Toto, I don’t think we’re in Kansas anymore

i_don_t_think_we_re_in_kansas_-_Google_SearchBy David Nelson, CFA CMT

After having a weekend to reflect on the previous two week’s trading I wanted to share a few thoughts as we head into the coming week. The panic selling we’ve seen in March was met last week by equally violent panic buying. Average daily price moves for the month averaged about 5%. That doesn’t happen unless fear is off the charts and investors have lost confidence in both market structure as well as economic principals.

When bond funds like IOFIX fall as much as 40% in just a couple of weeks, the wheels are coming off the wagon.

The VIX is of course a decent gauge of fear and is now living in the 60’s well above the teens we got used to for so many years. 61 is the new 13. Anyone who’s a student of market history knows the current landscape is unlike anything we’ve seen and without precedent.

Toto, I don’t think we’re in Kansas anymore

Vix panic

With most of America resembling a Mad Max movie it feels like we’ve crossed into the land of OZ. We’re all looking to the Wizard to point the way home but deep down we know its going to be harder than just clicking our ruby slippers.

Last week was an important low but not necessarily THE low. There are far too many unknowns. Deleveraging has played a major role in the decline as funds eliminate margin and some leveraged ETFs restructure. Over the weekend Direxion announced it is converting 3X levered ETFs to 2X. Investors have mixed views on them, but I find them toxic. They only serve to disguise short selling or putting your account on margin. Additionally, this episode is now a credit event that has spilled over to some parts Financial sector exposed to the energy complex through revolving loans or credit default swaps.

THE low

China goes back to work

Over the weekend officials in China say their industrial complex is back up and running. The epicenter and effectively the heart of the crisis is open for business. With COVID-19 cases crossing 724,000 worldwide and your favorite news channel virtually reporting every death in real time it’s easy to fall into the trap there’s no end in sight.

There’s of course another side to this story. Ultimately, the economy repairs and investors return but the larger question remains what will victory look like and more important what will be the cost?

I know it seems hard to believe but, in the end, stocks will follow earnings. When investors understand what companies like Apple (AAPL) or Disney (DIS) are going to earn over the next 12 months they’ll be able to put an appropriate multiple on it and discount future earnings and cash flow. Without that information all we have is the chaotic trading as investors price in what they believe is the worst-case scenario.

Usually, when we get to the end of the quarter, we talk about the coming conference calls trying to discern which companies will meet or beat expectations. The guidance that follows on the conference call usually determined the next day’s trading. Guidance – there won’t be any. CEO’s have no better idea about what sales and earnings look like for the next quarter than you do.

Next week we have the usual basket of economic data but given last week’s monster 3.3 Million claims number all eyes will be on the end of weak employment data. Claims are expected to add another 3.5 Million to the unemployment rolls with some economists expecting 20 Million or more in the weeks ahead. The GDP data will be equally frightening. More important is progress in minimizing the spread of the virus and the pace of economic normalization.

*At the time of this post some funds managed by the author we’re long AAPL