A Viral Market Meltdown Part II: Clues in the Debris!

In the days to come, there will be more information that comes out about not only how the virus is spreading across the globe but also on its consequences for businesses and economies. To provide a measure of how this will affect stock values, I computed the value of the S&P 500 (which stood at 2972.37 on March 6, 2020) as a function of what I believe are the two big uncertainties; the effect that the virus will have on earnings in 2020 and how much it will affect long term earnings growth:

Note that the big concern, if you are an investor focused on value, is not how much the Corona virus will affect earnings this year, but how much of that earnings drop is permanent. If you are in the camp that believes that there will be an earning drop, but that it will be fully recouped, stocks look cheap even if earnings drop by 20% in 2020. Conversely, if you believe that this earnings drop is likely to be permanent, with none of the drop being recouped, the value drop will be more closely linked to the earnings drop and suggests that there is more pain ahead for the market.

Needless to say, there will be plenty of distractions in the coming weeks, but my suggestion is that you stay honed in on the value determinants, screening news stories for consequences for these determinants. In particular, I plan to watch the following developments:

I know that my view that T.Bond rates staying low and getting lower is not a positive but a negative for stocks puts me in the opposite camp from those who believe that the Fed will be the savior. When rates are as low as they are, central banks are more helpless bystanders than powerful trend setters, and the message about future growth that is imputed in low rates more than drowns any short term positive effects.

As I write this analysis of how the virus can affect stock market values and portfolio returns, I am aware that there is a human toll that it is taking that makes any market effects seem trivial. If I were given the choice, I would trade a large market drop for a small loss of lives and a quick passing of the virus. At times like these, I am reminded again of the fragility of life and the importance of good health and family. Be well, Godspeed and please wash your hands!