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March 2020 will likely be known as the month our economy fell into recession. The circumstances are

April 06, 2020

Our economy is facing unprecedented challenges. As I have said before, we have likely entered a recession in March of this year with this major economic decline. Policymakers have acted fast, delivering sizable fiscal and monetary stimulus that will help mitigate some of the economic decline. Financial markets have experienced exceptional volatility and dislocation and will continue to do so until we can see an end to the virus. By see, I mean that the markets can perceive that we are leveling off on cases in this country. 

There are some key takeaways: 

  • A recession has begun, and its scope and length will be shaped by this pandemic
  • Policymakers have acted quickly and aggressively, with the likelihood of more to come
  • Financial markets will be whipsawed between recurring waves of uncertainty and support from policies of lawmakers

Having experienced many economic and credit cycles, I have learned three critical lessons.

  1. Each cycle is unique – in catalysts, vulnerabilities and challenges. History is enormously helpful but is not necessarily a blueprint for the future. That being said, all cycles do have some similarities that we will discuss
  2. The second lesson is that in the long run, our $20 trillion economy remains vast, dynamic and broadly resilient. When we look with a wider vision, we can see that we do recover; we do find normal again. Our economy does heal from downturns and eventually comes out strong on the other side.
  3. The third lesson is that while in the downturn—both financial and economic – we all feel quite scared indeed. Now even more so because the real problem is a health crisis, not a downturn born by economic or financial issues. Our next normal may well look different from the last decade.

Current projections of GDP (Gross Domestic Product) contraction range from a negative 15% annualized to a 33% annualized projection. Unemployment ranges from a rise to 6% to a rise to 10% for the second quarter.

I think it helpful to look at past recessions and recoveries to see the patterns around employment, balance sheet deterioration and business and consumer confidence.

The steep decline in energy prices has added an additional layer to the issues but it only accounts for 3.9% of business investment a smaller amount today than even the 2014 decline. The decline in employment in this sector only accounts for 470,000 jobs.

We do want to look at the global weakness because that demand for our goods may suffer in the months to come. I believe that this will account for the initial weakness in our recovery, but that too will recover in time.

A look at both the equity and credit markets during prior recessions show that valuations continue to correct lower as the economic slump continues. Since this downturn was swift and severe over a short period of time, it may be a lot shorter than past bear markets as the chart indicates.

March 2020 will likely be known as the month our economy fell into recession. The circumstances are unprecedented, but to some extent, each recession includes its own unique challenges. Past recessions are certainly not a blueprint for the upcoming quarter or year, but there are patterns around employment and recovery that bear noting.

Clearly, the extraordinary shelter-in-place orders are bringing demand to a virtual standstill. After these restrictions are lifted and wide swaths of businesses re-open, consumption will improve. But it remains to be seen whether our recovery is a V-shape, a sharp rebound, or a more common U-shape, with a recovery that is more gradual. I believe the markets will look like V-shaped recovery to start and then gradually slow down to reflect the gradual improvement of the economy and employment.

One of the most painful impacts of a recession is a higher unemployment rate. The first glimpse of jobs data showed a devastating 10 million surge in initial jobless claims in just two weeks, with anecdotal information pointing to many more to follow. In the past, layoffs and unemployment have risen sharply in the beginning of a recession and have taken time to recover. In fact, it is usually several months (or more) after a recession ends until the jobless rate peaks. If you go back to 1973, and look at the past 6 recessions, most recover within 5 months with two exceptions, 1990 and 2001 where the recovery was over 15 months.

This is one of the most significant lessons of prior slowdowns. Once the economy has been disrupted, businesses and households become more cautious. Balance sheets deteriorate, meaning consumption does not instantly return to pre-recession levels. Workers who get laid off may have to take inferior jobs and do not automatically pick up where they left off once the recession ends.

Fast action on stimulus is extremely important in all the past recessions. We are seeing huge fiscal and monetary stimulus and more to come. This is a critical lesson from past contractions and one that shortens the recovery time.

The real issue will be how and when these stimulus dollars will impact the actual economy. This fiscal booster shot may not truly be felt for several months, which may not help much in the Q2 decline, but would improve the growth prospects for the second half of the year. Some economists are projecting a growth in the third quarter and fourth to be 3%. The length of the shutdown will determine whether it starts in the third quarter or fourth.

Stock markets are by their nature forward looking, and they often turn optimistic as they see the green shoots of a recovery before it turns into broad-based economic growth. Policymakers have probably only begun to offer stimulus – eventually headwinds dissipate enough so that policy becomes a powerful tailwind. Now, the Fed’s policy of unlimited QE (Quantitative Easing) may, at some point, offer a boost to equities once markets sense the end of economic uncertainty.

Now that is enough of my economic overload. What to expect? If we look at South Korea, we can get a better picture of the probability of our recovery since we are modeling their policies. South Korea began seeing cases in mid-February. The cases peaked at the beginning of March. Today the cases are 1/8th of what they were at the peak. This is not zero cases. They are still reporting about 100 cases per day, but the drop in cases over a short period of time gives us hope. 

Hope is a good thing. I hope that this report gives you hope and a perspective. I am going to keep you informed. Please pass on to those that may not have hope. 

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