Major Study Points to COVID-19 Treatment; ‘Game Changer?”

COVID-19 remains a global crisis, particularly since we are moving into the more critical stage (“restart economy”), so please feel free to share this with anyone interested. Last evening, the world learned a Univ. of Chicago’s Phase 3 trial of Gilead’s (GILD) Remdesivir shows significant promise.
Remdesivir has been talked about for some time so I understand the skepticism, but the market has jumped 3% at the prospect.

Policymakers say a vaccine is key, but that could be six to 18 months away so the outlook for reopening the economy is grim if a vaccine is key. However, if COVID-19 spread is 10-20X greater than reported, then vaccines are less important than treatment. A vaccine means the entire US needs to be vaccinated and if 1% have side effects (just assumption, not a fact), then this could be worse arguably than catching COVID. On the other hand, a treatment means only those afflicted need to be dosed and this is more scalable and arguably safer. But take our observations with a grain of salt.

COVID-19 has caused the greatest economic contraction since the Great Depression, created considerable uncertainty and compressed news/economic/financial cycles from months to days. However, I have observed that control of financial markets has shifted to buyers (the “half full” camp), beginning after March 23, 2020.

Consider the reception to freakishly bad economic data, like Thursday’s initial jobless claims (5.2mln, bringing total losses to >22mln). Yet the S&P 500 ended flat (+0.58%). Who would ever have imagined such a number could lead to an up tape?

Financial markets are now starting to communicate a narrative that seems completely out of sync with what we know lies ahead. The US and global economies face a massive contraction, and the way forward is uncertain. But many financial market indicators strongly argue the S&P 500 has decisively bottomed and a new bull market is underway (50% retracement is more prominent).

No one knows the future with certainty and our own notions of the future have been dead wrong. But it seems like stocks are telling us that the economic recovery path is much stronger than people expect.

POINT #1: US net new cases at 30,604, flat vs 4/15, as New Jersey cases increased 100% to 4,287. That is still off 34,617, so we can say the “apex” is behind us. Still, instead of a steady decline in cases, the US is showing a stubborn flatness. One thing that would be a big setback is to see a massive surge in cases in new areas like California or a resurgence in Massachusetts.

Our data scientist, tireless Ken Xuan, shows that MA conducted 8,750 tests on 4/16, +52% higher than 4/15 and perhaps this explains a surge seen there. Only 26% of tests were positive on 4/16 vs 32% on 4/15. The epicenter remains NY state.

POINT #2: The labor data remains tragic. While the employment impact is 20 mln initial jobless claims, 13% of workforce, consider that the income impact could be less than 3% overall. We are in a depression, way beyond a recession. However, what is different about this unemployment surge is that it results from a “social distance” mandate, not due to a collapse in demand or the business cycle.

This matters because one could argue the business cycle rules aren’t at play. Of course, a job lost is a job lost. But consider the income impact with 709,000 jobs lost, as a massive number by any measure. Those were jobs had a median income of $35,402, well below the US median of ~$63,000. In fact, total income lost is less than 0.1% in March. If we multiply this by 10X to 7mm jobs lost, this is 1% and if by 30X, this is 3%.

I recognize the terrible toll on individuals, but the total income impact is shockingly small. It’s clear why: wide income distribution in the U.S. The social distance victim businesses typically hire less skilled labor, with less education and generally younger. The economic hit may be smaller than the market might be thinking.

POINT 3: We have months ahead of us with three waves of COVID-19 misery: 1) healthcare crisis; 2) unemployment surge, 3) effect on asset owners — landlords, banks, business owners, suppliers, etc. (See chart.) Equities, however, tend to bottom before initial jobless claims peak. Is it valid in 2020?

We have noted that in the past, the S&P 500 bottoms 2-4 weeks before initial jobless claims peak. This is what happens in a normal business cycle, but this is not a normal cycle. So we are not confident this is true. But if this is true, it appears initial jobless claims peaked 2 weeks ago, during the week ending 3/27/2020, and that would suggest perhaps 3/23/2020 (SPX at 2191) would logically be the market low.

On an editorial basis, this is my view. We understand the pushback on this point, but I am just observing this is our conclusion. I believe the bottom is in. Source: FS Insight, Bloomberg

Point 4: Strategy: The Way Forward. I think “buy the epicenter” is the best opportunity, the stocks that are the victims of social distance. Consumer Discretionary, Industrials, certain Financials, etc. This is playbook worked as early as October 2008 during the GFC.

Beyond the immediate term, I believe four structural changes will take place in the US economy: 1) supply chain moves back to US (away from Asia; 2) de-urbanization as millennials want less density; 3) work from home reduces office demand and reduces commuting; 4) The US is the best neighborhood.

This should lead to an infrastructure and asset boom in the US. What are the best US assets? Technology, Healthcare and Financials. If Millennials start buying homes, then housing + housing-related and consumer discretionary is interesting. Earlier this week, I noted when consumer confidence is weak that is best time to OW cons. discretionary.

Bottom Line: It does look like the COVID-19 is tracking better than the base case for the White House at the moment.

Figure: Comparative matrix of risk/reward drivers in 2020
Per FS Insight

Figure: FS Insight Portfolio Strategy Summary – Relative to S&P 500
** Performance is calculated since strategy introduction, 1/10/2019