In a turbulent period for the markets, Calamos has been hosting a Calamos CIO Conference Call series for investment professionals. Below are notes from a call Thursday, April 30, with Michael Grant, Co-CIO, Sr. Co-Portfolio Manager, Head of Long/Short Strategies. To listen to the call in its entirety, go to www.calamos.com/CIOlongshort-4-30
For highlights on last month's calls, see this post.
While predicting that “economic activity in March and April will be the worst of our professional careers,” Grant nonetheless says markets see light at the end of the tunnel that includes economic recovery by July.
“Financial markets are communicating a consistent message: namely, the contours of imminent economic recovery are tracking better than what anyone’s sensibilities would suggest,” he said.
Grant acknowledged that many investors are confused by an apparent paradox: the rapid and uninterrupted recovery in equities since the March lows despite the most severe global recession on record. The rally is “special,” he agreed, and the result of decisive initiatives of the Federal Reserve.
“The reality is that U.S. policymakers have quashed the liquidity and solvency risks of this event. History is likely to judge them well,” said Grant.
“The resilience of the Western consumer combined with unparalleled policy support,” he continued, “will minimize financial stress with the consequence that by mid-year, the global output cycle is well on its way to regaining its pre-virus capacity.”
Further, Grant believes that April’s equity recovery is sustainable, which could disappoint those waiting for a retest. “There is a material likelihood that clients who sold at [March] lows will never see these entry points again,” he said.
It was in March when the fund moved to a net long exposure fluctuating between 50% and 60%, which has been maintained. According to Grant, the team believed that the COVID-19 spread, incidence and fatality would “inflect positively” while understanding that the economic and corporate data would be “ugly.” They were weighing whether to add further hedges on the assumption of a retest of the March lows until the Fed’s “game-changing” actions on April 9.
“Chairman Powell noted that the economic calamity was not the result of ‘bad actors.’ He thus had no misgivings relating to moral hazard and added, ‘We will make you whole’…I want to emphasize how extraordinary these policy actions are,” said Grant.
Grant parts ways with those who are assuming less optimistic outcomes based on “typical” recessions.
“This will be the first economic crisis where policymakers have kept credit markets functioning in the midst of the downturn. This difference alone should convince you to think differently about how economic activity could evolve in coming quarters,” he said.
Today’s crisis might be compared to a natural disaster, which produces sudden stops in economic activity including spikes in unemployment and a collapse in production. Natural disasters are different from a traditional recession in that the damage is immediate and normality resumes within a year, Grant said.
The CPLIX team is expecting 0% revenue growth and a decline of 20% in corporate earnings in 2020. This assumes that U.S. GDP recovers in Q3 and improves further in Q4.
As he’s said before, the team believes that the recession this year will mark the end of the cyclical bear, not the beginning of one.
Grant offered a timeline for how the economy starts back up again, considering both the virus and political considerations.
Virus: “We concluded in March that improvement was a matter of weeks, not months. That was a high conviction view (see this commentary) and it has proven correct,” said Grant. He cited two developments that have occurred this week that he believes confirm “we have entered the decline phase” of the crisis:
The trend toward lower fatality rates is visible everywhere, added Grant, including New York.
Politics: “It is inconceivable that [President Donald] Trump will lock down the U.S. economy into a Great Depression and, seemingly, certain electoral defeat. This argues for economic activity to return to normal by summer—with a material resumption in June,” said Grant.
The team expects the end of the lockdowns to trigger “immense pent-up demand,” notably in the developed world where many have been paid a high percentage of normal income on furlough.
“When do we worry about some of the other issues?” Grant asked. “Our view right now is that the markets just want to see recovery. There will be a stage when we’ll have to decide how much of the demand problem is just delayed, and we come back easily, and how much has been destroyed. I just don’t think we have to worry about that right now.”
Grant closed his prepared remarks with this analogy:
“Every night, we go to bed with the knowledge that sometime around 2 a.m., U.S. economic activity goes to zero. And yet, the overnight futures do not decline by 50%. There is no liquidity or solvency crisis. Instead, financial markets are entirely comfortable looking forward to normality and that is exactly where they pick up the narrative.
“That is the logic that underpins equities today. It has been only eight weeks since COVID-19 washed onto U.S. shores. Cycle times for economic activity, employment and, of course, financial markets have been stunningly compressed. It is probably this rapidity of events that allows markets to look forward to the light of morning.”
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