Monday, March 09, 2020

Palisade's Chief Investment Officer Dan Veru provides a special market update on March 9, 2020.

On this historic day, I will get right to the point—I believe that one year from today (or sooner) stocks will be higher and interest rates will be much higher than the once-in-a-generation low yields we are currently experiencing.  In early January, I communicated that a trade truce with China, trade deals with both Mexico and Canada, and a pathway for the United Kingdom to exit the European Union were reasons to be optimistic and growth centered in the U.S. would go global.  Additionally, I mentioned that favorable U.S. corporate and individual tax policy could contribute to an improved profits picture.  The Coronavirus clearly impacted my early 2020 projections, and today oil prices are plunging adding to financial market stress.  However, I do believe that the ingredients remain in place for a second half 2020 recovery for the following reasons:

• The Federal Reserve has already lowered interest rates by 50 basis points and is likely to lower rates even further. Central banks around the world will stand ready to support and protect their economies.  The impact of lower interest rates has been hotly debated but, at a minimum, lower rates are very good for both corporate and individual borrowers. 
• Fiscal stimulus may be the next move by the U.S. and other economies affected by the Coronavirus contagion. The current U.S. administration is highly motivated to support the economy in any way possible, particularly considering the upcoming presidential election. 
• The sharp drop in crude prices is negative for U.S. energy businesses and could cause wide-spread layoffs. However, individuals and businesses that consume petroleum products will receive the benefit from lower energy prices.
• The Coronavirus is spreading in the U.S. and in other geographies while new cases appear to be slowing in China. Investors might be skeptical about data from China, but as South Korean cases begin to slow, that could be an early sign for optimism.  As testing in the U.S. ramps up this week, leading health care experts have noted we will see many more people infected, with most people exhibiting mild symptoms.  Hopefully this results in a death rate much lower than current statistics indicate.    

Though a rebounding market is important, some companies may not survive based on the duration of the current market stress. I want to assure you that protecting against permanent capital impairment is our top priority.  My team and I have been working very hard the last several weeks to ensure that the companies in which we invest are well positioned for what is now a changing financial landscape.  On a day when all stocks are down sharply, it is hard to see past all the negative news of Coronavirus spread and plunging oil prices as a result of a production war between Saudi Arabia and Russia.  As Palisade’s investment teams revisit all our clients’ stock and bond holdings, we continually remind ourselves that the following principles always matter, but matter most in times of financial stress:

• Invest in the best management teams that are disciplined and nimble. If economic conditions change, these teams can quickly adapt to a new set of economic realities. 
• Focus on profitable companies that generate strong free cash flow. When cash is king, these companies can access and deploy capital by acquiring a business, buying back their own stock, or both. 
• Avoid highly leveraged companies that do not generate strong free cash flow. These companies may get hurt and never rebound if credit is unavailable at a time when it is most needed to run the business.  Also, these companies cannot take advantage of potential opportunities.

Conclusion:

In the fourth quarter of 2018, stocks declined sharply as a result of aggressive tightening by the Federal Reserve.  The subsequent dramatic “V” shaped stock market rebound coincided with lower interest rates from a rare 180-degree reversal in Federal Reserve policy.  Today’s issues are very different.  The Coronavirus has created substantial uncertainty on its impact to our economy and corporate profits.   The unexpected energy price war between Russia and Saudi Arabia places the collateral damage squarely on the United States.  There is no quick resolution to either of these issues but the combined effect of lower interest rates, lower energy prices, and the potential for fiscal stimulus programs in the U.S. and around the world sets the stage for a potential sharp rebound in the second half of 2020.

Important Information:

The information contained herein reflects the view of Palisade Capital Management, L.L.C. and its affiliates (collectively, “Palisade” or the “Firm”) as of the date of publication. These views are subject to change without notice at any time subsequent to the date of issue. All information provided herein is for information purposes only and should not be deemed as investment advice or a recommendation to purchase or sell any specific security. While the information presented herein is believed to be reliable, no assurance, representation, or warranty is made concerning the accuracy of the data presented. In addition, there can be no guarantee that any projection, forecast, or opinion in the letter will be realized.

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Palisade is an SEC registered investment management firm established in 1995. Based in Fort Lee, NJ, the Firm manages a variety of assets for a diversified client base, including institutions, foundations, endowments, pension and profit-sharing plans, retirement plans, mutual funds, private limited partnerships, family offices, and high net worth individuals.

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