then the balance sheet continues to take a hit. In other words, if businesses aren't reopened in that eight week time frame, and we know they won't be for at least four more weeks, permanent closures will accelerate.
In short, small businesses are becoming a pass-thru entity for government "stimulus" with little benefit but added risk.
Also, the unemployment income situation has muddied the waters. Employees who were making less than $50,000 are set to make potentially more money being unemployed than employed. The incentive to take the money for eight weeks from their employer with no guarantee that they will actually be back to work at the end of the eight weeks creates a lot of risk for that individual. We already have seen claims going through the roof, and the horror stories of trying to apply currently are plentiful. I doubt many of those folks are in a position where they can go a few weeks without income if there is a break between week eight and getting approved if the company they work for does not yet reopen and that company can't continue to pay them.
Don't get me wrong, something is better than nothing, however, PPP, as large as the numbers sound, won't make a difference if businesses aren't operating again within six weeks. After six weeks, small business owners will be forced to act again before the eight week mark. If they've learned anything from the recent shutdown, it's that you have to act immediately or you will be number 1256 in the queue on hold with the Small Business Administration this morning as was one small business owner I talked with briefly.
There's nothing more patriotic than buying stocks, and that's what we're doing today, but don't mistake patriotism for a turn in the economy. If things aren't set to open by mid-May, today will wind up as a great opportunity to sell in hindsight.