ADVISOR RESOURCE COUNCIL

WEEKLY MARKET REPORT – COVID-19 coronavirus edition

February 29, 2020
While the first case of the new COVID-19 coronavirus was reported towards
the end of December 2019, markets had been mostly resilient. The S&P 500
started 2020 like it ended 2019 – on a tear. Wall Street analysts were calling
for a v-shaped recovery in economic data after the virus citing pent up
demand and a strong U.S. economy. Meanwhile, our analysis suggested
that the market setup going into the outbreak was fragile.

The U.S. economy was already slowing. Looking under the hood at the
components of the Q4 2019 GDP report, private investment dropped and
underlying demand decelerated significantly from Q3 to the Q4 of 2019.
Additionally, corporate earnings were flat during 2019 and are likely not
going to pick up significantly given higher labor costs and the economic
slowdown. Despite the underlying weakness, investors were complacent
and continued to drive markets up. With the Dow, S&P 500 and Nasdaq
indices all reaching new highs on February 19th, the stock market was more
overvalued than it was prior to the financial crisis. According to our bottom-
up valuation engine, which measures the value of each publicly traded
company, the S&P 500 was 26% overvalued prior to the drawdown,
compared to 14% overvalued prior to the financial crisis of 2008-2009.
According to traditional valuation metrics like the trailing Price to Earnings
ratio(P/E), markets also looked more expensive than they were prior to the
crisis. The P/E ratio of the S&P 500 was at 22.32 on February 19, 24% higher
than the pre-crisis peak of 18.

Both retail and institutional investors were betting on a continued rally with
individuals piling into risky names like Tesla and hedge funds ramping up their
leverage by 5 percentage points, the fastest expansion in years according
to Morgan Stanley. As a result, evidence points to almost everyone being
bullish prior to the selloff. This tends to accelerate market moves in either
direction.

While we are not virologists, Chinese factories remain closed and it is evident
that the virus is spreading at an accelerating rate outside of China. This is a
sign that the virus will represent a major supply shock to U.S. companies and
the severity of its impact on the global economy remains unclear. The first
clean read on the flow through effects of the virus on the U.S. economy
came last week when IHS reported their manufacturing and services
purchasing manager’s indices for the month of February. The composite, an
aggregate of the two, dropped to its lowest level since 2013. Apple had
Authors previously presaged that the U.S. economy would be affected when it
suggested that it was going to miss its revenue targets due to a slower than
Jean Paul Lagarde expected resumption in production and a sharp slowdown in demand.
Chief Investment Officer
Since the IHS reported its numbers, the fragility that we identified has started
Manolo Baca to be priced in by investors with the S&P 500 crashing -12.4% from 02/20 to
Investment Analyst yesterday’s close.

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 Weekly Market Report - COVID-19 coronavirus edition

According to Deutsche Bank, that is the shortest amount of time in which the S&P 500 has gone
from record high to correction. Meanwhile, volatility has spiked with the VIX surging. The fear
gauge had its highest closing level since 2011. Further, bond yields have tanked with the 2-Yr
Treasury yield crashing to 0.92% and the 10-Yr Treasury yield dropping to a record low 1.16%.
Credit spreads across all qualities also started to widen, with investors withdrawing record amount
from the two largest high yield bond ETFs.

The slowdown in Chinese economic activity is also becoming more apparent. Overnight, China’s
National Bureau of Statistics (NBS) reported its manufacturing and non-manufacturing purchasing
managers’ indices (PMIs). The manufacturing PMI came in at 35.7, below the 38.8 figure reported
during the financial crisis and the lowest reading ever. The country’s non-manufacturing PMI
tanked to 26.6, also the lowest reading on record.

Some Wall Street analysts are calling for calm in light of the market correction citing how the S&P
500 has historically bounced back after major health crises including the SARS-Cov epidemic, the
Ebola epidemic, and the H1N1 Influenza outbreak. They are correct that markets have generally
bounced back after health crises. Exhibit A shows that the S&P 500 has been up between +4.5%
and +19.5% one year after key announcements regarding SARS, Ebola and H1N1. However,
comparing those outbreaks and their implications for markets to the COVID-19 coronavirus is
shortsighted. As we explained earlier in the note, the market setup going into the outbreak was
fragile – much more than during other global health crises. While remaining levelheaded is
important, we believe that the supply and demand shock from the outbreak will hit the already
weakening U.S. and Chinese economies and defensive positioning is prudent until the situation
fully plays out. The Federal Reserve may try to step in by cutting interest rates to kickstart the
economy. That may excite investors temporarily, but it will not resolve the underlying issue, which
is a non-financial shock to economic activity. Having an exposure to asset classes like Treasuries
and hedged equity, which utilizes put options to reduce market risk can be a great tool to help
navigate the market uncertainty.

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 Weekly Market Report - COVID-19 coronavirus edition

SARS-CoV Epidemic Ebola Epidemic1yr return from

1200 2200 03/07/2014 +10.7%
1150 2150
1100 2100
1050 2050
1000 1yr return from 2000
950 11/06/2002 +4.5% 1950
900 1900
850 S&P 500 1850 S&P 500
800 Start of SARS 1800
outbreak in China WHO declared
750 1750
outbreak in Guinea
700 1700

H1N1 COVID-19 Coronavirus

1400 3500

1300 3400
CDC announces
1200 1yr return from 3300 virus likely to
05/08/2009 +19.5%
spread in the U.S.
1100 3200

1000 S&P 500 3100 S&P 500

900 Declared pandemic 3000

by WHO
800 2900

SARS-CoV H1N1 Ebola COVID-19

ARC Metric – S&P 500 % 39.9%

N/A 7.6% over 26.0% over
Over/Undervalued under

Price to Earnings Ratio 20.41 16.94 17.66 22.32

Price to Earnings 5yr.

5% 48% 83% 97%
Percentile

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 Weekly Market Report - COVID-19 coronavirus edition

MARKET RECAP

Index Returns (Change in % pts.)

1 Week MTD QTD YTD 1 Year
Equities
DJ Industrial Average -12.36 -10.07 -10.96 -10.96 -1.95
S&P 500 -11.49 -8.41 -8.56 -8.56 6.10
Nasdaq -10.54 -6.38 -4.52 -4.52 13.74
Russell 2000 -12.04 -8.53 -11.51 -11.51 -6.29
Russell 2000 Growth -11.58 -7.28 -8.32 -8.32 -1.44
Russell 2000 Value -12.55 -9.88 -14.82 -14.82 -11.27
FTSE 100 -11.12 -9.68 -12.75 -12.75 -6.98
EuroStoxx 50 -12.39 -8.55 -11.10 -11.10 0.95
EuroStoxx 600 -12.25 -8.54 -9.66 -9.66 0.76
DAX -12.44 -8.41 -10.25 -10.25 3.25
CAC 40 -11.94 -8.55 -11.18 -11.18 1.32
Nikkei 225 -9.59 -8.89 -10.63 -10.63 -1.13
KOSPI -8.13 -6.23 -9.59 -9.59 -9.49
Hang Seng -4.32 -0.69 -7.31 -7.31 -8.74
CSI 300 -5.05 -1.59 -3.82 -3.82 7.38
MSCI Canada -6.34 -3.62 -2.32 -2.32 3.44
MSCI Brazil -11.17 -13.78 -20.33 -20.33 -12.74
Nifty 50 -7.28 -6.36 -7.94 -7.94 3.79
Fixed Income
Barclays U.S Aggregate 0.55 1.09 3.03 3.03 10.90
Barclays U.S Treasury 1.14 1.62 4.11 4.11 11.02
Barclays Muni Aggregate 0.68 1.22 3.04 3.04 9.39
Barclays Euro Aggregate 0.06 0.35 2.34 2.34 7.52
Barclays Asia Pacific Aggregate -0.58 0.26 0.45 0.45 2.03
Alternative
Global Hedge Fund Index -1.34 -0.24 0.17 0.17 5.87

S&P 500 SECTOR RETURNS MTD S&P 500 SECTOR RETURNS YTD

20.0% 25.0%
Communications

Communications

15.0% 20.0%
Discretionary

15.0%
Discretionary

Healthcare
Real Estate
Healthcare

10.0%
Real Estate

Financials
Industrials
Industrials

Materials
Financials

10.0%
Materials

S&P 500
S&P 500

Staples
Staples

Utilities
Utilities

Tech.
Tech.

5.0%
5.0%
S&P 500 SECTOR RETURNS MTD S&P 500 SECTOR RETURNS YTD
0.0% 0.0%

-5.0%
-5.0%
-3.8%
-4.4%
-5.3%
-5.7%

-10.0%
-7.2%
-6.3%

-8.0%
-6.5%
-6.8%

-8.6%
-7.4%

-9.5%

-10.0%
-7.7%

-10.1%
-8.2%
-8.4%
-8.7%

-15.0%
-9.6%
-10.3%

-13.8%
-11.3%

-14.3%

-15.0% -20.0%
-15.3%

-20.0% -25.0%

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 Weekly Market Report - COVID-19 coronavirus edition

MARKET RECAP

Currencies (Net Change)

Last 1 Week MTD QTD YTD 1 Year
Dollar Index 98.113 -1.149 0.723 1.724 1.724 1.956
Euro ($/€) 1.103 0.019 -0.006 -0.018 -0.018 -0.034
Pound ($/£) 1.282 -0.014 -0.038 -0.043 -0.043 -0.044
Yen (¥/$) 107.950 -3.660 -0.400 -0.660 -0.660 -3.440
Canadian Dollar (CAD/$) 1.342 0.019 0.018 0.043 0.043 0.024
Swiss Franc ($/CHF) 1.036 0.014 -0.002 0.003 0.003 0.034
Chinese Yuan (CNY/$) 6.979 -0.058 -0.019 0.017 0.017 0.276

Commodities (Change in % pts.)

Last 1 Week MTD QTD YTD 1 Year
WTI Oil $45.26 -15.21 -12.22 -25.88 -25.88 -20.90
Natural Gas $1.69 -11.08 -7.98 -22.61 -22.61 -39.76
Gold $1,580.70 -4.13 -0.45 3.78 3.78 20.10
Core Cmdty. Index $159.45 -8.70 -6.38 -14.18 -14.18 -12.75

Volatility (Change in % pts.)

Last 1 Week MTD QTD YTD 1 Year
VIX 40.11 134.84 112.90 191.07 191.07 171.38
VXD 42.67 141.07 137.72 221.07 221.07 188.90
VXN 43.13 92.03 102.20 155.36 155.36 151.19
RVX 42.47 124.23 108.90 164.94 164.94 147.49
TYVIX 7.58 53.44 41.68 83.54 83.54 96.37

Rates (Change in bps)

Last 1 Week MTD QTD YTD 1 Year
U.S Treasuries 2-Year 0.92% -43 -39 -64 -64 -159
U.S Treasuries 5-Year 0.94% -38 -37 -75 -75 -157
U.S Treasuries 10-Year 1.16% -31 -35 -76 -76 -155
U.S Treasury 2-10 Slope 0.24% 12 4 -11 -11 3
German Bunds 10-Year -0.61% -18 -17 -42 -42 -79
French OATs 10-Year -0.29% -9 -11 -41 -41 -86
Canada Gov't Bonds 10-Year 1.14% -14 -13 -56 -56 -80
Brazil Gov't Bonds 10-Year 6.80% 19 9 1 1 -216
China Gov't Bonds 10-Year 2.73% -13 -27 -41 -41 -45

*The opinions voiced in this material are for general information only and are not intended to provide specific advice or
recommendation for any individual. All performance referenced is historical and is no guarantee of future results. All indices are
unmanaged and may not be invested into directly. The economic forecasts set forth may not develop as predicted.

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