Monthly Insights | 2020.02

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Market Recap

Last month we raised the possibility of a market downturn due to the coronavirus being worse than expected. The market has held up, thanks to the Fed’s continuing intervention, but almost 400,000,000 people are under quarantine of some sort in China. The Fed continues to fund the repo market, but at a shrinking rate. Hopefully this will end better than the interest rate increases did in 2018.

Jobs continue to be strong in the US, with the Commerce Secretary even suggestingthat the coronavirus could end up as a positive force on the US economy. While it certainly dampens the Chinese economy, its effect on the US market has yet to be felt.

Finally, we saw, as we predicted, the impeachment process is over. With all the other noise, it’s hard to understand the outcome’s real impact to the market, but many have presumed that the outcome was baked into the market already.

Market Outlook

We believe that the Fed will have an outsized impact on the market as long as they are adding funds to its balance sheet….unless the coronavirus (now named “COVID-19”) infections grow significantly outside of China or disrupt supply chains. In which case, all bets are off. Harvard thinks this may be likely, and the Director of the CDC stated that it is not yet contained. Remember, before January 16th, nobody had really heard about it yet. If it spreads far beyond China, an interest rate cut could be possible.

On another front, we know there is a liquidity problem somewhere deep in the heart of the banking system, as the Fed would not be in the repo market otherwise. However, nobody knows where it seems to be, or they aren’t saying if they do know. For a good overview of the repo market, check these twolinks. We have suspicions that the impending end of the LIBOR benchmark might be partially to blame for causing anxiety in the credit and banking markets.

There is a good argument among economists whether the Fed even understands the second order effects of what they are doing. We aren’t going to jump into that argument other than to say that complicated systems often have surprising effects that members of the Fed don’t even understand. Oddly, we’ve seen something similar to this situationbefore, and figured out how to resolve it

Since the outbreak of the COVID-19 virus, we’ve seen projections of Chinese GDP that steadily get revised lower, yet still show Chinese GDP in the 5% range. We believe that the economic impact of COVID-19 will be much larger than expected, and last longer longer. If correct, then those GDP projections will be overly optimistic. By many measurements, the economic impact will be quite large (at least to China).

Quick Tip

With interest rates still at historic lows, many people have found their bank savings accounts have become redundant. While savings accounts are FDIC insured, most people don’t know that you have other alternatives that offer safety as well.

One option is to get an FDIC insured CD in your brokerage account. While often thought of as a long term savings vehicles, CDs are available for as little as one-month duration, and significantly higher rates than most banks pay. A recent check of the big US banks showed interest of less than 0.25%, while we saw several FDIC insured CDs on our Schwab brokerage platform yielding 1.50% or more.

Another option is to buy US Treasuries. At the time of writing, there were more that 4,700 of them, ranging in terms from 1 week to 30 years. US Treasuries are backed by the full faith and credit of the US government. You can find current rates here from the Treasury Department.

As long as you keep the CD or Treasuries to maturity, you will get the full face value plus interest. You may also want to read the US Treasury Department’s short overview on T-Bills (short term Treasuries).

Words of Wisdom

“Only two things are infinite, the universe and human stupidity, and I’m not sure about the former.”

― Albert Einstein