PLANADVISER - July/August 2020 - 14

cover story
At Fidelity Investments, portfolio managers faced the
COVID-19 storm already wearing foul-weather gear, having
previously scaled back on risk. " The first-order protection
for a TDF is diversification, and during the last few years we
had increased our diversification strategically and reduced
our equities, particularly for the older investors, " explains
Boston-based Andrew Dierdorf, one of three Fidelity TDF
portfolio managers. " We didn't see a pandemic coming; I
don't think anyone was forecasting that. But we did see signs
that uncertainty was increasing-things such as terrorists
were in the dialog more often and 'peak globalization.' We
saw less central bank and government policy coordination
around the world, which can lead to greater volatility, so in
2018 we reduced our equity allocation for those in or near
retirement by up to 5% and added to long Treasury bonds
and TIPS [Treasury inflation-protected securities]. "
" ... what has been so
challenging is that science
is slow and methodical, and
does not move at the rapid
speed of the markets. "
New Threats Need New Data
" In market shocks, we're used to basing decisions on cash
flow forecasts for companies, fiscal or monetary policy
changes or election outcomes, " says Oldroyd. " This one calls
for new information sources, and what has been so challenging
is that science is slow and methodical, and does not
move at the rapid speed of the markets. "
For more rapid insights, J.P. Morgan called on more rapid
information sources. " We have to weigh our confidence in
our forecasts of tail risk, " Oldroyd adds, " and one shift we
have made is to look at very short-term data, such as credit
card charge volumes. We knew that the new data might be
volatile, but we thought it might give better clues, and it was
that information that helped us with the decision to raise
our equity allocations. "
New data sources allow a more timely reveal of the
big picture as well, from the markets' aggregate view of a
recovery in corporate profits. Drawing from the dividend
futures market, two creative academics at the University
of Chicago have deconstructed investors' year-by-year
expectations for dividends for the U.S. and European stock
markets and, by implication, corporate profits and the global
economy. In their June paper " Coronavirus: Impact on Stock
Prices and Growth Expectations, " Niels Gormsen and Ralph
Koijen wrote, " As the current situation is unprecedented and
evolving rapidly, models that use macroeconomic fundamentals
to form expectations may miss some of the key
forces and may be too slow to update. "
Dividend futures trade separately by vintage year and
provide insight into when investors expect growth to occur.
" One-year dividend growth expectations did not respond
much to the [initial] Wuhan lockdown, " Gormsen and
Koijen wrote. However, expectations for growth in Standard
& Poor's (S&P) 500 index dividends one year out had
faded as much as 30% by early April, when the index level
had fallen by roughly as much. By June 8, expected S&P
500 dividend growth over the next year had recovered to a
drop of 9%; at that time, the index stood about 10% below
its February 19 high of 3386.
History Lessons
Do past market calamities provide guidance for investing
against COVID-19? " The Fed says it may undertake a policy
of yield-curve control, " James Grant, a scholar of financial
history and editor of " Grant's Interest Rate Observer, "
in New York City, told PLANADVISER in an exchange of
emails. " The last is not unprecedented-the Fed pegged
yields between 1942 and 1951, but that was a wartime expedient.
It will be said that COVID-19 is the viral equivalent of
war, but the Fed, along with the other major world central
banks, has been intervening more and more aggressively
with each successive crisis. "
The global financial crisis brought a large response from
the Fed, but the current assistance is much broader and
came more quickly, Grant adds. " So we are in monetarily
uncharted waters. "
Dierdorf echoed the unusual circumstances. " You
can look at events where there have been recessions, and
depressions, and pandemics, but they were not countered by
the level and speed of monetary and fiscal response we've
seen with COVID-19. "
" By the end of March, it was clear we were in a recessionary
bear market, and for those sorts of markets, history
suggests a more protracted recovery period, " says Charles
Shriver, portfolio manager of T. Rowe Price Group's Global
Allocation Fund, and co-chair of the firm's asset allocation
committee, in Baltimore. " Those recessions are brought on
by policy dislocations-the Fed overtightening on interest
rates, or the oil embargo in the 1970s. With COVID-19, in
effect there is a policy element from a health care perspective.
We don't know when we'll get a vaccine, though there
is general confidence it will be in 2021. But it will take time.
That suggests a deep economic and earnings trough, and
the question is whether some segments of the economy will
see a permanent impairment. "
The market-moving power of the current government
assistance is illustrated in the accompanying chart (see
next page), which plots the five significant drops and recoveries
in the S&P 500 since 1972, plus the COVID-19 crisis
of the current year. On average, the trip to the bottom and
the climb back to the prior high took about 42 months. This
time, the S&P 500 made its drop faster than in any recent
decline, but as of June 30 the index was back to within 8% of
its pre-COVID high, and in just six months.
Absent a historical precedent to guide their investing,
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PLANADVISER - July/August 2020

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