I have been talking to the subscriber base about phases of realization that the market has been going through regarding this coronavirus and the potential impacts on the economy. 

Phase 1

The first phase was that sharp downdraft when everyone realized that the virus was here and that it was going to result in significant damage to the economy. At first, I was in denial about the virus as well, and I could never imagine the US government would follow the steps that China took. But we did. The shut down of the economy has caused a great deal of damage. 

Phase 2

For now, the market is in Phase two; focused solely on the virus itself and the rate of change of infection and mortality rates. That is helping to lift the market this past week, as investors believe that flattening of the curve will lead to the faster opening of the economy. Phase 2 ended on Friday, April 10.

Phase 3

Phase 3 will begin Tuesday morning, April 14, when the banks all start reporting earnings and giving investors feedback about the impacts the economy is seeing from the virus. 

Phase 4

Phase 4 will come later, probably around the start of May, when investors realize the economy they envisioned returning to, is not reality. My father explained it to me this way today: if a restaurant owner has a room that fits 60 diners, and everyone has be six feet apart, now that owner can only fit 20 people in the room. Good point. It means that a restaurant won’t be able to operate, or will be forced to triple their prices to bring in the same revenue. 

Phase 4 will teach us that schools will be closed until September, and that means at least one parent will need to stay home because if a school is closed, then that means there will be no summer camps or daycare. One parent will have to either work remotely, meaning not everyone will be returning to work. 

Phase 4 will also tell us that if restaurants don’t have as many diners, and parents are still working remotely. The more than 20 million people that are now unemployed will not be getting all of their jobs back the second the economy “re-opens.” 

You can say, well how do you know Mike? It is common sense. I hear these exact questions and statements from family, friends, and neighbors. Trust me; I’m not the only person thinking about these things. So while the “market” sip’s its Johnnie Walker Blue with dinner and is focusing on the flattening curve, it will soon realize that what it thinks will happen will not go exactly as planned. 

Dropping Hints On A Three Day Weekend

Notice that on the day when the market was closed, hints about the economy reopening were floated from Pence, Trump, and Cuomo. The summer seemed to be the general vibe I took away from all of this. Here’s the thing, the “Summer” doesn’t start until June 21. Has the market priced in a July opening?

Earnings May Be A Disaster

Earnings estimates continue to drop, with S&P Dow Jones estimating earnings of $146.57, a decline of 6.5% from last year. Meanwhile 2021 estimates have fallen to $175.25. When we started the year, forecasts were for $191.22 in 2021. It leaves the S&P 500 now trading at 16 times 2021 earnings estimates, which in this environment seems pricey. 

But it gets worse because my earnings model is now pricing in earnings of $142.02 in 2020, $170.27 in 2021, and $193 in 2022. Why is that worse? Because my model indicates that 2020 earnings could be as lows as $122.29 and $151.31 in 2021. It means that S&P 500 is trading at 22.8 times 2020 earnings in a worst case scenario, and 18.5 times 2021 in the worst-case scenario.

(Mott Capital) 

Right now, the market’s rally over the last week was on the flattening of the curve, but soon attention will turn to earnings. Phase 2 is over, and now as we enter Phase 3, one must continue to proceed with caution.