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What a week last week was for markets – ASX lost value of just under 10% – All around news of the Coronavirus and speculation on Government responses – So Aus and international markets have dropped heavily – might be thinking that it is solely out of expectation that companies will lose money from the Virus outbreak.

  1. Well – the overall Market has tanked which companies most affected? – almost every one
    1. Medical companies dropped, banks dropped, A2 Milk – which has large sales to china went up over the week
    2. In the US – FANG stocks went down heavily – Google, FB, Amazon – down 14% – understand Amazon if cant ship goods – but why FB? If anything – people may be spending more time inside online
  2. What does this all say? Could the Selloff probably have less to do with the coronavirus than what is being reported on? – let’s have a look at this further to see – or if it is just speculative selling/profit-taking – and if it is a good time to buy?
  3. Before we get into it – Nobody has asked the question – why has the Chinese Government which from observation – doesn’t really have a high value of life on its population – shut down their economy through extreme quarantine measures for 80,000 sick people and around 2,700 dead? Are the numbers more? Or is something else going on
    1. China has a population of 1.4bn –80k = 0.0057% of pop – In Australia that would be 1,400 people with the illness – 50 of those would pass away based around the estimated death rates – those who are immunocompromised or over the age of 60
      1. Even if it is 50 times larger – there would be 135,000 dead – historically for China this is a good weekend on a collectivised farm – I know they are past those practices – but even in modern times:
      2. They aren’t without their human atrocities – Falun Gong practitioners being imprisoned and tortured, reports of organ harvesting, treatment of the million Uyghur Muslims in “re-education camps” – but all of a sudden, they really care about their people? I find it hard to believe – might be the case
  4. Now – Not saying this is related, or implying anything – but two interesting things I noticed around the timing of the quarantines –
    1. Wuhan was having mass protests last year – same with HK – not much happening with those now?
    2. Also – China just lost the trade war and were about to sign an agreement with the USA – losing yet again
      1. They were dumping their US treasuries leading up to December last year – then the quarantines effectively are shutting down the global economy
  5. Nobody knows what is going on – all we do know is that the market is going down and Governments seem to be overreacting – resulting in panic selling and global fear occurring
    1. The responses from the media and Governments are creating the economic uncertainty – not the virus itself
    2. Perspective – Assumptions are that 5% to 20% of western populations will get the flu/mild or severe– each year – death rates in the west from the flu are lower than Coronavirus – but in China – flu deaths are around double already due to health care system – so every year 70m Chinese at a minimum will get the flu – working off the numbers – in the past week – more people in China have died from the flu than the coronavirus


Regardless of the rational for the selloff

– there has been a crash/correction – and a quick one at that – the volumes are huge – to the point it is one of the most coordinated sell offs in history – to break this down:

First – let’s have a look at How crashes work – analogy to a movie theatre –

  1. Anyone been to a movie theatre – people slowly arrive at different time – some go early to buy the best seats, some rock up later, some don’t like the ads to turn up just as the movie starts – people all get in slowly –
    1. Similar to buying patters of markets – buy orders come in over time – different institutions and individuals dribble in
  2. But now let’s say that the room can fit 200 people – but the movie is very in demand – and this is the one cinema showing it – people will pay a lot for the tickets – prices start to go up and the room starts getting crowded
    1. Out of greed – and to make more money – the cinema allows 300 people to cram into the room – so it is packed – but the exits are the same size
    2. Now say someone cried out fire – and the room panics – everyone rushing for the exits – cinema clears a lot quicker than what it filled up
    3. This is similar to how markets behave – the bears take the window whilst the bulls take the stairs – markets go down in a panic faster than what they rise in a boom
  3. Markets don’t crash when they are overbought – but they crash when they are oversold through panic – like over the past week
    1. S&P 500 had its fastest movement from peak to correction on record – a matter of 6 days – next: Feb18 was 10 days, Oct55 about 15 days – Nov07 took 35 days
    2. Dow had its peak to correction at the fastest pace since the 1928 panic – right before the great depression
    3. Overall – US markets saw their worst week since Lehman (Oct 2008) – similar in Australia
  4. Need some historical context – what are the week-on-week changes in the S&P500 over the past 100 years –
    1. Worst is the 1928 great depression along with the GFC – losses of around 18% week on week
    2. Then Hitler invading France – in 1941 – about a 15% reduction in week on week
    3. Right now – we are the same as the 1987 black Monday, dot-com bubble – with around 10%
  5. Following the trend of the 2000 crash, 1928 crash – the Nasdaq and US markets (and maybe Australia) may be in for a potential dead cat bounce (small rebound through buying) and then declines over the next few months further from here – albeit at a slow rate compared to the last week
    1. But this all depends on the panic and fear in the market – nothing fundamentally has changed since last week – still in the same leveraged position with record low-interest rates – which may decline further in response to boost the markets
  6. Similar to these events – Investors are selling stocks first and asking questions later – the signs of panic
  7. Market over the past week was showing signs of pure liquidation – ‘Get me out at any cost’ (regardless of crystallising losses) – seems to be the prevailing mood – depending on Government responses to the coronavirus – the weigh on the global economy may increase – There is much that is unknown – and also premature to suggest the base case for a recession triggering event
    1. Important not to forget that asset prices have already diverged significantly from fundamentals over the past few years – in part because of central bank policy, share buybacks – but also because passive investment’s main signal is price action – becoming price taking and not price making – looking at the sell offs – large caps in indexes (like the FANGS in the US, and Banks as well) have been hit hard – for no fundamental reason
    2. Volumes of sales have been very high – Stock market volume has exploded higher as the crash has accelerated – notably higher volumes than during the mid-2018 crash
  8. Globally – shares lost over $5.1 trillion in market cap in the last 6 days – that is the biggest loss ever
    1. Global banks shares were also a bloodbath this week – The biggest 6-day collapse in bank stocks since the peak of the GFC – is lending going to be restricted from the coronavirus?
  9. Interestingly – What happened beyond the share market also shows some signs of panic instead of fundamentals –
    1. The US Dollar rose by the most since July 2019 in Feb (but the worst week since 2019) – whilst the AUD fell
    2. Silver suffered its worst monthly drop since May 2016 and on Friday – Gold’s worst day today since June 2013 – Lots of questions about the crash in gold but the likely culprit was the BoJ putting in massive sales
    3. Oil also collapsed again in February for its worst start to a year since 1991
  10. Central banks are now meant to save us – so what Comments from the Fed occurred? Fed speakers and Jay Powell issued statements which definitely didn’t suggest that a Sunday night rescue was planned – but a possibility
    1. “Further policy rate cuts are a possibility if a global pandemic actually develops with health effects approaching the scale of ordinary influenza, but this is not the baseline case at this time” – so the Fed isn’t even worried about this compared to the ordinary flu?
    2. “Longer-term U.S. interest rates have been driven lower by a global flight to safety, likely benefiting the U.S. economy. Even with the current stock market price drop, equities have been on a long upswing. We will use our tools and act as appropriate to support the economy.”
    3. But The market implied rate cuts indicate that one cut is guaranteed soon – same in Australia over the next few months – probably won’t happen this week based around out implied rate curve – but who knows


From here – is likely that another wave of selling will likely occur before a stronger bottom is finally reached in markets 

  1. The composite technical overbought/oversold gauge is also trending for more extreme oversold conditions soon – but these are typical of a short-term oversold condition
    1. In plain English – in 2019 everyone was piling into the theatre creating overcrowding – but now large amounts of people are running for the doors – guess they didn’t like the movie
  2. So – What to do from here? – Remember – We were not this oversold even during the 2015-2016 decline, much less the two declines in 2018 from September to December


Was having a look at historical patterns and what actually defines a market crash –

  1. On average the market rises by about 0.04% per day – with Standard deviation – average daily volatility is around the 1% range
    1. At this stage – the ASX is below the 50,100,200,300 DMA – shows a very quick decline and very volatile
    2. Volumes as well point to an overselling phenomenon – but doesn’t mean that is it overdue to one factor
  2. Market crashes occur when shares are already oversold – looking at the data – for the days where the market goes down by 5% or more – it happened 22 times in the US – 82% of those occurred once shares were already oversold –
    1. Interestingly – 12 of those days occurred in the GFC time period
  3. Mathematically speaking – the bulk of the recent decline is already priced into the market out of future fears
    1. That is where the odds of a 5-standard deviation move (which we have gone through) are about 1 in 3.5 million
    2. But since 1958 (15,647 trading days) there have been a total of 39 days with +5% moves: 17 positive and 22 negative – so whilst statistically this should be very very rare – does happen a bit in markets – or about 8,700 times more than would be statistically predictable
    3. Therefore – technically and statistically – equity returns have more “fat tails” rather than those defined by a normal distribution – so this is really nothing outside of what is possible in markets
  4. The bottom line is that a 5% decline in a given day is a good definition of a “Crash” – Over a month – 20% and over a few months – 30-40%
    1. Outside of the 2008 – 2009 Financial Crisis, if you bought the close of a down 5% day you made an average of 8.46% over the next 3 calendar months with 90% of those instances yielding positive returns. The only exception, but still notable, was October 16th 1987
    2. Looking just at the 2008 – 2009 experience, buying the first down 5% move on September 29th was not a great idea, but if you had the fortitude to stick with it you were at least breaking even within a year.
  5. Looking at this present-day event: what if we get a 5% crash day as a result of concerns about the coronavirus’ effect on the global economy? 
  6. History says buy that these types of crashes are opportunities to make solid 3-month returns with little risk of further cataclysmic drawdowns.
    1. However – If you think the COVID-19 bears closer resemblance to the 2008 Financial Crisis than a “garden variety” crash – then history says to buy the first down 5% close in a small size and wait for more to add to positions – essentially a dollar cost averaging approach – nobody knows when it will bottom out – but if the market tanks from here this week – some shares may start to appear fair valued


Bottom line:

At the time of recording this – we’re going into a Friday-Monday sequence – with large one-week losses in previous crash events – like in 1987 and 2008 – 2009 – there was the possibility for markets to have a down 5% day – From here there are two scenarios –

  1. We are going to get a bounce over the next few weeks – but may be a dead cat bounce
  2. Or this shows the cracks in the economy

Either way – I am holding off before moving funds back into the market – but it is important to Be Ready To Execute

Whatever further drop we get from here will likely be short-lived when viewed in a timeframe of years – So have your game plan together before-hand as the opportunity to buy in may be coming soon – Bottom line: markets right now are vulnerable to a crash – due to structural issues – so Be ready to at least stick a toe in the water if that happens.

Thank you for listening to today’s episode. If you want to get in contact you can do so here: http://financeandfury.com.au/contact/


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