Question: When is the glass half full?
Answer: When it is half empty
I am writing this on March 24, 2020 and much has happened since our last message to you. As this crisis unfolds it is quite easy to make a case for the glass being half empty and half full – two different perspectives of the same reality. I will admit there is often a little Pollyanna in me (minus the pigtails, of course). I see most problems and challenges as issues that require solutions that will, with the right amount of commitment and cooperation, arrive. I also fully accept that our experience between our current reality and the end will prove painful and unpleasant, as all measures of change naturally are.
What I’d like to do today is look at where we are from glass-half-empty and half-full perspectives, giving you the opportunity to draw your own conclusions.
The Case for Glass Half Empty
- Globally reported cases will pass 400,000 today with more than 17,000 deaths (more than a third of them in Italy).
- The U.S. is now at almost 50,000 cases with almost 600 dead. Dr. Neil Ferguson, a British Epidemiologist, is suggesting a worst case result for the U.S. will see their death toll reach 2.2 million and at best 1.1 million (Dr. Ferguson has just been found to have the COVID-19 virus).
- As of March 23rd, U.S. equities had lost US$12 trillion in value and the global total is estimated to be US$26 Trillion . That is approximately a drop of 35% since the peak five weeks ago.
- Governments globally are trying new measures to lock down their populations and reduce the spread of the virus. The drop in economic activity has been huge. This will virtually guarantee that 2020 will be a recession year and estimates for the drop in Q2 activity range from 10-20% (more than any single quarter during the Great Recession of 2008/2009).
- The closure of schools and businesses has meant that parents are often trying to work remotely while managing both their children and their own parents.
- Oil prices have dropped by almost two-thirds in the last year (partially exacerbated by a production feud between Russia and Saudi Arabia). The impact on Canada has been significant. Our dollar has dropped more than 10% this year from about US$0.77 to $0.69. Lumber prices are also down more than 30% in the last few weeks.
In searching headlines, one could easily add further negative outcomes medically, economically and financially to this list. However, let’s consider those things that help make the glass half full.
The Case for Glass Half Full
- Peter Diamandis has been named by Fortune magazine as one of the World’s Top 50 Leaders . A few days ago he wrote a list of 15 different COVID research projects and models that are showing promise in the battle to end this pandemic. The link is here: https://www.diamandis.com/blog/good-news-covid-19
- Several countries in Asia including China, Korea, Hong Kong, Singapore and Japan are also seeing a large reduction in new cases and deaths. In the case of Japan, which has almost twice the population of Italy and has a higher median age ( 47.3 vs. 45.5 as of 2018), the number of infected people is less than 2% of Italy’s and less than 1% of the deaths.
- As we have written before, this may be the first time in recent history where governments through their actions to halt this disease have intentionally created a significant recession. This is also the reason why most governments are responding with massive monetary and fiscal stimulus to mitigate the pain of shutting down those economies.
- We see signs of people pulling together to help others in their community. Not everyone is being impacted by COVID-19 the same way. The elderly and those with mental health issues or who are homeless are particularly vulnerable. Others are helping in any way they can. Below we have included a list of some of the local organizations that are looking for help.
- As of the close of U.S./Canadian markets on March 24, 2020, stocks have had a small lift of 9.38% for the S&P 500 and 11.96% for the S&P/TSX.
- Wall Street Journal – “I’m Scared. And That’s a Reason to Buy.” This article points out that as the crisis worsens, stocks will become cheaper. Being a contrarian and buying at times like these always feels uncomfortable, but it’s important to recognize that there is opportunity despite difficult times.
Any crisis creates opportunities if you are willing to look for them and recognize them when you see them. Below is a list of opportunities we are looking at right now or that we have already acted on.
- Lower interest rates: We have just completed financing on two new residential apartment buildings with the Canada Mortgage and Housing Corporation (CMHC). The average rates work out to 1.7% over five years. That is about 1% less than we budgeted for in January of this year. The savings from these lower rates will mean an additional $4 million for our investors over five years. We are looking at all of our assets with the possibility of refinancing and have identified four more U.S. buildings where refinancing would save US$3 million net of costs over the next five years. We will look through our entire portfolio and report back on what the final results will be.
- Over the last few months, a number of asset classes have seen drops in excess of the overall equity markets and in the examples given here all of them pay substantial yields in the form of distributions, interest and dividends. I asked two of our best analysts, Ben Jang and Russil Lea, to write up a summary of relative performance and value in three sectors: preferred shares, high yield bonds and REITS. The report is here, but their key observations include the following:
- Investment grade preferred shares in Canada have yields currently in excess of 8% with capital appreciation potential over time. That is equivalent after tax to bonds paying an 11% coupon.
- High yield bonds are now paying more than 10% over government bonds of the same duration. Ben has looked at this in some detail and noted that in the 45 times this spread exceeded 8%, investors earned a profit 44 times within two years.
- Last but not least, Russil has put a table together of a number of Canadian REITs that are currently all trading well below the underlying value of their real estate assets. As a result, in most cases their yields have doubled in the last year.
- We are also seeing opportunities in private debt and equity for those who have cash resources to buy. We also believe gold is a good defensive investment in this environment, especially as central banks ramp up their printing presses. Gold was up nearly $134 since Friday’s close, or about +9%. As of today, our funds have collectively over $700 million in cash or short-term deposits that can be deployed. As most of you know, our exposure to long-only equities was only 35% at the beginning of the year and we have kept it between 30% and 40% for many years. Our clients have seen the value of their portfolios fall during 2020. On average it has been just over -8% at a time when equities have dropped -35% and balanced funds with a 60% stock and 40% fixed income mix have dropped -18%.
So I still believe that the case for the glass being half full is more compelling. Of course, we will see more challenges over the coming year, but I have faith in both the human condition and our overall ingenuity and creativity. In the meantime, there are a lot of well deserving organizations who need our help and compassion now more than ever. Given social distancing and the need to stay home, it may not be practical to help in person, but consider what a gift of cash might do. Here are just some of the groups we have spoken with and who we are providing additional support to now:
- Kids Help Phone is working to increase its ability to manage 2000 daily calls with young people needing to speak with someone who can assist them with their mental health and stress issues.
- Covenant House has kept young people off the streets and helped them rebuild their lives for decades. In a time such as this their services are more critical than ever
- Union Gospel Mission provides food and shelter for homeless people on the Downtown Eastside. The DTES is very susceptible to COVID 19 because it is almost impossible to get individuals to practice social distancing in that area of the city.
- The Food Bank has already seen a sharp increase in the need for supplies. They can maximize their ability to deliver food by using a financial donation rather than a food one.
- Take a Hike has been an incredibly effective program for high school kids who have a combination of mental health issues and or challenging family environments. These kids feel it even more when our schools are shut down.
This is an ideal time to give support to one of these organizations or some other group within your community if you can. This is when it will matter the most.
I admit I am guilty of overusing positive metaphors and sometimes at risk of being sentimental. On Sunday my wife Claire and I were enjoying our self-isolation watching a movie about Winston Churchill. We all know Churchill could write a speech and deliver it as no other. He had to lead Britain through its’ most existential crisis. Perhaps my favourite quote from him is this one:
Let us therefore brace ourselves to our duties, and so bear ourselves that, if the British Empire and its Commonwealth last for a thousand years, men will still say: ‘This was their finest hour
I am willing to bet that when this is all over, we will be able to say that about a number of people who made the difference during this crisis.
This material contains the current opinions of the author and such opinions are subject to change without notice. This material is distributed for informational purposes only. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Nicola Wealth is registered as a Portfolio Manager, Exempt Market Dealer and Investment Fund Manager with the required provincial securities’ commissions. The Nicola Core Composite returns represent the total returns of Cdn. dollar denominated accounts of all fee-paying portfolios with a Nicola Core mandate. The composite includes clients who are both fully discretionary and nondiscretionary. Historical net of fee composite performance returns are calculated using individual realized time-weighted client returns net of fees and is presented before tax. The Nicola Wealth inclusion policy is based on clients’ weights at calendar month end. The composite returns are asset-weighted based upon ending monthly market value. The Nicola Core mandate may change throughout time. Additional information regarding policies for calculating and reporting returns is available upon request. The composite returns presented represent past performance and is not a reliable indicator of future results, which may vary.