Thank you to Brian Andrew, CIO for Johnson Financial, for an insightful discussion on the economic outlook in the era of COVID-19. He emphasized that the current economic status is much more of an economic stoppage vs an economic crisis.
A normal recession is a clearing of excesses. What we are experiencing right now is a hard stop of the economy as a result of the Coronavirus pandemic. An unprecedented amount of stimulus (replacements) have been pushed into the economy in an effort to allow the markets to operate normally and help those individuals and businesses impacted most significantly; the goal being to act as a bridge to get businesses on to the other side of the crisis.
When looking at the best/worst case scenarios of this economic crisis, much of it is tied to how quickly we have a treatment or a vaccine. The best case with an earlier treatment or vaccine would lead to a quicker recovery because the stoppage would be shortened and would look less like a true recession and more like a stoppage. The worst case would be that we successfully flatten the curve, and then have a resurgence of COVID cases with another significant closing of the economy. This could cause a major economic crisis that would lead to a credit crisis.
Over $7.5 trillion dollars have been inserted into the economy between US and federal reserve. The industries most impacted have been the restaurants, entertainment, and tourism but all are being affected. The current PPP program is a $350-billion-dollar program running through SBA which typically loans $50 billion a year. They are essentially responsible for unloading seven times the amount of their full year’s program amount in a sixth of the time. Lesson here is be patient.
Market volatility is inevitable but will decrease over time. You should expect to see smaller incremental changes every day as we recover. Given that people are not fully confident you should also expect to see some volatility in the markets. These ups and downs are not necessarily a sign of a healthy market. Smaller increments on a daily basis and less reaction to news events means that markets are healing and turning back to normal. Over 50% of people believe that the low that we saw in March was the bottom.
The banks were in reasonably good shape heading into the crisis with a fair amount of liquidity which is important. From a real estate perspective, things are a little less clear. There has been some activity from buyers better equipped with cash purchasing from owners looking to convert assets. Projects are still getting done as the credit markets and banking systems are in better shape than other recessions.
There may be some permanent changes we see in the economy and from consumers as a result of the virus and the stoppage it has created. Consumer behavior as it relates to retail could trend toward more online purchasing which will impact retail real estate as well as industrial from a standpoint of logistics and supply chain. Today retail sales figures were released for Q1 and they showed at overall retail sales were down over all 8%, auto sales were down 25% and grocery sales were up 26%. These numbers help explain which parts of economy are being specifically hurt and bolstered as a result of the closures.
We could see additional loan forbearance and it remains to be seen what the long-term consequences of this could be depending on how long the shut down lasts. The “potential moral hazard” when someone isn’t paying interest/then someone isn’t receiving, is still a little up in the air. The thought is this will be less of an issue if we recover closer to a best-case scenario. Keep an eye on the science behind this. If we get closer to a vaccine or a treatment the moral hazard risk becomes even less.
Keep an eye on China, as it is a significant driver of global economic growth. We will inevitably see a recovery and we are all wondering how long and how fast it will be…we need to be patient. Not only were they the first to encounter the pandemic, but they are also the second largest economy in the world. They’ve seen a substantial recovery but are still not back to pre-pandemic levels. It has been a bit staggered and not all parts of their economy are seeing the same results.
As we look to the future there is likely a Phase 4 and a Phase 5 part to the stimulus. There is some talk regarding an additional $250-billion-dollar package added on to the PPP, this could come around the end of April or early May. The delay in getting this passed is the recognition that the process of getting the money out has not been smooth. Phase 5 could be in June and may see some relief for commercial real estate and the banks. Right now, there has been focus on mortgage forbearance for residential real estate but not as much for commercial.
The US Deficit was on pace to be $1T early this year. It will likely grow by 4-5 times after stimulus. The Fed has ability to grow balance sheet without creating debt. The Federal Government is spending money they don’t have.