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Investment Outlook

April 6, 2020



pdf This report of April 6 is available as a PDF »

Alan S. Bernstein


By the end of March, it became clear that beating back the coronavirus in the absence of a vaccine would probably take a lot longer than anyone anticipated. The United States is still in the relatively early stage of the coronavirus pandemic. Currently the number of infected and deaths are reported at 273,808 and 7,020 respectively.1 The final numbers will be substantially higher. The economy is already being materially impacted as workers and consumers practice social distancing and self-quarantine.

From an investment standpoint, we need to formulate some idea about the prospects for containing the virus, how deep the economic contraction will be as well as the likely shape of a recovery, the impact on corporate profits, and finally a reasonable framework around which to understand the attractiveness of the U.S. stock market.

Here is a summary of our findings and thinking based on more detailed discussion in this memorandum:

Table 1 shows the internal rates of return (IRR, excluding dividends) on the S&P 500 index assuming full recovery in two, three, four and five years. The point is that there is no other asset class that offers such potential investment returns. Moreover, the S&P 500 Index current dividend yield is around 2.3%, which compares favorably to the 10-year and 30-year Treasury bond of 0.5745% and 1.2054% respectively. Of course, the Index dividends will likely be reduced as the economy contracts. However, the current gap between the Index yield and Treasury rates is extraordinary.

Table 1

Returns on the S&P 500 Index
S&P 500 Index
High on February 193386
Low on March 232237
% Decline-33.9%
Number of years from Trough to PeakIRR Per Annum
2 Years23.0%
3 Years14.8%
4 Years10.9%
5 Years8.6%

This analysis is not intended to downplay the severity and tragedy of the coronavirus crisis. For most of us, we are in the midst of an historic event, extraordinary for its widespread adverse social and economic consequences. Investors regard the coronavirus as a “black swan” because it was largely unpredicted and had a disproportionate negative impact on capital markets.2 One reason that it will take longer for the market to recover is that stock valuations in the future may be discounted by a black-swan risk factor. There are many possible events that could produce a black swan: a war with an adversary such as North Korea or Iran; a terrorist event such as the 9/11 attacks, or even another pandemic. The black-swan event that we worry most about is the economic consequences of the dramatic increase in federal debt. The Treasury will have to undertake massive deficit financing to fund CARES and possible future legislation. Moreover, the federal budget will be pressured in coming years by rapidly growing expenditures in social security, Medicaid and Medicare. It is highly unlikely that the federal budget will be brought into balance again in our lifetime. The consequence will be to test investors’ faith in U.S. creditworthiness and the dollar. While understandably this is not an issue currently on the mind of investors, no one knows for sure where the tipping point lies.


Data on the Virus

As bad as the coronavirus is, there is evidence that it can be contained in about three or four months provided there is enforced social distancing and self-quarantining. In China there has been a marked decline in the number of new deaths after about a four-month period. South Korea seems to have brought the coronavirus under control in a little over one month. There are reports that Italy is beginning to flatten the curve of new infections and mortality rates. Governor Cuomo has stated that he expects New York to peak in the next couple of weeks.

To eliminate the coronavirus threat will require a vaccine, which may be more than a year away. The one positive is that many companies and research organizations are working on the problem and there are already some promising possibilities such as Gilead’s Remdesivir. Johnson & Johnson announced on March 30 that it has a lead candidate that could be available for emergency use in early 2021. At the same time, it is expanding its vaccine manufacturing capacity. Other companies that have announced work on a vaccine include Moderna and BioNTech, which is partnering with Pfizer and Shanghai Fosun Pharmaceutical Group.

A number of stopgap solutions may be more promising in the short term. For example, injection of antibodies contained in the plasma of individuals who survived the coronavirus may reduce the severity of illness of at-risk infected patients.3 There already exist certain drugs such as Hydroxychloroquine and Chloroquine that may alleviate certain symptoms of the coronavirus without curing the patient.4 Another drug that China has reported as effective is Favipiravir, which is approved in China and on the NIH radar. Leronlimab, an experimental HIV drug made by the biotech company CytoDyn, has been used to treat a handful of severely ill patients in New York City hospitals; a couple were able to be removed from their ventilators.5

The point is that a massive effort is developing globally to find pharmaceutical solutions to the crisis. It is not clear how well this effort is being coordinated and whether there is adequate communication among competing groups, but it seems likely that effective drugs will be found; we are just not sure of the timing.

In the testing arena, it is noteworthy that Abbott Labs announced that the FDA authorized a coronavirus test that takes five minutes.6

After months of maddening delays, some progress is being made to produce ventilators, face masks, hospital gowns, and related equipment and accessories to extend life for the most seriously afflicted and to protect healthcare workers.

Fiscal Policy

Three pieces of legislation have been promulgated by Congress and signed into law. The first two, enacted on March 6 and March 18, provided $113 billion to the Department of Health and Human Services, as well as paid sick leave to infected persons, additional unemployment insurance and free virus testing. A third piece of legislation, called the Coronavirus Aid, Relief, and Economic Security Act (CARES), became law on March 27 and provides an estimated $2.3 trillion. The principal programs are listed in Table 2.

To put the massive scale of CARES into perspective, $2.3 trillion represents a little over 50% of the projected federal budget for 2019 and about 11% of total GDP. The specific programs seem well targeted to relieve affected business, workers, municipal governments, and the healthcare sector, the implementation is feasible, and there is accountability. It is impossible to measure the impact that CARES will have on the economy. It seems clear that without the CARES fiscal support, the economy and employment would be significantly worse. The main purpose of CARES is to provide interim income to households for support, and to allow businesses to retain employees and to survive the downturn already underway.

Table 2

Composition of CARES Act Programs
Billions $
Expand Unemployment Benefits$260
One-Time Checks to Individuals$290
Small business Loans & Grants$377
Loans Large Businesses, State & Local Governments$510
Aids to States$150
Health Related spending$180
Industry Support (Airlines, etc.)$72
Other Programs$461
Estimated Total Cost$2,300

The federal deficit will materially increase. The March forecast of the Congressional Budget Office (CBO) projected a deficit of $1.1 trillion or just under 5% of GDP.7 5% has generally been regarded as a prudent boundary above which the government should not venture. CARES alone will likely double the current deficit and add very substantially to the Treasury’s bond financing operations.

Federal Reserve and Monetary Policy

On March 15, 2020, the Federal Open Market Committee reduced the federal funds target rate by a full percentage point to the 0 to ? percent range. Chairman Powell has made it clear that the Fed will take whatever action required to support the financial system. The following actions were announced on March 238:

In the past few of weeks, there were reports of some seizing up in debt markets, which the Fed’s new policies are designed to alleviate. Liquidity and properly functioning credit markets hopefully will not be an issue during the period of the coronavirus crisis.

United States Economy

As of this date, there are not many detailed forecasts for the U.S. economy that take into account the impact of the coronavirus. The two that we have reviewed, issued by Goldman, Sachs and Credit Suisse, are quite positive. Goldman, Sachs expects that GDP in April will be lower by 13% from January 2020 levels. The second quarter as a whole is projected to show a 9% decline in real GDP from the first quarter. The extent of the decline is virtually unknowable, but what is remarkable is that the GS staff looks for a double-digit rebound in the second half, though not enough to prevent GDP from declining in 2020 by around 6%. In 2021 and 2022, according to GS, the U.S. economy is expected to show real growth in the mid-single-digit rates, regaining 2019 levels in this period.9 The economists at Credit Suisse recently revised the firm’s GDP forecast along the same lines — a precipitous drop in Q2 followed by a healthy rebound in Q3 and Q4. They expect the economy to regain the 2019 GDP level in early 2022.10

Clearly the amount of time required for a full recovery is a major question. The only evidence thus far is from China, where recovery is underway but remains challenged. Bloomberg tracks economic indicators in China of which the following are showing an upturn: road congestion; marine vessel movement; seasonal people migration; air quality deterioration; refinery runs; and coal consumption.11 However, demand for the output of many Chinese factories (particularly those dependent on exports) has evaporated, and consumers in China are reluctant to spend.12 The consensus of economists is still for China to show modest growth in 2020, obviating a recession. The most important takeaway is that China will probably not experience a “V-shaped” recovery, and most likely, neither will the United States.13

Corporate Earnings and Market Valuation

It is too early for a consensus to develop around the impact on corporate earnings in 2020 and the level to which they may recover in 2021. In 2019, S&P 500 Index earnings per share were around $165. The lowest current forecasts in 2020 are in the $110 to $125 range.14 A good working hypothesis is that earnings will likely fall into this area. From a market evaluation standpoint, what matters is not 2020 earnings, but rather the level to which earnings could recover in 2021 and thereafter. If one were to assume a gradual recovery over three years, the earnings progression would look similar to the shaded forecasts in Table 3.

Table 3

S&P 500 Index Operating Earnings and Projected S&P 500 Index Levels
2019$165.00 1.2%
2020$117.50 -28.8%
2021$135.00 14.9%Assumes 3-year Recovery
2022$150.00 11.1%
2023$165.00 10.0%
S&P LevelPrice/Earnings
Current (04/03)2489 21.2 S&P/2020 EPS
Target Yearend
20202700 20.0 S&P/2021 EPS
20213100 20.7 S&P/2022 EPS
20223230 19.6 S&P/2023 EPS
Source: Bloomberg, Stratigraphic

Table 3 also contains an assumption about the recovery in the stock market — that the S&P 500 Index will recover to the 2019 year-end level of 3230 by the end of 2022, at which point the market will be discounting 2023 earnings of $165, the level achieved in 2019. At first blush this simple model seems conservative, because it is unlikely that the recovery from the economic impact of the coronavirus will take until 2023. However, even under these assumptions, the implied price/earnings ratios in each of the next two years is around 20x, which historically reflects a full valuation and risk.

Recovery from Bear Markets

Table 4 shows characteristics of every bear market (declines of more than 25%) since World War II. Most bear markets, which are measured from the market peak to the market trough, lasted more than a year. The current decline resembles the precipitous drop experienced in the fall of 1987 when the market fell by 33%. Imagine that in four trading days from October 13 to October 19, 1987, the market fell nearly 30%. In this case, the market recovered 20% in about three months and was back to prior peak in less than two years. In every case, the market recovered. But it is worth noting in the two most recent bear markets, two to three years elapsed before the previous peak in the market was reached. The longest recovery time was approximately six years in the case of the 1974 bear market.

Table 4

Market Declines in Bear Markets
PeakPeak to Trough
Market DeclineTrough to Previous
Peak (Months)
Days to
20% Recovery
May-4611.8 -28.5%40.6 364
Aug-5614.9 -21.5%11.2 276
Dec-616.5 -28.0%15.2 163
Feb-668.0 -22.2%7.1 130
Nov-6818.1 -36.1%24.4 121
Jan-7321.0 -48.2%70.0 33
Nov-8020.7 -27.1%3.1 33
Aug-873.4 -33.5%19.3 95
Mar-0031.0 -49.1%33.5 43
Oct-0717.2 -56.8%49.1 14
Source: Credit Suisse

The major conclusion that we draw is that equity investors must provide for their liquidity requirements adequately so that common stocks will not have to be sold off during a bear market when stock prices are depressed. Our model suggests that three years should probably be a good working hypothesis although there is risk that more time will be required for a full recovery.

  1. WHO, Coronavirus Disease 2019 Situation Report-76, April 5, 2020.
  2. The term “black swan” comes from Nassim Taleb’s book The Black Swan: The Impact of the Highly Improbable, 2008.
  7. We can expect the CBO to issue its forecast on the impact of CARES on the federal budget in the coming weeks.
  8. “Federal Reserve announces extensive new measures to support the economy,” Federal Reserve Press Release, March 23, 2020.
  9. Goldman, Sachs, “The US Coronavirus Aid, Relief, and Economic Security Act & the Economic and Investment Implications,” March 31, 2020.
  10. Credit Suisse, “Fresh GDP Forecasts,” April 6, 2020.
  11. “Covid-19 Indicators: China Focus,” Bloomberg, March 23, 2020.
  12. “China Is Open for Business…,” Bird, Emon and Li, New York Times, March 26, 2020.
  13. “China Is Tiptoeing, Not Roaring Back from Virus Crisis,” Nathaniel Taplin, Wall Street Journal, April 3, 2020.
  14. “Strategists’ S&P 500 Index Estimates for Year-End 2020,” Bloomberg, March 26, 2020. The survey contains forecasts for S&P 500 Index earnings for 2020, but the estimates are not dated and many do not appear to have been revised for the impact of the coronavirus.