Mar 16

Mar 16 The recession that is upon us

My FatFIRE

CoronaVirus

TLDR: What to do next, when we are facing a recession

Let me get some things out of the way

Coronavirus impact has been grossly misjudged by most western governments
There was ample time to learn some lessons from the China experience
Most political leaders prioritised the economy over the life of their citizens

History

A little history, I started trading stocks around 17 years ago. I didn’t say investing because as any newbie, I had no clue on investing. By the time 2008 GFC crisis came around, I had a lot more experience with the market but my portfolio was relatively small. I saw some serious wild swings in the market but I was newly married and was in my honeymoon phase. Everything seemed rosy and I was not too bothered with the happenings in the market. My main concern was whether I would have my job, working for an investment bank during the financial crisis would make you re-think fundamental life goals.

Current market swings

One of my favourite Singapore based bloggers Kyith of invesmentmoats has written an excellent post around the current volatility. The market corrections in the last 4 weeks is almost unprecedented.

How Rare Are These Huge Daily Gyrations?
A lot of investors who started investing in the 2010s are not used to seeing this kind of volatility, even in the indexes.
This is new to them. Even for someone like myself who went through it, this IS a bit crazy. Even in 2008, I seldom see 9% down days on the indexes!
Source: CFA Institute
CFA Institute has a good table showing the standard deviation distribution of the SP500 from 1950 to 2012. This is interesting in that it bypasses the 1920s to 1930s which is very volatile.
The majority of the fluctuation in prices is within +1 and -1%. You get rare events like this. 3-4% is basically… a 3-4 standard deviation event already.
A 1 standard deviation means that there is a 68% chance the price movement is capture within -1% to +1%. If we invert this, there is a 32% probability that your daily return is not captured in this range.
In a 3 standard deviation event, we have a probability of 0.13% that it will not be captured in the -3% and 3% range.
How Are are These Huge Monthly Gyrations?
Thus, today’s -9.51% move in the S&P 500, this event almost should never happen. It is like a TOTO event.
We are basically nearly -25% from the highs on the index, which means that we are in bear market territory.
Going back to 1926, the average monthly return on the S&P 500 is 0.95%. The standard deviation is 5.37%.
S&P 500 hit a new high in February 2020 but closed off sharply lower. This is a rare situation.
FEB 2020 returns: -9.4%Mar MTD returns: -16.28%
Feb returns are almost a 2 standard deviation event and Mar is almost 3 standard deviation. In the grand scheme of things, these are important buying days or important days to avert because it is rare.

Read his full blog post here. It is worth going through in full detail.

This is an extremely rare event, the market has hardly even gone through such a fall in such a short period of time and that too across the globe.

So what next?

I would be fooling myself and you if I lay out a prediction here. We are in uncharted territory now. Things can go in many directions. I can lay out 3 possible scenarios

Best case Scenario

The world governments realise the impact of the virus and completely shutdown non essentials. All schools, colleges, bars, restaurants, public gatherings across all major population centers. Only medical and groceries allowed as implemented in China

The virus slowly dies out in the next 4 to 8 weeks. Things will be really tough during this period, but we will recover well from it.

Worst Case scenario

The governments don’t act quickly, the pandemic gets really bad, affecting 10% or more of the world’s population. We have large scale chaos, hospitals overrun, rioting, job losses, market collapse. Possibly a depression that could last years.

Middle of the road scenario

Some governments react reasonably quickly like Korea and while others don’t. The pandemic still is bad, but the chaos is limited to a smaller set of countries.

Recession world over, but no depression

What should we do?

Wear your masks (if available)
Avoid crowded places
Practise social distancing
Wash hands regularly and thoroughly with soap and water (Yes,There is a right way to do it)
Avoid touching your face
Don’t visit elderly family members unless absolutely necessary, even if you feel sure that you are not infected.
Stock up on essential supplies - groceries, prescription medicines, fever medicines, first aid kits etc.

When it comes to the market - follow the plan that I detailed earlier.