Answers to FAQs about the recent market disruption

1. Wasn’t
the market due for a correction anyway?

drawdowns typically don’t just happen for no apparent reason. They are the
result of economic and/or policy uncertainty. The outbreak of the coronavirus
and the potential “cure” for the virus—shutting down large segments of the
economy—are more than enough economic uncertainty to warrant a market drawdown.

2. What
will be the ultimate hit to US economic activity?

It is too soon
to tell with any precision. The ultimate loss in economic activity will depend
on the severity of the outbreak and the need to shut down large segments of the
US economy. The good news is that heading into the crisis the US consumer is
strong and the banking system is well-capitalized, suggesting that growth will
rebound once cases peak. However, a V-bottom (a sudden quick reversal of a
bearish trend) will not happen until we have more clarity on the economic hit
and greater confidence in the government response.

3. Will
policymakers respond with overwhelming force to support the economy and

Yes, but it
will have to be a three-pronged approach led by the medical community, monetary
policymakers and fiscal policymakers. The US Federal Reserve (Fed) can work to
ease financial conditions but cannot, unlike in 2016 and 2019, overcome the
potential hit to economic demand alone.

  • Medical: It is essential for the medical
    community to drastically increase the number of people being tested so that the
    public can get a better handle on the situation.
  • Monetary:
    The Fed will do
    everything in its power to ease financial conditions. This likely includes
    lowering the Funds Rate to the zero bound (the futures curve has already priced
    this in1) and aggressively expanding liquidity provisions to the
    nation’s banking system.
  • Fiscal: The Trump Administration is working
    to get money into Americans’ pockets (proposing payroll tax cuts) while the
    Democrats will likely focus on a healthcare-heavy response (free coronavirus
    testing, enhanced or extended insurance). It may take time to bring the two
    sides together.

4. Why are
US Treasury rates so low?

Growth and
inflation expectations have fallen rapidly.2 The bond market is now
pricing in very modest growth and inflation across all maturity periods. The
10-year US Treasury rate is now meaningfully below the long-term projected US
real growth rate of roughly 2%.3

5. How low
can the S&P 500 Index go?

The US stock
market has already declined by 20%, with 70% of stocks down by nearly 20%.4
Both are in line with the end of the market drawdowns in 2011 and 2018. That is
not to say that stocks can’t go lower. History reminds us that equity bottoming
is typically a drawn-out process and, in this instance, may take additional
time as investors look for signs that the number of coronavirus cases has
peaked. Our bad-case scenario, resulting from a full-bore US economic recession,
would likely drive the S&P 500 Index towards the 2018 lows of 23,000.
Again, that is a bad-case scenario and not our base case.

6. What should I be worried most about, economically?

Declining oil prices and widening credit and interbank lending
spreads. The collapse in energy prices is pressuring the over-levered energy
sector, many of which source funding in the high yield bond market as well as
the US banking system.

Credit spreads  had widened out to nearly 650 basis points, as
of the market close on March 10, 2020, as they have rapidly moved toward levels
reached in 2016 and 2018.5 We expect spreads could
continue to widen as the disruption in economic activity
continues. Spreads would have to remain elevated for a sustained period
for there to be a meaningful contraction in credit growth and economic

7. Are there any reasons to be
optimistic, amid all the concern?

Yes. There are many signs that the market selloff is closer to the end
than to the beginning.

  • The
    put/call ratio is at its highest level since December 2018.6 (Puts
    are the right to sell a security at a specified price to another trader. Calls
    are the right to buy securities from another trader at a predetermined price.
    The put/call ratio is the proportion of puts vs. calls purchased on a given
  • The VIX
    curve is as severely inverted as it has been since 2008.7 (The VIX
    is the Chicago Board Options Exchange’s Volatility Index.)
  • The
    copper/gold ratio (the number of ounces of gold it takes to buy an ounce of
    copper) is as extreme as it has been since 2015 and before that 2008.8
  • Stocks, per
    the Fed model, are as cheap to bonds as they have been at any point in this
    market cycle.9
  • 95% of the
    S&P 500 companies have a dividend greater than the 10-year US Treasury rate.10
  • The ratio of
    the index level of S&P 500 cyclical stocks to the index level of the S&P
    500 defensive stocks is as low as it has been at the end of each of the past
    economic downturns.11
  • Think of
    China as a model of how an economy can rapidly address a pandemic. They
    successfully took the three-pronged approach I outlined above. While economic
    activity dropped precipitously, it is already improving.

8. What are the most important things to
bear in mind at times like these?

We tend to
believe that we live in the most uncertain of times, but we do not. We will get
through this as we have gotten through each of the past crises of our time and
throughout history. In the period from 1998-2018, we experienced the tech
wreck, a terror attack, a global financial crisis, the European debt crisis,
Brexit, and many infectious disease scares (H1N1, SARS, Ebola, and MERS) and
the S&P 500 Index still climbed 7% per year.12 A $100,000 investment
in the market in 1998 would today be worth over $400,000.13 Think
long term and stay the course.


  1. Source:
    Bloomberg, as of 3/10/20
  2. Source:
    Bloomberg, as represented by the 10-year US Treasury Inflation Breakeven,
  3. Source:
    Federal Reserve Bank of St. Louis, as of 12/31/19.
  4. Source:
    FactSet as of 3/10/20, as represented by the S&P 500 Index and its
  5. Source:
    Bloomberg, Barclays, as represented by the Barclay US Corporate High Yield Bond
    Index, as of 3/10/20.
  6. Source: Bloomberg,
  7. Source:
    Bloomberg, 3/10/20
  8. Source:
    Bloomberg, 3/10/20
  9. Bloomberg,
    3/10/20. Compares to the earnings yield of the S&P 500 Index to the 10-year
    US Treasury Rate.
  10. Source:
    FactSet, 3/10/20
  11. Source:
    FactSet, 3/10/20
  12. Source,
    Bloomberg, as of 3/10/20
  13. Source:


Index definitions:

The S&P
is a stock
market index that measures the stock performance of 500 large companies listed
on stock exchanges in the United States. It is not possible to invest
directly in an index.

performance is no guarantee of future results.

The VIX is a popular measure of the stock
market’s expectation of volatility based on S&P 500 index options. It is
calculated and disseminated on a real-time basis by the CBOE and is often
referred to as the fear index or fear gauge.

The Fed Funds Rate is the interest
rate banks charge other banks for lending them money from their reserve
balances on an overnight basis.

A credit spread is the difference
between Treasury securities and non-Treasury securities that are identical in
all respects except for quality rating.

A maturity, or yield, curve refers
to the difference in yields from very short-term bonds to long-term bonds.

The opinions referenced above are
those of the authors as of March 11, 2020. These comments should
not be construed as recommendations, but as an illustration of broader themes.
Forward-looking statements are not guarantees of future results. They involve
risks, uncertainties and assumptions; there can be no assurance that actual
results will not differ materially from expectations.

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