There Is a Way Out of the Coronavirus Crisis, and Long-term Opportunities in an Oversold Equity Market

In a turbulent period for the markets, Calamos is hosting a Calamos CIO Conference Call Series for financial advisors. Below are notes from a call Thursday, March 19, with John Hillenbrand, CPA, Co-CIO, and Senior Co-Portfolio Manager for Calamos Growth and Income Fund (CGIIX). John is also Head of Multi-Asset Strategies and Co-head of Convertible Strategies. To listen to the call in its entirety, go to www.calamos.com/CIOequities

Summary of Key Views

• Natural disaster responses provide a framework for how to view the pandemic and how it might be resolved. We know how to do this, but we must work through it with both the government and private sector.
• In regards to liquidity conditions, the system is bending but not breaking.
• In terms of valuations, some companies are cheap for good reason, but many are just cheap—the victims of forced selling.
• Near term, we see the bottoming in the market being driven by a calming of liquidity conditions and the Treasury market, fiscal policy implementation, vaccine progress and containment of the outbreak. The upcoming earnings season can provide clarity and stability to the markets, helping to separate the macro events and the micro events.
• Likely winners in long term: large companies, multichannel retail, online retail, software as service, cloud and virtualization companies, beneficiaries of re-drawn supply chains, companies providing health and food/travel safety innovations.
• Likely losers in long term: low return on capital and overcapitalized companies, smaller businesses in retail and restaurants, energy names hurt by the economic downturn and OPEC+ upheaval.
• Calamos Growth and Income Fund is differentiated from peers by its multi-asset equity-oriented approach; the portfolio includes an actively managed mix of equities, convertible securities and risk-managed option strategies.
• Top-down and bottom-up research (including comprehensive capital structure analysis) seek to provide a favorable asymmetrical risk profile, capturing more equity upside than downside.

Additional Details

There is a way out of this crisis, modeled after responses to natural disasters. We know what we need to do, we just need to do it.

• The pace of government and private sector response will likely be slower than we may like, but we have the collective knowledge to address the pandemic, including support to individuals and businesses.
• China and other countries have shown how to slow the infection rate and provide treatment. We’ve seen some success but we know it takes time, with economic activity ramping up slowly.
• Governments are needing to confront the trade-off between saving lives and economic growth. Slow activity will last longer than a couple of weeks, as governments prioritize health and safety.
• But at some point, we will have to get back to work. Doing a better job testing could make a positive impact in the U.S., as would more focused mitigation strategies versus broad national mitigation strategies. Then, the private sector could move forward. With better treatment options and workplace safety in place, this would help the economy get back on course.
• The bigger issue relates to needing the government to help restart the economy. In the wake of natural disasters, the government’s response has often been not as quick or thorough as it needs to be. In this case, the economy is already slowing up and we are still awaiting a comprehensive fiscal response. The faster we can move, the better.
• We are concerned about the loss of income for small businesses and low-income individuals; this could create pressure in our service-driven economy. Emergency loans to small business will be crucial. As has been the case following other natural disasters, small business is especially vulnerable in the current crisis.

Liquidity Conditions: The System Is Bending But Not Breaking

• Individuals, businesses and owners of financial assets are all trying to raise cash at the same time, putting stress on liquidity overall.
• The Federal Reserve and other central banks know how to fix this and are putting in the appropriate facilities in place.
• So, here too, we know what to do, and it’s happening, so conditions are likely to improve.

Valuations: Many Opportunities Have Emerged in the Wake of Panic Selling, But Selectivity Is Key

• We’ve seen extreme valuation moves in risk assets, exacerbated by ETF moves, CTAs, and hedge funds.
• There are some companies that are cheap for a reason, but some companies, particularly high-quality companies, are just cheap. Our return on capital model points to very favorable risk/reward profiles in half of the large cap universe (modestly extreme result). We are going through those names for opportunities.

The Near-Term Signs of Market Bottoming Process We Are Watching For

• A calming of the liquidity rush, which could happen in the next one to two weeks as Fed measures push in.
• Certainty on fiscal plans.
• Some reduction in volatility; we have seen some calming in the Treasury market.
• Earnings season will soon be underway. Better information should help separate macro events and micro events. What are companies doing, what are they seeing, what do their balance sheets actually look like, what are their funding requirements?
• The market has been in a mode of “shooting first and asking questions later,” greater clarity on how businesses are dealing with challenges can provide stability to the market.

Winners and Losers

• John expects a continuation of the “big get bigger” theme that favors companies with the capital and resources to survive and thrive, like online retailers and multichannel retailers.
• The team sees tailwinds for companies that are capitalizing on increased spending on healthcare and food safety measures, including developers of vaccines and treatments, and innovators in food, dining and travel safety. After 9/11, changes were made across the airline industry to get people back on planes, we expect something similar to occur in terms of health measures.
• Continued opportunities in software as service, the cloud, and virtualization.
• Alternative supply chains: The pandemic has raised new issues in how goods move from point A to point B; companies that can solve these problems are positioned advantageously. This also dovetails into the localization of global supply chains that began during the trade war.
• Companies on the losing side include areas with overcapacity and low economic returns—companies that can’t survive the macro shocks, including small business retail/restaurants, the energy sector. 

Calamos Growth and Income Fund: Differentiated Approach Drives Results

• The Fund seeks equity-like returns with less equity risk through a multi-asset equity-oriented strategy.
• John’s team combines top-down process and bottom-up analysis. Top-down focuses on where we are in the economic and market cycle; this guides the Fund’s level of equity exposure.
• Bottom-up analysis is supported by an integrated research team focused on identifying the most attractive companies, and then the most attractive opportunities in the capital structure (for example, common stock, fixed income, convertible, or option).
• At all times, John’s team seeks to have an asymmetric risk profile embedded in the portfolio, with assets and instruments in the portfolio providing more upside than downside.
• Differing from other multi-asset peers, this asymmetric risk profile is often supported with an option strategy, generally implemented through positions in convertible securities (which are essentially a fixed income security with a long-term option).  
• Convertibles also provide a lower-volatility way to participate in a riskier equity that the team likes.
• The Fund will also pair equities with listed options, and use puts to mitigate downside exposure.
• The Fund relies on a complex mix of assets, by intent. The asset allocation (stocks, converts and fixed income) may not tell the whole story of equity exposure. Options can be in or out of the money to varying degrees, convertible securities vary in their levels of equity and fixed income sensitivity, and puts can limit exposure to downside.