March 2020 State of the Market

Posted on March 17th, 2020

March Market Performance

As the novel coronavirus disease (COVID-19) evolved from outbreak to epidemic to pandemic in March, the stock market has cratered, dropping into a bear market in a matter of weeks as financial markets attempt to come to grips with the new economic and social reality. The disruptions of COVID-19 to daily life and the world economy have already been keenly felt by a large segment of the world’s population, and the pandemic has yet to reach its full extent. Financial markets are extremely volatile and swing wildly as they attempt to price in an unknown future.

The month began with extreme volatility, in the middle of the stock market crash that began in February as the COVID-19 epidemic took hold globally. Investors had learned over the past 10 years that every crash was an opportunity, and the first week of March saw multiple attempts to rally as investors rushed to “buy the dip.” The Federal Reserve attempted to assuage markets by enacting an emergency interest rate cut, investors took heart that Biden was overtaking Sanders as the Democratic frontrunner, and February’s economic numbers were strong. None of these factors helped a rally stick however, and by the end of the first week, it seemed the buyers had exhausted.

Trading became even more volatile in the second week. As a result of the economic shock from COVID-19, Saudi Arabia and Russia had gone to an all-out oil price war, sparking even further turmoil in already chaotic financial markets, and opening a new leg of the crash. The Trump administration’s seeming lack of focus on delivering a concrete plan to combat the pandemic further added to fears over how severe it could become. In this chaos, stock markets closed in bear market territory — more than 20% down from their highs — conclusively ending the bull market run that began after the great recession.

By mid-month, the Trump administration seems to now be taking concrete steps in attempting to contain and combat the COVID-19 pandemic, working with Congress on legislation and promoting proper public health guidelines to control its spread. The Fed also took the unprecedented step of performing a second emergency interest rate cut to a zero interest rate, among other massive operations to support financial markets. Nevertheless, markets still made new lows as there remain more unknowns than knowns about the potential extent of the pandemic and the economic damage it could cause.

Market Outlook

It is clear at this point that we are in a new market era and things will not just go back to the way they used to be. For now, very little is foreseeable as markets are largely flailing about and trying to price in future economic damage that it can only guess at. Historically, however, after such crashes we often get a snap reaction that drives stocks higher for days or even weeks before coming back down again to test the low point.

In all likelihood, more cases will come to light, more deaths will occur, and the economic damage will continue. Financial markets will remain unhinged, swinging up and down while reacting to the news and developments of the day. Very likely, bad news to come will drive deeper drops in the stock market, and there is little indication of how long and how deep the crash will ultimately become.

Eventually, of course the economy, daily life and markets will stabilize and regain some sense of stability. This will come as more information comes to light. What concrete plan, if any, will the Trump administration put forth to fight the epidemic? When will we begin to see a slowing in the spread of the disease and how many people will ultimately be infected? When will we see a wide availability of the vaccine? As these questions begin to be answered, markets will be able to more accurately gauge the likely economic damage, and trend towards prices that better reflect reality.

Attempting to define technical levels is largely useless in the market environment as it is now. However, there are some markers that can be useful to understand and gauge market movement. At the time of writing, the S&P 500 has come very close to its low point during the December 2018 crash. The approximate midpoint for the depth of the crash so far is at 2900. Both of these could be used as technical indicators in more normal market circumstances, but large price swings in the market are likely to ignore these levels until the situation stabilizes.

Lockbox Strategy Update

Due to the chaos during this market crash, we have closed most of our trading portfolio to reduce exposure to the market. The options market magnifies large swings in volatility, exponentially increasing risk to unacceptable levels for our main trading strategy. Instead, we have switched strategies and are making small trades with defined risk that can leverage the wide swings in the market without the potential for large losses. Our strategy has been able to take advantage of the distorted market conditions and generate significant positive performance for the fund so far this month.

The unpredictable wide swings in the market mean it is not a good idea to take on significant risk since there is a high chance to get wiped out right now. Instead, we have been making small trades with strictly defined loss limits that are able to leverage the very fast and large moves in the market to still make significant profit. We have been relying on our market analysis tools and long experience in the market from as far back as the 2008 financial crisis to navigate the chaotic market with great success. These small size directional trades will be the strategy we utilize for the near future while the market remains destabilized. Eventually, once markets find firmer footing, we will be able to return to our normal trading activities and take advantage of the significant opportunity in the options market to drive further performance and make 2020 a standout year for Lockbox Capital.