Host John Bryson is joined by Matt Miskin and Emily Roland, co-chief investment strategists at John Hancock Investment Management. In discussing their Market Intelligence outlook for Q2 2020 and beyond, Matt and Emily identify what they consider to be attractive equity and fixed-income opportunities in the making despite the severe economic disruption caused by COVID-19 and the measures taken nationwide to “flatten the curve” of new cases. This podcast is distributed by John Hancock Investment Management Distributors LLC, member FINRA, SIPC.
John Bryson:
Hello, and welcome to the Portfolio Intelligence Podcast. I'm John Bryson, head of investment consulting at John Hancock Investment Management. The goal of this podcast is to help investment professionals deliver better outcomes for their clients in their practice. Topics we'll address include advisor business-building ideas, capital market updates, the latest trends in portfolio construction, and investment insights from our veteran portfolio managers across our global network. Today's April 9, 2020, and I'm joined by Emily Roland and Matt Miskin, our co-chief investment strategists at John Hancock Investment Management. Emily and Matt are the architects behind our popular quarterly capital markets outlook piece titled Market Intelligence. Matt and Emily, can you tell us a little bit about how you pulled together the info in Market Intelligence? Emily, maybe we'll start with you.
Emily Roland:
Thanks, John. Yes. Market Intelligence is our flagship quarterly outlook piece. And what we do within Market Intelligence is really leverage our network that we work with, of asset managers and top-down macro strategist. We're fortunate that we have a multimanager approach at John Hancock Investment Management, which really allows us access to some of the best thinking across asset management firms. And we start by just taking a base case survey, if you will, of views across about 17 different asset classes. We think about how the portfolio managers we work with have changed their positioning over the course of the quarter. We take top-down analysis from macro strategists. We look at flow data. And we really take that all away and do our own work to formulate where we think the best ideas are, and how we think about how the macro environment connects to what we're hearing from that network. Market Intelligence is designed to be easy to consume, and we've had a lot of success having advisors use it and having conversations with their clients to help navigate the markets today.
John Bryson:
Now, you mentioned the macro environment. I'd like to start there, and it's certainly been a crazy quarter for the first quarter. Can you set the stage with us on where we are macro wise and where we're going, if you will?
Emily Roland:
Sure. The macro environment as you mentioned has changed really significantly. The economic downturn as a result of COVID-19 and all the protective measures around it has really been devastating. One of the things that we look at closely because it gives us the best kind of real-time insight into the conditions of the economy is initial jobless claims. We've seen initial jobless claims over the last three weeks come in over 16 million—that is a remarkable, remarkable number. So it's been very, very swift and very severe. And the jobs market is so important because it's really been the rock of the U.S. economy, and the consumer plays such an important role, as we know, within the economy.
Emily Roland:
The other side, though, that's been really remarkable is just the amount of fiscal stimulus that policymakers have pumped into the system. We've seen the CARES Act come through. We saw policymakers come together on that. That totals about $2.6 trillion. That's over three and a half times what we saw in the global financial crisis. And it looks like there're also maybe more to come. So we've seen unprecedented support that's going to help lift businesses, help consumers. It won't stop a recession from happening, but it is in our view, a very good sign of the support that's being provided. Our base case is that we do see a severe pullback in economic growth. But that the U.S. economy actually recovers towards the back half of the year as we see the curve flatten, the number of cases slow, and ultimately economic activity resume.
John Bryson:
Okay. You mentioned the jobless claims and the Fed's response and all the different measures that are going into place. When we look at a mutual fund flows, we're seeing a lot of money move to cash; specifically, out of fixed income and into cash. So Matt, I want to bring you into the conversation, to get a sense for what are you looking at in terms of fixed income? What's impacting the market? What are the opportunities going forward?
Matt Miskin:
Yeah. Thanks, John. And when we look at the Treasury curve right now, the short end of the Treasury curve is essentially pinned down at zero. The yield on cash last year was actually pretty attractive. The fed funds rate was higher—as high as two and a half percent. And in the back half the last year, the Fed cut aggressively. And then they brought it down to zero just several weeks ago. So cash is unfortunately not going to provide much return from here and in into the foreseeable future. That being said, Fed measures that are happening real time right now, we do believe are setting up some pretty attractive opportunities in fixed income. In fact, even just today, the Fed has come in and doubled down on their corporate bond buying programs. So this is unprecedented in U.S. history, to see the Fed buying corporate bonds. They initiated that just several weeks ago, but now they're even going a little bit deeper.
Matt Miskin:
So they're helping fallen angels, triple-B bonds, and they're really adding to their arsenal. That is supportive to investment-grade corporate bonds, even a little bit of high-yield bonds. So we actually continue to like the intermediate part of the curve because that's the steepest part, the 7- to 10-year tenures. And then we do a mild credit bias, because the Fed is now supporting that market. Maybe it's an oversimplification, but a strategy we actually like right now, is buy what the Fed's buying. And where you're going to get the most yield that the Fed’s purchases are investment-grade corporates, and that's where one of the most attractive opportunities we believe are in today's environment.
John Bryson:
So when you say that, "Align yourself with the Fed," what's your timing? Is it a short-term, medium-term, or long-term approach you're taking with that?
Matt Miskin:
Yeah. I mean our outlook is 12 to 18 months, and where spreads ... So the relative yield differential between a corporate bond and a Treasury bond are today. It's still pretty attractive for that 12- to 18-month horizon. And we did analysis looking at when spreads were this wide or as wide as they've been in the last several weeks, subsequent returns have been pretty attractive. So we've seen as much as double digit, around 10% total return coming off to spread this level. But in the short term, it's reducing volatility. Fixed income saw unprecedented volatility just several weeks ago. The Fed is coming in, it's reducing that volatility, which we think is a good sign. But it's still setting up pretty attractive return potential over that 12- to 18-month horizon. So that's really where we're trying to lean into in Market Intelligence for fixed-income portfolios.
John Bryson:
Okay. So probably a more volatile shorter-term period than we typically expect out of fixed income, but I'm also seeing really good opportunities because of that volatility. That's really helpful. Emily, I want to come back to you and talk more about what's going on in the equity market. You mentioned job losses have spiked. What's going on in the equity market? We've seen a sharp sell-off and a sharp rally. Lay it out for us going forward. Where are the opportunities?
Emily Roland:
Yeah. We saw at the worst point of this bear market, the S&P's drawdown was about 34%. We've come back from that, around 20% or so today. And markets are looking forward. We all know that that markets are discounting mechanisms. They're looking to see what happens in the future. They're not necessarily looking at some of these economic data points that are more backward looking. And they're starting to see a little bit of a light at the end of the tunnel in terms of the support that all of this fiscal and monetary stimulus is ultimately going to be providing. They're looking forward to seeing the number of new cases of COVID-19 start to roll over in some areas. The one area, though, that we're focused on that could result in more volatility is earnings, and we're about to head end to Q1 earnings season.
Emily Roland:
Where we'll start to hear a little bit more from CFOs and CEOs about what the actual impact to corporate profitability it has been. And in our view, U.S. equities may not have really fully priced in here the ultimate decline in earnings that we may see. Looking across analysts’ forecast, we pulled this from FactSet's, and just looking at the street broadly, the expectations are for a decline of just over 1% in earnings growth in 2020. We think that might be a little optimistic at this point, but it really depends on how you look at various sectors. We're actually seeing some parts of the market look like they're going to be producing earnings growth, areas like communication services. We're also seeing some areas that look like they're priced to do really well, or earnings estimates look really good; probably too good for certain areas like real estate, where we think that the health of the balance sheets across that sector aren't as good.
Emily Roland:
So ultimately what we're looking for is we want to own companies that have good balance sheets. They're well-run businesses with less cyclical business models. So we want to be overly exposed to high-quality parts of the market that have good ROE, low earnings variability, good margins; again, the ability to withstand an economic contraction here. And that leads us to areas like technology and communication services on the offense side. We also want to pair that with a little bit of an element of defense here, also focused on quality. Areas like healthcare and consumer staples have those quality attributes that we're looking for. So really barbelling that we think is the right approach from an equity market perspective heading forward.
John Bryson:
A lot of the stuff that I've been reading and hearing about and talking with folks about is the shape of the recovery. It could be V-shaped, it could be W-shaped, it could be U-shaped. It sounds like the idea that you're talking about, strong balance sheets, high-quality companies, healthcare, and then tech and the sectors. You're talking about consumer staples; they can survive regardless of the outcome and that sets up an opportunity. So you might not have the rebound calls exactly right, but those sectors can help. Is that the way to think about it?
Emily Roland:
Yeah. That's exactly right. It's really about this element of participation and protection and having that balanced approach. And I think you brought up a great point about, how do we pinpoint the bottom here? How do we think about ultimately shifting to more risk-on positioning? And frankly we think that trying to call the bottom with precision is really a futile effort. Our view here is that we think it makes the most sense here to dollar cost average into a balanced portfolio. And one of the most important things for investors to remember is that when markets do finally find their footing here, that can be a great opportunity in terms of forward-looking returns. So one of the things that we looked at in Market Intelligence this quarter was what the shape of bear markets and what the normal trajectory of bear markets has looked like over the last 70 plus years.
Emily Roland:
And what we found is that bear markets with a decline of 30% or more, is how we defined it. On average, you see about a 45% drawdown. I mentioned earlier, we've gotten to about 34% or so during this most recent drawdown. But most importantly, investing at the troughs of these bear markets or staying invested at the trough, has set up strong forward-looking returns. In fact, looking out five years, if you've invested at the trough over the last 70 years, you've earned about 14% annualized. So it's a good idea to remind investors that are starting to go off their track of their long-term investment goals and objectives to really think about staying invested. And again, dollar cost averaging into this market, because remember that bear markets do ultimately breed bull markets.
John Bryson:
Excellent. And Matt, if I'm looking forward, and I'm thinking about the signposts I want to pay most attention to in this market right now, what would be the top three or four signposts for the economy and the market that people should be paying attention to?
Matt Miskin:
Yeah. I mean the first one, and Emily touched on this, but it's the lack of new cases of COVID-19. And really that needs to start to plateau and level off and come down. And whether it's the hospitals that are trying to have the capacity for this or really just the ability to manage it. That's really got to be the starting point. And that is something that's been key, just development over the last several days and weeks that you've started to see, at least in New York, things starting to get a little bit better. Other things, I would love to see initial jobless claims come down. Seeing six million plus every week just shows how bad the economy is struggling right now. But once that's starting to come down and really starts to eventually improve, that would be something we'd look for.
Matt Miskin:
And then, the final thing I think continues to be these stimulus packages. So, the Fed dropping their stimulus package again today. Yes, we've had the CARES Act, but we got to make sure that's getting into the hands of consumers and small businesses. We're hearing that not making it into those hands quick enough, that there's lines and that there's tape around things to get it through. So there may need to be subsequent measures to just get capital into the hands of those that need it. And so those would be policy announcements that we would be really watching for in the days, weeks and months ahead.
John Bryson:
Excellent. And Matt, you'd sprinkled in some opportunities you're seeing. Emily, you did the same, but can you maybe, Emily, finalize our comments today with opportunities that people really should be thinking about?
Emily Roland:
Yeah, absolutely. In our view, it's really about a balanced approach. We came into 2020, with our 60/40, which is our policy weights intact. Wanting to have some exposure once this recovery does start to play out. But just thinking about doing that in a really risk-managed approach. So again notching up on quality within equities. Going up in cap, embracing a combination of offense and defense, and really also notching up on quality on the fixed-income side. But again, staying invested. And one of the things that we've heard from a lot of the investors that we've spoken to is that with yields as low as they are today, they really are thinking about fully embracing equities at this point in the cycle. And we would just remind them to think about just going back to basics in terms of putting together a multi-asset class portfolio in context of where volatility has been. So another one of the elements that we highlight in Market Intelligence this quarter is just showing where we've seen volatility versus history across a variety of equity and fixed income asset classes.
Emily Roland:
And one thing you'll see is that equity asset classes, particularly areas like small caps, are showing obviously more volatility than fixed income from a standard deviation standpoint. That's quite typical now, but they really haven't even come close to their maximum levels of historical volatility. Within fixed income on the other hand, we've seen parts of the fixed-income market, including investment-grade corporate bonds, reaching the highest range of their historical volatility over the last 20 years. Matt made some comments about how we think that will actually start to dissipate in the weeks and months to come. But all of this is really important as it relates to building across asset class portfolio. And we want to remind investors that if you do go to equities all the way, you're increasing the volatility for your portfolio. And that for investors that do have this risk management mindset as we do, bonds are going to continue to merit a position in a portfolio. So it's just about staying balanced as we continue to work through this volatility.
John Bryson:
Well, Matt and Emily, it's more fun to see you face to face, but it's always great to talk with you. Thanks so much for sharing what you did today. Folks, if you want to hear more, please subscribe to the Portfolio Intelligence Podcast on iTunes or visit our website, jhinvestments.com. If you're interested in hearing more about Market Intelligence, you can visit it at jhinvestments.com/market-intelligence. Otherwise, thanks so much for listening to our show. We'll talk to you next time.
Disclosure
This podcast is being brought to you by John Hancock Investment Management Distributors, LLC, member FINRA,SIPC. The views and opinions expressed in this podcast are those of the speaker, are subject to change as market and other conditions warrant and do not constitute investment advice or a recommendation regarding any specific product or security. There is no guarantee that any investment strategy discussed will be successful or achieve any particular level of results. Any economic or market performance information is historical and is not indicative of future results, and no forecasts are guaranteed. Investing involves risks, including the potential loss of principal.