29 March 2020
Last Sunday, I shared hot-off-the-press notes from a two-hour private conference call with 15 experts and >150 major investors. The hosts of that call organized a sequel tonight following the same format, and I’m happy to share those notes now — literally minutes after leaving the call.
Again, we had 15 experts, including another Nobel laureate, a CEO of a UK private hospital, a former senior executive at the FDA, a former CEO of a regional Federal Reserve Bank, a casino owner, a restaurant entrepreneur, as well as several large investors. Again, it was a mostly US-focused conversation; again, it was under the Chatham House Rule, meaning I can share a summary of the content but not the names of the participants; and again, the notes are near-verbatim and real-time (apologies for typos). The time, we had more than 250 participants on the line.
There were a lot of fascinating topics. Some of it covered familiar ground but it was good to have key points reinforced. A few things that were particularly interesting to me:
- The chief equity strategist at a major investment bank thinks the market rally last was a false one and is consistent with “bear market rallies” in the past that were false starts. He warns that we should be very cautious based on history. Incredible factoid: “1929-1932, 10 rallies of 10% or more in a long bear market. Median rally was +23% and lasted almost 20 days! But it was secular bear market”.
- Emerging Markets will be badly impacted, particularly (a) given that many rely on oil and/or tourism; (b) structural deficits and debt.
- What’s happening in China, and how is the economy starting to come back? Very different in different cities and sectors. Labor availability is a major factor.
- It was heartbreaking to hear from the founder of a restaurant chain about the impact on his business and his employees — the outlook must be bleak for so many restaurants.
- Finally, a Nobel laureate shared why deaths of despair (suicide and drugs) typically decrease in a recession!
Topic: The UK response to the COVID-19 crisis, particularly in relation to the NHS
Bio: CEO of an independent hospital in a suburban area in the UK.
- NHS has 1.4M staff, 8th largest employer in the world
- All non-essential work switched off
- Creating extra ICU capacity
- Re-recruiting people who have left NHS — 55K people who have left in last few years, 15K have come back
- 500K people have volunteered to help look after 1.5M vulnerable adults and children told to stay home for 12 weeks
- £1.2B deal where gov’t has taken over all independent hospitals for the next 13 weeks
- Expected that capacity will be overrun, especially ICU beds and ventilators.
- Also don’t have enough PPE.
- Opening 3 new hospitals in 3 cities. London will add 4K beds and open this week.
Topic: What should we expect from the FDA on the virus?
Bio: Former senior executive of the FDA and the NIH.
- Two tests: one (antigen) lets you detect who has it now, one (antibody) lets you detect who has it and presumably has resistance. The former has been the focus but the latter will be important to know who can safely go back into the workforce etc. Also lets us get a better picture of what portion of the population has been infected without us knowing.
- New, faster tests, including at-home tests, are coming.
- But there will be challenges with scaling up manufacturing and with the availability of reagents
- In term of therapeutics, we will likely see them before vaccines. Repurposing existing drugs plus new drugs in the pipeline
- A few promising ones but no guarantees
- Remdesivir: in trials, results within weeks.
- Sarilumab: could help because some of the damage comes from the activation of the immune system; this modulates the immune system from cascading out of control
- Antibody space is promising, these might be able to neutralise the virus. Some are taking convalescent antibodies from those who were infected to help someone who is currently infected. These will take longer but may have some results by summer.
- Many in the pipeline
- Many are inactivated and live, attenuated virus
- Also nucleic acid, DNA and mRNA vaccine
- Moderna is the one that is the farthest along, already in human trials. Need to do the testing, starting with safety testing, before you move into large-scale clinical trials to show protection against exposure.
- Trying to telescope the stages to get answers more quickly. But you’ve heard others talk about 18 months and that would be rapid.
- Shortages of drugs and medical products such as PPE are an issue
- But also medication needed for routine medical needs. The active ingredients for most drugs, 80% come from China and much of the rest from India.
- Complex supply chains for much medical equipment
- Many companies reported that they had 2-3 months of reserve supply: ingredients, drugs, etc. But as this continues we may start to see significant shortages.
Topic: I got the virus, now what?
Bio: MD and Associate Professor at a major Illinois university hospital
Questions:1. I am sick and feel terrible, what do I do?
- Use tylenol
- Don’t assume you have it
- Only 13% of people who ask to be tested in our state are positive
- Call your doctor
2. What should I do to treat myself?
- You shouldn’t.
- Early reports on chloroquine are that it’s not very effective.
- If you’re getting progressively worse you might need to be hospitalised.
3. When should I get tested, if at all?
- Supplies highly restricted. In IL, restricted to people who are symptomatic and at risk.
- In IL we only have 1.3% death rate from known cases so the actual risk of death is likely much lower.
- But some people are getting quite ill.
- Risk is if we run out of ventilators etc. our death rate could go up.
4. Will I infect my family, and how do I prevent it?
- Looking at China, harder to infect your family than we thought. Less than 50%.
- Guidelines from WHO are straightforward, check them.
5. When do I head to the hospital?
- If you’re getting worse.
- Trouble breathing or coughing up blood.
- In Chicago, Fire Department will take you to a hospital that has an available negative pressure room.
- If you had to go you’d want to go to a teaching hospital (but I’m biased)
6. How will I get treated at the hospital?7. Should I go to the hospital, if I am an otherwise healthy 50 year old?
- Yes if you are getting worse.
8. How important is hydration, and how do I do that effectively?
- Hydration is very important in any illness.
- Water + sodium + glucose gets water into the body. The WHO hydration formula or pedialyte work very well. Or half water + half Gatorade.
- Colour of urine is an indication of hydration. You want to see pale yellow.
9. How do I deal with my respiratory issues?
- If serious go to hospital.
Topic: How will the Fed continue to change its behavior in this crisis? What is the state of the economy?
Bio: Former President and CEO of a regional Federal Reserve Bank
- We are already in a very deep recession; hopefully not a long one.
- Not a typical recession. Caused because people stay home and businesses need to shut down.
- Economy was strong before this.
- Got a test of how bad it will be: unemployment insurance rates went up with 3 million filing from 350K in the prior week.
- Once under control economic activity will return.
- $2 trillion package and Fed actions are appropriate and will help reduce impact of the virus, but cannot fully offset the shutdown.
- Q2 GDP will show significant decline. Key unknowns are Q3 and Q4, unknowable today.
- Actions by the Fed
- Fed funds target to zero
- Targeted increases of $700B of balance sheet; but on Monday said they will buy whatever is required with no caps across the curve
- Dramatically increased balance sheet by $940B over last two weeks.
- Established group of seven special loan programmes. These require approval of Treasurey. Treasury provides equity investment to cover losses at the Fed and permit a 10x leverage. $30B of equity permits $300B of lending. Cover a broad set of areas.
- Some are similar to programmes in the GFC. Some are new.
- $354B from Treasury to backstop losses; at 10x that’s more than $3.5 trillion of ammunition
- Next steps and challenges for the Fed
- They need to be flexible, there will be mid-course corrections. Six areas:
- 1. Fed has used full range of tools forcibly.
- 2. They will not run out of ammunition.
- 3. Under a lot of pressure to loan to states and municipalities. Need to watch this as many were already under financial stresses. Need to be careful that they do not morph into programmes that deal with long-term structural deficits
- 4. Will they move to negative interest rates? Unlikely, they have a strong aversion, but can’t say never
- 5. How will they pare back the stimulus later? Has had trouble in the past, remember Taper Tantrum. Will be more difficult this time.
- 6. Deflation/ inflation question. We will have lower rates of inflation but I doubt we will have deflation. But inflation is below Fed 2% target so high inflation unlikely. But the extraordinary monetary stimulus the risk is non-zero.
Topic: Casinos, Real Estate, and Online Education
Bio: Casino owner, real estate entrepreneur
- Market is frozen
- No one knows who is going to pay rent or how much
- Construction costs and land costs will come down, pricing already looking better.
- Rents will probably come down.
- Third crisis Ive seen in 30 years. Short memories. Expect multiples and cap rates will go back up to the prior levels if interest rates stay low.
- Lots of distressed debt out there.
- We own regional casinos, they are all shut, we are paying employees as are most private companies. Public companies seem not to be paying employees and seem to have serious issues.
- Operating companies who lease their companies, they have debt and significant leases and are likely in trouble.
- Regional casinos will fare better than Las Vegas because you don’t have to travel, people still want to have one.
- Our online casino is still doing well. Russian table tennis is the only thing out there to bet on and people are doing it!
Topic: How will the COVID19 crisis impact the higher education sector in the U.S.?
Bio: Former business school dean
- Near-term impacts all negative: closure of campus, universities will have to refund pro-rated room and board.
- In our system that means $80M of refunds.
- Tuition discounts? Open question, many are asking
- Events are suspended (sports)
- Campus visits are cancelled. Students are trying to choose schools, recruitment and admission will have to move online.
- Uncertainty about Fall semester and whether things will be back to normal
- Institutions’ big risk factors is for those that have a lot of revenue in international revenue, and those that have limited online capability — e.g., if there is a second wave.
- There is some money for higher ed in the stimulus bill — $14B when we hoped for $50B. Some will go to students.
- Q: Will kids learn well online? A: so far a bit clunky, but I see students putting in the time.
- Will be interesting to see how this changes the use of technology longer-term for universities, which has been resisted by the existing bureaucracies / inertia.
- There will be a huge bifurcation of the sector into the elite research universities, who will get every strong from the appreciation of science — 100-150 tier 1 universities will come out even stronger. They will mostly do things as they do today.
- There are another 1,000 universities that confer 4-year degrees and that market is ripe for disruption. Who will provide credentials that lead to a productive career in the future?
- Will be a mix of solutions in the future.
Topic: Structured Credit, Corporate Lending, and CLOs
Bio: Global head of alternative credit at a major hedge fund
- Initial dislocation looks typical. Equity markets went down and Vix went up and then corporates draw down the revolvers – -this is normal.
- For structured credit, two events usually trigger the selloff:
- Mark to market on everything banks are lending against.
- Redemptions in funds
- This time we saw more redemptions in mutual funds than we would have expected
- Quickly the structured credit markets break down.
- What’s counterintuitive is what is sold first. Usually it’s the safest assets.
- In most CLOs, much of it is AAA rated. We saw sales with quick settlements — 2 days instead of the usual 3 days.
- This is big opportunity for firms with capital.
- Wide range of gov’t stimulus. Usually gov’t is trying to protect employment or housing. Then we go look at the forgotten sectors —e.g., mortgage REITS have nothing to help them.. We also look at the unintended consequences, like mortgage originators. They need to have a lot of cash on balance sheet. They lock in rates for consumers, and then hold forward securities — and they are gaining in value rapidly. It’s areas like that where we find opportunities.
- What’s different in this case?
- Far less fraud in the system
- We are focused on longer-term unemployment
- Two types of investments come out of this:
- AAA investments that have real cushion
- Convergence trades that you can do with much less leverage, like convertible securities, SPACs trading below treasury values, etc.
Topic: What are you hearing about what is happening in industry and manufacturing in China;which industries will have U, V and L-shaped recoveries?
Bio: Senior Partner at a large consultancy.
- Lessons from China where we have a large presence. The measures were like chemotherapy. Killed COVID-19 but did a lot of collateral damage.. Gov’t subsidies focused on agriculture, production and logistics, so SMEs have been badly hit. Risky businesses like gyms and spas are in danger. Cash is king, no one is paying receivables, rents are being renegotiated or going unpaid. Cargo is doing fine; amusement parks not. There will be changes in ownership. Economic restarts based entirely around labor availability. Migrant labor not trusted and not available — impacting manufacturing in bigger cities. COmpexity of supply chain hurting automotive manufacturing. Restaurant workers moved to last-mile delivery and they don’t want to go back to their old jobs. Digital is working all over and is now part of the core strategy. Tech platforms like Alibaba + authoritative gov’t gives transparency on high-risk locations, badging for citizenry. In Beijing, restaurants are open; they take your temperature and open an app that says where you have traveled recently — everyone in the restaurant has gone through that too. Saving rates in China have been high for families for a long time. And the family structure is top-heavy because of one-child policy, so cash handouts to the population has been less important. More coupons being handed out to get people to resume to spending.
- U-shape vs V-shape/. Two factors: health response and effectiveness of gov’t economics response.
- We think there will be regional resurgence over time.
- We will avoid a banking crisis but not get a rapid recovery
- GDP down 8% in 2020, not returning until Q2 2023 to pre-crisis levels. This is more significant than anything since WW2.
- Public health and economic metrics are both needed.
- Aerospace, gas, insurance, travel hard hit
- Real estate is getting killed but likely to come back quickly. The question is the future of work — what will change permanently?
- Management teams, how are they coping? Companies quickly focused on health & welfare. They are still doing furloughs and layoffs where necessary. Many companies are overconfident, holding on to too much fixed cost, not appreciating how existential this is. There will be significant corporate failures.
Topic: How has the virus crisis impacted emerging market economies?
Bio: Proprietary trader who formerly worked at several major hedge funds in Europe.
- Two trajectories in the end, maybe different than in the West
- Those that early suppress may see second wave in October
- Those that do not have the means to suppress may have a bigger epidemic, especially those in the Southern Hemisphere that won’t benefit from the summer seasonality, But they will not have a second wave and will be done in 3-4 months.
- Shocks, two key ones;
- Oil shock. Significant for many countries with >20% GDP from oil — Iraq, Oman, Qatar, Saudi; >10%: Russia, Angloa. All impacted significantly. Those with large deficits have more to worry about it. And those with high debt to GDP have high probability of default. Russia will see public debt go up to 30%. Oil is a positive transfer in terms of savings to importers, good for Asia — they are getting a big subsidy, in developed Asia. This drop in oil will be more vicious than 2008 drops. Bigger capacity destruction that will not come back in 2021. Risk of much higher oil prices in 2021 when global economy sees strong recovery. Turkey and India will be very impacted, especially Turkey which has already used most of their reserves and are starting to run negative reserves.
- Travel & tourism. Most impacted: Turkey, Hungary, Greece, Mexico. 5-8% of GDP, 7-10% of employment in tourism.
- On policy response, EMs have cut rates, sometime aggressively. Inflation is surpassed now because of oil, but will go up in EM driven by food and depreciating currencies. Hard for them to stabilise given context of risk of default. Dollar debt is high vs 10 years ago. The outlook for EM currencies is very challenging in near-term.
- Good news for EM: IMF is going to double the SDR allocations. This will give some short-term support on the most impacted poor countries. This money probably won’t prevent defaults in sub-Saharan Africa in impacted oil sovereigns.
Topic: Will explain that investors are getting drawn into a bear market rally!
Bio: Chief Equity Strategist of a major investment bank
- Do not get sucked in to what happened last week.
- Happened 7 times between Oct and Dec 2008 but market did not trough until March 2009.
- Highest monthly vol in history, March 2020.
- Annualized vol = 98 was above 1987, above Oct 1929, above Oct 2008.
- Best 3-day rally since 1982. Still 25% below the high.
- Context; 2008, there were 6 distinct rallies between 1 and 6 days, up 10% or more. Some almost 20% rallies.
- 1929-1932, 10 rallies of 10% or more in a long bear market. Median rally was +23% and lasted almost 20 days! But it was secular bear market.
- There are no buybacks now for political and cash reasons. That has been the #1 source of demand for 10 years
- News flow will continue to be bad
- No corporate earnings for a month
- Bullish for some reasons: fiscal cash injection, Fed actions are all good.
- Tactically, you need three things to end a bear market:
- 1. Slowdown of viral spread — need to see this in the rate of new cases. Portfolio managers think it will happen 3-4 weeks, some since 6-18 months. Need to see resolution of that debate.
- 2. Need to see evidence that the fiscal policy is working. We are already seeing that monetary policy is working.
- 3. Positioning / flows: absent improvement in fundamentals, the positioning is overly bullish. People were super-long in Feb, modestly shorter over March, actually got longer last week. That’s inconsistent with prior bear markets. Need to get lower than today.
Topic: How are restaurants and hospitality going to survive the crisis?
Bio: Co-Founder and owner of medium-sized regional restaurant chain
- In 3-4 weeks business entirely disrupted
- Serve 600-1,000 people day, have 60-100 employees per location
- Employee costs are 40%, rent is 15%
- Financial reserves were almost wiped out.
- We were able to reduce our food buying, but not other fixed costs.
- Since the gov’t closed all restaurants on 24 hour notice, we need a lifeline as an industry.
- There is little in the stimulus plan that is applicable to us.
- For example, we should have all rents and mortgages suspended for six months, tax payments frozen, utility payments frozen.
- And insurance companies should pay business interruption claims.
- We had to let go 1,000 employees. I don’t know how many we will be able to hire back.
- China has reopened restaurants but the images are not encouraging. They have to cut capacity to 1/3 to leave enough empty space.
- Worried that many restaurants will not survive.
- We are taking this time to try to streamline everything, target food costs at 20% after the crisis
- Most challenging point will be how to reach agreement with our landlords into %-only leases, capped at 9%, with a low minimum monthly rent. We don’t know when economy will restart.
- We are guessing we will have revenues at 40% of what they used to be, for at least two years.
Topic: What are the details of the Stimulus Bill that impacts small businesses and employment?
Bio: Partner with major law firm, focused on employment law litigation
- There are some bills passed that will help, still uncertainty about how they will work
- Essence is: paid leave benefits with tax credits for providing them, tax credits for retention, delay in payroll tax payments, forgivable small business loans based on paying employees / mortgages / rents, unemployment protection for employees, retirement fund access for individuals suffering from COVID-19
- Paid leave benefits is effective April 1st, employers with < 500 employees. Just US employees, will not count related companies unless extensive overlapping control/ management. Leave for 5 primary purposes: Quarantine order, instructed to self-quarantine, symptoms of COVID-19, caring for impacted individual, caring for impacted child or if school is closed. Catch-all TBD
- Amount of benefit is 100% for those under quarantine or ill; up to a cap of $511 for two weeks / 80 hours. For those taking care of children can go up to 12 weeks at 2/3 of regular pay capped at $200/day. For those taking care of an ill relative, at 2/3 but only for two weeks, same cap.
- Employers will be able to claim a refundable credit on tax payments if you provide this.
- Payroll tax credits for those closed due to gov’t order: refundable tax credit of up to $5000, 50% of first $10K provided to employees for the rest of the year. Also available if gross receipts decline 50% or more.
- You can borrow money to pay 8 weeks of payroll and if you keep your team you don’t have to pay it back.
Topic: How has the current crisis impacted infrastructure investment around the world?
Bio: Invests in infrastructure at a major engineering company.
- Substantial delays in major capital projects, and slowdowns / stops to existing projects.
- 1. Energy sector
- Major oil & gas produces announcing delays and cancellations.
- Hard to separate the effect of the pandemic from the decline in prices; the two are compounding.
- Two big companies cut capex by 20% – by $10B all together.
- Major multi-$B projects have been shut down for health reasons.
- While many have not yet been shut down we expect more of this.
- Very complex as there are local, state, and federal interactions. Everyone has health & Safety issues to deal with.
- In LNG, many delays and cancellations.
- I expect to see many more cuts still to come
- Smaller companies have a bleak near-term outlook
- Power sector
- Non-utilities: commercial banks are quite open to doing project finance when revenues are fully contracted. But getting those contracts right now is hard.
- In US: two solar power projects closed in the last two weeks.
- Gas fired power plant, project finance was pulled from the market.
- A non-regulated market like Texas; spot prices down 20-30%, forward curve is down a few percent out past 1 year. Investors are looking through the trough which is positive.
- Secular shift to renewables — this could accelerate.
- Think there will be pension-fund type investors who will shift money out of fossil fules
- Aviation has obviously cancelled many projects
- Big distinction between private and public projects. Private airports in Europe have big cash flow issues.
- Privately owned toll roads will have liquidity challenges
- States and municipalities are seeing big cash declines in transport user fees which will impact state-level finances.
- Most transportation infrastructure is owned and financed at the state level.
- US non-residential construction. Declined 2009-2011, dropped 30% peak to trough.
- Large infrastructure spending bill? Many are optimistic. IF there is legislation, not sure how quickly the money can be put to work; at best the impact will be delayed.
Topic: What Moral Panics Lie Before Us?
- Interested in the moral aspects of the crisis.
- Real danger of moral panic: when there is a phenomenon and a population starts to worry. E.g., Salem witch trials.
- Feature of human psychology is the we are moralistic. When we see something that we regard as a moral wrong, we want to see people punished. E.g, McCarthyism, myths of razor blades in apples at Halloween.
- In these cases, lives and families are destroyed.
- Moral panics magnify these.
- Worry about the intuition that people should be punished for the real or imagined offences.
- Recent weeks:
- Two weeks ago, going out to dinner was normal. Then it became dangerous. Now some people are saying the people who go out to dinner are akin to murderers.
- Predict that there will be many ways in which this kind of thing manifests itself.
- Seeing hoarding behaviour, fear. Even more unpleasant consequences will come.
- First place this could come is in masks. Right now if you wear a mask: if you go out with the mask and you have a disease, that’s bad since you could spread it; and if you don’t have the disease you shouldn’t wear masks. In the next few weeks this will switch to be criticising people who don’t wear masks — social sanctions. [CCN: this is already happening in Hong Kong. See new Economist article.]
- We saw this with the pillorying of the spring breaker.
Topic: Deaths of despair and deaths from the virus
Bio: Nobel Prize Winner, professor
- Some are arguing that the lockdown will be a disaster and that there will be 100s of thousands of deaths of despair.
- That argument is wrong.
- Yes, people with less money die younger than those with more.
- Deaths of despair, suicides and drug overdoses, happen to people who do not have a 4-year degree.
- But it is not true the then people get poorer over the business cycle the they become more likely to die.
- The reason is the deaths of despair take a long time to happen. Not like the business cycle.
- Of course if it destroys the economy long-term, that’s different.
- But this is likely to be more like past recessions in this sense.
- We have very consistent evidence that mortality rates go UP in boom times and go DOWN in recessions.
- So mortality may well fall.
- Firs observed in the US in 1920. Seen over and over again in many countries and situations.
- Great Depression: mortality went down, and life expectancy peaked.
- Greece during GFC: unemployment tripled, 25% unemployed, but Greece and Spain saw significant increases in life expectancy that were among the best in Europe.
- What happens is that there are a lot of injuries at work and driving; so this goes down.
- People have more time to look after other people.
- More minimum wages workers available to work in nursing homes and to look after the elderly.
- The one thing that goes in the other direction is that suicide rates do go up.
- But suicides, while each a suicide, were only 2% of all deaths last year. So they
- Accidents, stress, more free time, more time for exercise, more time to look after other people — these are all larger contributors.
- Could be that this recession, with social isolation, could make suicides worse. There is a correlation. Also many attempted suicides are saved by being taken to a hospital in time.
- The counterexample is that suicides are low in wartime, if leaders can build social solidarity — e.g., Churchill in WW2. Rhetoric of common enemy can help lower suicides.
Q&A with speakers
Q: How many Americans will be infected?
A: (former senior FDA official) The number of infections will be very high, 10s of millions. But that’s not the same number of people who will have significant symptoms.
Q: Should we test a random sample of the public continuously to understand the growth? Why aren’t we doing this? Are other countries?
A: Yes we should! The CDC proposed it long ago but didn’t have the test kits. Some countries are doing it.
A: We need to get back to some kind of normal over time. One idea is to have “hot spots” and “cold spots” but that requires testing since a cold spot can be hit with new cases from outside. The antibody test I mentioned will be very helpful to determining herd immunity in a community to limit the spread. With more testing we can return to a strategy where you isolate, contact trace, and allow return to the workplace. We will have to do it in stages. Also no one knows how this virus is going to behave going forward. There are hopes about seasonality or mutations to less-aggressive patterns, but we don’t know. We’re only a few months into this. There are no clear, absolute answers.
Q: How can the Fed deal with its conflict problems?
A: (Former Fed governor) Pattern in the past for loans / guarantees, they don’t do it themselves. THey set up a special vehicle and provide funds to it. They used BlackRock in the past and have announced that they’ll do it again, to look at the collateral that large businesses would have, the viability, and Black Rock will make the decisions.
Q: States & localities always want to be bailed out by the federal gov’t. How will we deal with that conflict?
A: That’s a key question. Cities can go bankrupt, states cannot. They might come to Congress and ask for loans or assistance; or they can go to the Fed as a back door under this new authority, to get loans from the Fed. But the money is fungible; it won’t all be used for coronavirus problems, some will be used to deal with structural deficits. This is a very undesirable event. There will be enormous political pressure. Will need to be monitored closely. The Fed will be concerned about it.