Updated: Sep 21, 2020
Since the outbreak of the Covid-19 pandemic in beginning of 2020, many people were infected (nearly three million in US and more than 10 million worldwide within 6 months). Governments paralyzed the global economy by imposing lockdowns. Many organizations closed their factories to protect workers, and also because their supply chain has vanished. There is an extended recession and unemployment has spiked. There are now fears that the virus have mutated and they might be a second and even a third wave, even as countries relaxed their lockdown measures,
Initially in Feb 2020 during the initial crash, many have the opportunity to buy good stocks at cheap price. Then in Mar 2020 the stock market moved sharply to very high levels. More bad news regarding the infection was received, yet the stock market continued to rally. What can we understand from this? What should we do?
First of all, you need to realise that recessions are fairly common occurrences. Secondly, the US stock market has done very well for the past 100 years, growing nearly 10% per year on average. Thirdly, stocks frequently decline even if they are earning good long term returns for investors. Global stocks have registered long term gains despite disease out breaks in the past.
During the 2009 bursting of the U.S. housing bubble followed by the global financial crisis, the stock market managed to recover only after the recession. Normally recessions will result in a wave of bankruptcies. Companies with bad businesses and leadership will be forced to close. Only businesses with sound management remain.
This time, however, substantial government bailouts have prevented these bad companies from failing, resulting in massive government debt. The covid-19 virus continue to spread, causing massive uncertainty in the global markets. There are high chances that governments may impose a second lockdown. Normally stock markets do not like uncertainty, however the rally continued unabated.
Our opinion is that the markets are driven by greed and hype, i.e. short-term speculators who are out to make quick money, taking advantage of the lock down and profiting from the plummeting markets after more than 10 years bull market. At this time, large institutional investors such as banks, insurance companies are parking their capital in money market funds (including short term cash securities and bonds)
During these confusing times, it is advisable not to make irrational decisions. Do not enter all your money into the stock market. It could get unpredictable. Do not also go the other extreme and sell off everything at once. Based on history, the rate of return is higher if you stay invested for the long term, rather than trying to time the markets.
Instead, evaluate your portfolio to ensure that that your invested companies still have good fundamentals - with sustainable profits, healthy balance sheet (assets vs liabilities), high cash flows, and potential for future growth after the pandemic. Companies that are currently are heavily in debt, and have shaky cash flows and weak revenue streams are likely not to recover the recessions. In addition, for companies you are considering to invest, you also need to ensure that they have good fundamentals, and what is value is compared to the current traded share price. Finally, accumulate cash and brace of volatile markets.