COVID-19 UPDATE: COVID-19 seeing triple confirmation -- cases, hospitalizations, deaths consistently down. What is right P/E for an unkillable company?
Click HERE to access the FSInsight COVID-19 Daily Chartbook.
From a COVID-19 perspective, this week and next week are critical, as this plateauing of cases needs to turn into a downright retreat, before anyone can breathe a sigh of relief. The good news is the case data this week has consistently shown that COVID-19 seems to be in retreat. The daily cases today at 52,300, while up vs 1D ago (expected seasonality), is down 11,327 vs 7D ago. So, the R0 is essentially falling below zero.
In fact, as this expanded series below shows, this decline (7D delta) is even faster than the retreat seen in April/May after this initial surge. Thus, it seems like COVID-19 cases are improving at a faster pace.
Source: COVID-19 Tracking Project
And the epicenter of this June/July surge, the 4 states, FL, CA, AZ, TX, or F-CAT, is seeing daily cases consistently slow. This is highlighted below and in our commentary, we also point out that even hospitalizations are dropping rapidly in these states. If the disease were worsening, we would expect hospital utilization to be rising, not falling.
Source: COVID-19 Tracking Project
But this slowdown is no fluke. About a month ago, every state took corrective action — closing bars, requiring masks, enforcing social distance, etc. And while many skeptics said this was just for “show,” the results suggest these measures worked. In fact, one of our clients sent me this email yesterday, commenting about the situation in Florida:
– the key takeaway, for me, is that Floridians got the message and are wearing masks.
This is good news as it highlights that Americans can rapidly adjust. And we think this makes living with COVID-19 far less deadly and makes operating the economy much safer. After all, none of these 4 states had to close again. But cases are now falling rapidly.
Total COVID-19 hospitalizations in the USA are down ~6,500 from their peak two weeks ago (7/23) and this is further good news. Cases plateaued and while many expect deaths to soar (it should, it does lag), the fact that hospitalizations is trending down means fewer infected require hospitalizations = good.
So there is essentially triple confirmation now:
– daily cases rolling over
– hospitalizations rolling over
– daily deaths rolling over
There will be other things to worry about– school, flu season, etc. But US cases are falling at the moment.
STRATEGY: What is the right P/E for an “unkillable” company?
We understand the argument for those who see elevated equity valuations as making “no sense” — how can P/E rise in the midst of a pandemic and global economic depression?
That said, we believe there are two arguments, which, if correct, argue P/E valuations could rapidly expand in the next 12-18 months:
– Equity P/E vs bond P/E, who is right?
– “Unkillable” companies, which went through an ultimate stress test, will see dramatically lower risk premia = big P/E re-rate
P/E of fixed income is massively higher than equity P/E…
Let’s start with the first assertion. Take a look at the yields of UST, Investment Grade bonds and even high-yield. We can convert these yields to P/E by taking 1/yield. As you can see, the incredibly low yields lead to monstrously high P/E.
– the 10-yr P/E is 183X
– the future growth rate of the coupon on all 3 is zero, no growth
Source: Fundstrat
Below is the corresponding data for segments of the US equity market and also some other country indices. These are sorted from highest to lowest P/E.
– FANG has the highest P/E, but at 32.4X, it hardly seems expensive compared to Investment grade bonds
Source: Fundstrat
This is the ultimate question for me. FANG has a projected 25% EPS growth, already proven to be dominating in a weak growth environment.
– and yet its P/E is less than an investment-grade bond.
– similarly, epicenter groups (Industrials, Discretionary, Energy, Financials) have a lower P/E than a high-yield bond
Aren’t even epicenter companies better credits than HY? Yes.
Source: Fundstrat
Google just borrowed $10 billion for 5 years at 0.45%… yikes
Google issued 5-yr bonds ($10 billion worth) at a coupon of 0.45%. This is a 222X P/E for that bond. By the way, the US 5-yr is yielding 0.22%, so Google and the UST have similar borrowing costs.
– Google is borrowing $10 billion and is paying a mere $45 million/year for the debt service.
Pretty insane. Yet, somehow, one wants to say a 22X P/E is expensive for GOOGL?
Source: Reuters
Premium for unkillability…
The other argument we make for stocks is this data below. We first published these statistics in 2018 and highlight the true longevity of companies. According to data compiled by tireless Ken, our head data scientist:
– 41,592 companies have been listed since 1975 (45 years)
– 45% of these, or roughly half, fell by 90% or more
– of those falling 90%, only 1 in 5 recovered
Thus, the majority of publicly listed companies become zombies or disappear. Most of these are small-cap companies. In fact, as we discuss in this commentary below, about 50% of small businesses fail within 5 years. So this mortality is high for businesses, generally.
Source: Fundstrat
But if a company survives today, particularly after experiencing the worst economic contraction ever and even exceeding the Great Depression, doesn’t this survivor warrant a higher P/E?
POINT 1: Decline in USA COVID-19 cases accelerating…
The decline in COVID-19 cases in the US continues to accelerate to the downside. There is a consistent weekly seasonality, so midweek cases are higher (weekend lags, etc.), so measuring progress is best looking at 7D ago.
– Daily cases are up slightly Wednesday (vs 1D ago) at 52,300 but down 11,327 vs 7D ago
– In other words, instead of spread accelerating, the R0 looks to be below 1.0
Source: COVID-19 Tracking Project
As we have said for the past few weeks, the 7D delta of daily cases is a leading indicator, and arguably way more important than reported daily cases. This highlights the true trend and as you can see, the decline in cases vs 7D ago is accelerating.
Source: COVID-19 Tracking Project
In fact, this decline in daily cases vs 7D ago is even faster than the pace seen in April. As this chart below highlights, in April, daily cases vs 7D ago were declining at 4,000 and they are now declining >11,000 vs 7D ago.
– thus, we would argue this points to a faster decline in cases in August
Source: COVID-19 Tracking Project
6 states reported sizeable 1D rises
Georgia 3,765 vs 2,513 (1D) +1,252
California 5,295 vs 4,526 +769
Arizona 1,698 vs 1,008 +690
Iowa 617 vs 201 +416
Illinois 1,759 vs 1,471 +288
Oklahoma 1,101 vs 861 +240
Total +3,655
6 states report sizable 1D declines
North Carolina 1,127 vs 1,629 (1D) -502
Texas 8,706 vs 9,167 -461
Louisiana 1,482 vs 1,874 -392
Virginia 798 vs 1,145 -347
Nevada 649 vs 980 -331
Pennsylvania 705 vs 854 -149
Total -2,182
Source: COVID-19 Tracking Project
Daily deaths are up, but this is somewhat expected. But the trend in deaths seems to be slowing.
The 7D delta in deaths is down for 3 of the 4 days. Looking below, you can see this surge in daily deaths is now turning into a flattening and given hospitalizations down (see next section), we should see it fall.
Source: COVID-19 Tracking Project
Even daily deaths in the epicenter, FL, CA, AZ, TX, or F-CAT, is rolling over. So, there is essentially triple confirmation now:
– daily cases rolling over
– hospitalizations rolling over
– daily deaths rolling over
There will be other things to worry about– school, flu season, etc. But US cases are falling at the moment.
Source: COVID-19 Tracking Project
POINT 2: More reason “surge” behind us, as hospitalizations falling broadly…
Below is the total number of Americans currently hospitalized with COVID-19. Every state reports this data (although the history is not full for many, such as FL). The trend is pretty clear.
– Hospitalizations peaked 7/23 at 59,660
– In past 14 days, this is down ~6,500 to 53,296
The number of Americans hospitalized with COVID-19 is declining for the past two weeks.
This affirms our view that the June-July surge in COVID-19 cases plateaued in late July. And now we are seeing a steady decline in cases. If this is a textbook peak, similar to what was seen in NY tristate, we could see crushing declines in the coming weeks.
Below is the current hospitalizations for F-CAT. These are the number of people currently in a hospital. Thus, if this figure is falling, hospitalizations are declining:
– every single F-CAT state is seeing a downturn in hospitalizations.
– this means more people are being discharged than admitted.
– even as some are seeing elevated cases levels, hospital utilization is actually falling.
The chart below is the same 4 states, but showing the net change in hospitalizations. If it is a negative value, the hospitals are discharging more than admitting.
– again, 4 of 4 states are now discharging more COVID-19 patients than it is admitting.
– it is another strong sign that the surge in F-CAT is over.
Source: COVID-19 Tracking Project
This is important because if someone is going to suggest that deaths are about to soar, the decline in hospitalizations is somewhat arguing against that.
And if deaths are not soaring, this does mitigate the tragedy of COVID-19, to an extent. There are multiple reasons this could be happening:
– younger infected (youth and teens partying)
– better treatment
– nursing homes protected
– is disease weakening?
POINT 3: COVID-19 accelerating creative destruction = high ROIC for new capital
In many of my conversations, someone will cite the expected collapse of small businesses and soaring bankruptcies as a reason to be negative on the future growth outlook for the US economy. It is certainly true that business failures, bankruptcies, mass layoffs create economic losses. The current holders of these assets and their creditors will realize losses. This is a negative consequence. And there is also the human tragedy and toll that stems from this. But at the same time, the destruction of capital and associated losses leads to innovation and high returns for incremental capital.
Take a step back. The success of FANG likely caused thousands and thousands of businesses and industries to fail — these innovative companies pretty made many billions of dollars of capital obsolete.
This is what is happening at a larger scale from COVID-19.
Below is a chart from the BLS (Bureau of Labor Statistics) and it shows what % of businesses survive by its fifth year after inception. There are ups and downs associated with business cycles, but it shows a consistent pattern.
– roughly 50% of any US business created fails by its fifth year.
– thus, many small businesses were not likely going to survive.
We also realize this is not a fair comparison, because that survey is only for “newly formed” businesses, and with 30% unemployment, a large percentage of mature businesses will fail.
But some businesses will fail because the world has changed…
But the point we are making is that this COVID-19 is a massive stress test. Many businesses will recover once the economy can operate with reasonable restrictions. And if there is a cure/vaccine, this is accelerated.
But the temporary stoppage of the economy is not the only source of failure. Multiple factors are behind it:
– temporary loss of business
– working capital mismatch
– negative operating leverage
– cannot adjust to the new world
This latter category of companies is those that will not likely ever come back.
Latest McKinsey survey highlights some changes in consumer behavior that could be “longer term”
McKinsey published a new consumer survey of US shopping behavior.
The study has many interesting charts, but I wanted to highlight two of them. The first one is where digital spending is set to rise. This is shown below, but there is a notable increase in what purchases consumers will make online. The 8 biggest increases are (based on the survey):
– OTC medicine
– Groceries
– Household supplies
– Personal care
– Alcohol
– Furnishings
– Food takeout
– Fitness
Wow.
This is a pretty significant share of existing physical retail space. The expected percentage increases are in the chart below, but the top 8 have anywhere from a 28%-45% rise in expected spending online. Now, this could be the same company now getting the same sale digitally, rather than physical.
But the broader point is the stranded PP&E (property plant and equipment, not PPE, personal protective equipment). This is capital losses ala creative destruction.
https://www.mckinsey.com/business-functions/marketing-and-sales/our-insights/the-great-consumer-shift-ten-charts-that-show-how-us-shopping-behavior-is-changing?cid=other-eml-alt-mip-mck&hlkid=69d8f7161c9948ec858d7df0bdd7dbfb&hctky=9489327&hdpid=53369599-0702-4df1-a824-310b2d7c65cb
The past 6 months has also created significant changes in how Americans spend time…
This second chart shows how there have been material changes in how Americans allocate their time. The chart below is a diffusion chart, and the column on the right shows whether this category is seeing a net increase or decrease.
Topping the list of increases:
– Cooking +33%
– Home improvement +18%
– Movies or Shows +17%
– Exercising +12%
Again, what stands out to me is the discovery of cooking and more exercise (I assume either outside or at home, but not at a gym). These could be the structural changes that lead to more stranded capital. But this is also new opportunities for innovative companies.
