MANUFACTURING PMIs

Markit released its February manufacturing PMIs this morning (USA is out at 9:45h). China is obviously hard hit but other countries look better because their manufacturing activities have yet to be impacted. I expect the Services PMI to be released Wednesday will look much worse globally.

Regarding the U.S., Goldman Sachs just updated its own Analyst Index:

The composition of the survey was soft, as all key components –employment, sales, and orders – declined. While several other business activity surveys for the month improved, manufacturing surveys with later response periods generally underperformed and in some cases explicitly noted some impact on business activity from COVID-19. Half of GSAI respondents cited the virus as a major headwind.

CHINA: Production declines at record pace as factories shutdown due to coronavirus

Efforts to contain the recent outbreak of the coronavirus in mainland China weighed heavily on manufacturing sector performance in February. Production, new work and staffing levels all fell at the quickest rates since the survey began nearly 16 years ago as companies extended their usual Lunar New Year shutdowns to help stem the spread of the virus. Supply chains were also hit heavily, with average delivery times increasing at the quickest pace on record, leading firms to increase their use of current stocks.

However, firms anticipate a recovery in production over the next year due to expectations that production will be ramped up once any coronavirus-related restrictions are lifted. Notably, the degree of positive sentiment was the strongest seen for five years.

At 40.3 in February, the headline seasonally adjusted Purchasing Managers’ Index™ (PMI™) fell from 51.1 at the start of the year to signal a renewed decline in the health of the sector. Furthermore, it was the lowest PMI reading since the survey began in April 2004.

Production fell sharply during February as many firms shutdown or were operating below capacity due to restrictions put in place in response to the coronavirus outbreak. The rate of contraction was the quickest on record, and ended a six-month period of rising output.

The total amount of new work received by Chinese manufacturers also declined at the steepest rate since the survey began in early 2004. The drop in sales was the first seen since June 2019, with companies widely linking the fall to the coronavirus and subsequent factory closures. Meanwhile, the level of new export work fell at one of the fastest rates in the series history, which was in turn attributed to shipping restrictions and order cancellations. (…)

• China Purchasing Indexes Drop to Record Lows Official gauges of China’s factory and nonfactory activity plunged in February as the nation’s economy struggled with the coronavirus epidemic.

The official manufacturing purchasing managers index tumbled to 35.7 in February from 50 in January, indicating a deep contraction. (…) The index dropped to 38.8 in November 2008, when the financial crisis prompted steep losses on Wall Street and sent shockwaves through the global economy. (…)

Adding to the gloom, China’s nonmanufacturing PMI, also released on Saturday, sank to a record low of 29.6 in February from 54.1 in January. The nonmanufacturing PMI covers such services as retail, aviation and software as well as real estate and construction. (..)

The central bank lowered benchmark lending rates earlier this month while offering large amounts of liquidity to the financial system so banks can lend more to businesses hit hard by the epidemic. China’s cabinet on Tuesday cut taxes for small businesses and ordered state-owned banks to issue more cheap loans while offering longer grace periods for borrowers to repay loans. (…)

EUROZONE: PMI rises to one-year high, but supply-side constraints emerge

Operating conditions in the eurozone’s manufacturing sector continued to worsen during February, but only marginally and at the weakest rate for the past year. The IHS Markit Eurozone Manufacturing PMI®, which is adjusted for seasonal factors, recorded 49.2 in February, up from January’s 47.9 and slightly above the earlier flash reading. (…)

Country level PMIs were generally higher in February, although notably France saw its PMI sink to a seven-month low whilst there was also a further worsening of operating conditions in Italy. The biggest manufacturing economy, Germany, also saw another deterioration in performance, despite the respective PMI reaching its highest level in over a year.

In contrast, Greece saw growth accelerate to a marked pace, whilst a solid improvement was recorded in the Netherlands. Modest expansion was seen in Ireland, whilst marginal gains occurred in Austria and Spain.

Euro area wide manufacturing production and new orders both remained inside negative territory during February, although rates of contraction were the weakest in nine and 15 months respectively. In contrast, export trade fell at a sharper rate to extend the current run of continuous contraction to just under a year-and-a-half.

Supply-side constraints were in notable evidence during February as average lead times for the delivery of inputs lengthened appreciably and for the first time in a year. Manufacturers primarily linked the deterioration in vendor performance to the coronavirus-related factory shutdowns in China. All countries recorded a lengthening of lead times, with the Netherlands observing the greatest monthly deterioration.

With deliveries of inputs delayed, manufacturers continued to utilise their stocks of purchases to support production. Latest data indicated a thirteenth successive monthly fall in input inventory. There was also an accelerated reduction in stocks of finished goods over the month. Declining for an eighth month in succession, the fall of warehouse inventory was the greatest recorded for nearly three-and-a-half years.

Companies also pulled back on their buying activity. February’s survey showed that the purchasing of inputs was cut for a fifteenth month in a row.

Deflationary pressures remained prevalent in February, with both input costs and output charges continuing to fall. Although the reduction in input prices was the weakest for eight months, the cut in output charges was the greatest for just under four years as firms grappled with underwhelming sales trends and competitive pressures.

On the jobs front, staff numbers were reduced for a tenth successive month. The rate of contraction was solid, albeit weaker than those seen around the turn of the year, as firms responded to reduced workloads by seeking to cut any excess capacity.

Finally, having reached a near one-and-a-half year high during January, business confidence was slightly lower in the latest survey period. With the exceptions of Austria and Greece, sentiment fell across the region. Confidence remained lowest in Germany, followed by France.

Chris Williamson, Chief Business Economist at IHS Markit:

Despite widespread reports from companies that the coronavirus outbreak disrupted supply chains and hit foreign sales, resulting in considerably longer lead times and a steepening drop in export orders, February saw encouraging signs that the eurozone’s manufacturing downturn is easing. Production contracted at the slowest rate for nearly a year and, despite lost export sales, new orders fell at the weakest rate for 15 months amid signs of rising internal demand, notably from consumers.

The concern is that coronavirus-related delays in shipments threaten to constrain production in the coming months, prolonging a downturn that already extends to over a year. Supply chains are lengthening to an extent not seen since 2018 and inventories are being depleted at a rate rarely seen over the past decade as companies struggle to produce enough to satisfy order books. (…)

JAPAN: Manufacturing output hit by biggest drop in new orders since December 2012

(…) The headline au Jibun Bank Japan Manufacturing Purchasing Managers’ Index™ (PMI)® fell to 47.8 in February, down from 48.8 in January, its lowest mark since May 2016. (…)

VIRUS UPDATE

• Global cases reach 89,000; death toll rises to 3,044
• Indonesia reports first cases, India has two new infections

Iran, the hub of the outbreak in the Middle East, said the number of confirmed cases surged by 523 to 1,501. So far 66 people have died from the infection, the health ministry said. It said 7,280 suspected cases were sent to hospitals and 4,312 were tested.

BTW, an Iranian woman who flew back to Montreal from Iran with the coronavirus told the medical authorities that everybody where she was in Iran were sick.

Confirmed cases in Italy jumped by more than 500 to 1,694 on Sunday with 41 deaths. Lombardy, the region that includes Milan, accounted for almost 1,000 cases.

Portugal recorded the country’s first confirmed coronavirus case at a hospital in the northern city of Oporto.

The number of cases in Germany has risen to 150, from 129, according to the latest figures from the Robert Koch Institute. More than half, or 86, are in the western state of North Rhine-Westphalia, while the capital Berlin reported its first case.

Separately, Brussels reported its first infection — a person who had traveled from a coronavirus risk area and will stay in quarantine — the Belga news agency said, citing official sources. Belgium now has eight confirmed cases and federal government ministers will meet on Monday.

Earlier on Monday, Austria sent back a bus with 45 students coming from the German city of Aachen because one of the students had been in contact with an infected person.

Two people have been diagnosed with the new coronavirus in India — one in the country’s capital New Delhi and another in the southern state of Telangana, the Press Information Bureau of India reported Monday.

Earlier, Indonesia confirmed its first cases. A 64-year-old woman and her 31-year-old daughter — who had recently been in contact with a Japanese tourist — have been infected.

South Korea reported 123 more cases, taking its tally to 4,335.

Nigerian authorities have contacted around 100 people who may have been exposed to an Italian man who is the country’s first coronavirus patient, a Lagos state official said on Sunday, in a bid to stop an outbreak in Africa’s most populous country. “It is around 100 people but that number is increasing every minute.”

In the USA:

(..) officials in the Seattle area confirmed two additional new cases related to a possible outbreak at a long-term nursing home (…). Jeffrey S. Duchin, the chief health officer for Seattle and King County, identified the nursing home as Life Care Center in Kirkland, and said he would not be surprised to find additional cases at the facility as an investigation continued. Of Life Care’s more than 108 residents and roughly 180 staffers, Duchin said 27 residents and 25 staff members have shown coronavirus symptoms. (WaPo)

New cases were also reported in New York, Florida and Rhode Island. (…) Public health experts said that a shortage of tests had limited the ability to identify and contain cases and likely contributed to the virus’ spread. There had been relatively few diagnostic tests conducted in the U.S., with most state and local health departments sending patient samples to the CDC and waiting days for results. (…)

Washington state started testing patient samples locally on Friday, officials said, which contributed to a quick uptick of reported cases in the region. The coronavirus has been circulating undetected and has possibly infected scores of people over the past six weeks in Washington state, according to a genetic analysis of virus samples that has sobering implications for the entire country amid heightening anxiety about the likely spread of the disease. (…) “I believe we’re facing an already substantial outbreak in Washington State that was not detected until now due to narrow case definition requiring direct travel to China.” (…)

California, Illinois and Oregon reported other new cases. The patients were tested following a change in the CDC guideline, which the agency expanded on Thursday to include people with recent travel history to Japan, Italy, Iran and South Korea as well as people with severe respiratory illnesses and a fever without a clear cause of infection. (…)

COVID-19: KNOWNS AND UNKNOWNS

From my readings:

• This virus has fast legs. It transmits easily from person to person, and each infected person infects about 2.3 (vs. 1.2-1.4 people for regular influenza).
• The vast majority of infected people show only mild or no symptoms and people without symptoms can transmit the disease to others (which differs from past outbreaks of SARS/MERS, in which people didn’t typically become infectious until after they showed severe symptoms).
• So this disease is likely more widespread than the number of identified cases reflects given that people can be asymptomatic, mildly sick people don’t typically go to hospitals and diagnostic tests are not widely available. An awful lot of exposed people flew out of Wuhan before restrictions were imposed who we don’t know anything about. Same with Iran.
• So, John, infected but not or only mildly sick, can infect Paul without Paul knowing it; in turn, Paul can infect another bunch of people who, even if not immediately sick, can unknowingly infect other people. Infected people can apparently become sick within 2 to 14 days post infection, although that can also vary.
• In effect, quarantine works only up to a point since it is in reaction to actual outbreaks which may happen well after several people have been infected and have travelled elsewhere. How many people had flown out of Hubei region before the contagion was revealed? How many people flew out of Iran before the actual outbreak? Who and where are these people now, having possibly infected other people, etc., etc….
• SARS spread when people had full-blown illness, which is one reason it was possible to contain it — it was easier to tell who had the virus.
• During the 2003 SARS epidemic, there was a second, worse peak in Toronto once restrictions were relaxed. There was also a second peak during the 1918 pandemic in New York and Pennsylvania.
• There were no SARS cases in Africa. But Africa has just reported its first coronavirus case, in Nigeria.
• Last week, only a few US labs could test for the coronavirus. Clearly, we were massively unprepared, but that is changing fast. As you read this, already 93 labs should have testing facilities. A bedside diagnostic is coming, too, as 70 companies are working on it. The FDA is changing its procedures to allow confirmation at labs other than at the CDC’s main headquarters. This will ease concern by quickly separating actual COVID-19 cases from common colds and flu. (John Mauldin)
• In most [simulated] scenarios, highly effective contact tracing and case isolation is enough to control a new outbreak of COVID-19 within 3 months. (The Lancet)
• There are two kinds of “cured” in an infectious disease context, said Bruce Ribner, a professor at the Emory University School of Medicine. “Clinically cured” is when someone feels better and stops showing symptoms such as fever and coughing. “Pathogen cured” is when doctors determine the virus is indeed no longer in the body and therefore the patient can’t transmit the disease. The former is clear to a patient. The latter, “we don’t yet have a good handle on what it takes,” Ribner said.

Now, try to figure the odds of a worldwide pandemic…Are cases in other countries about to explode exponentially like they did in China 4 weeks ago?

The Virus and the Economy

(…) Mr. Trump could help by immediately lifting his unilateral tariffs, which would amount to a tax cut on trade and consumers. A fiscal “stimulus” is probably a waste of time, given that Democrats would insist on new spending or temporary tax rebates of the kind that Mrs. Pelosi and George W. Bush negotiated in 2008 but didn’t help growth.

Fed Chairman Jerome Powell made clear in an unscheduled statement on Friday that monetary policy is in play, with a 25 basis-point cut in the fed funds rate widely expected in March. We’ve been skeptical that rate cuts can address a classic supply-side shock like the coronavirus. Fed funds are already low at 1.5%-1.75%, so the impact of rate cuts will also be less than if the Fed had moved faster to normalize its policy in the years after the financial panic and 2008-2009 recession.

On the other hand, the Fed can fight a financial virus. Stocks pared their losses after Mr. Powell’s Friday statement, which shows the Fed’s psychological clout. (…)

Global Growth to Slow Sharply as Virus Takes Heavy Toll, Says OECD The global economy will slow sharply this year as governments attempt to contain the coronavirus epidemic, although the scale of the setback is highly uncertain.

(…) In its “best case” scenario, the Paris-based research body said the global economy would grow by 2.4%, a weaker performance than the 2.9% expansion projected before the viral outbreak. That lost growth is roughly equivalent to $400 billion. But it said much more severe slowdowns are possible. (…)

For the U.S., the OECD sees a very slight slowdown this year, with gross domestic product expanding by 1.9% as against a previous forecast of 2%. (…)

If it proves longer lasting and spreads through Asia, Europe and the U.S., the economic impact would be severe. Global growth in that case would be just 1.5%, with the possibility of recessions in economies including Japan and the euro area. (…)

Why a Coronavirus Recession Would Be So Hard to Contain A supply shock is not a problem our usual economic tools are particularly good at solving. But it’s the one we face.

(…) The core of the economic problem emerging from coronavirus is a “supply shock,” meaning a reduction in the economy’s capacity to make things. Companies in China that have shut down because their workers are quarantined are not making goods. That could eventually mean shortages of certain items for which there are few sources of elsewhere in the world.

Multinational companies typically operate complex supply chains, with lean inventories and essential merchandise that often arrives just in the nick of time. That means American companies that rely heavily on Chinese suppliers might begin facing shortages of key goods in the weeks ahead, said Nada Sanders, professor of supply chain management at Northeastern University.

“I believe we’re going to have a massive shortage of goods,” she said. (…) It is an issue she said would particularly affect pharmaceuticals and electronics. (…)

The role for economic policy, in that sense, wouldn’t be to solve the supply shock, but to try to prevent that initial supply shock from triggering a demand shock. (…)

But this is not the only challenge. If coronavirus were to spread widely in the United States, and officials decided to impose widespread quarantines, the economic impact is hard for economists to model. What happens to a service economy if people can’t safely travel, go shopping, or even go to work? (…)

Virus Disrupts China’s Shipping, and World Ports Feel the Impact Even where factories are back in operation, getting freight to docks has been impeded by roadblocks and quarantines.

(…) China has some of the world’s biggest and newest seaports and airports, but using them has become a lot harder because of roadblocks, quarantines and factory closings.

Global shipping has been one of the biggest casualties. More tonnage of container ships is idled around the world now than during the global financial crisis, according to Alphaliner, a shipping data service. (…)

Ports and their customs offices are operating fairly smoothly, said several freight forwarders, who are essentially travel agents for cargo shipments. The difficulties lie in getting goods to and from the docks.

The slowdown in China is already being felt in the United States. (…) “Due to the coronavirus outbreak, cargo volumes at U.S. ports might be down by 20 percent or more on a year-on-year basis compared to 2019.”

Chinese government agencies have announced a series of measures in the last few days aimed at getting the country’s trucking fleet and ports humming again. But no one can say how quickly activity will return to normal. (…)

“There is a backlog of factory production to be shipped once factories reopen, and there is insufficient trucking capacity,” said Brian Wu, the chairman of the Hong Kong Association of Freight Forwarding and Logistics. (…)

About three-fifths of China’s trucking capacity is working again, A.P. Moller-Maersk Group of Denmark, the world’s largest shipping line, said in a statement Thursday. The company said three of China’s biggest coastal ports — Shanghai, Ningbo and Xingang — were clogged with refrigerated containers full of imported vegetables, fruit and frozen meat.

Maersk has responded with a $1,000-per-container fee for electricity to prevent spoilage before trucks can be found to ship the food inland.

With many factories operating at a fraction of capacity, and with trucks not delivering a lot of finished goods, container-shipping lines have been canceling many sailings. “If there’s nothing coming to the dock, there’s no reason for the ships to come,” said Simon Heaney, senior manager for container shipping at Drewry, a maritime research firm in London. (…)

The Port of Los Angeles, which handles more containers in a year than any other in the Western Hemisphere, expects in the first three months of the year its biggest decline in volume since the financial crisis, according to its executive director, Gene Seroka.

Ship operators have canceled about 40 sailings to the port from Feb. 11 to April 1, a drop of about 25 percent from the typical volume after the Lunar New Year, Mr. Seroka said. Overall container volume at the port is expected to be down 15 percent in the first quarter compared with the same period last year.

At the same time, exports and empty containers are piling up, he said. And even though an eventual recovery should lead to a rebound in imports from China, it will not restore all of the shipments that have been canceled.

“Once a ship sails or is cut, it doesn’t come back again,” Mr. Seroka said.

Shipping lines have also had trouble replacing crews globally after long voyages. About one-seventh of the sailors aboard the world’s commercial vessels have Chinese passports. (…)

Air cargo operations have been differently affected. The cancellation of flights in and out of China has been so extensive that freight forwarders have had a very hard time finding any space at all on planes for their shipments. (…)

From Goldman Sachs:

Coupled with flight cancellations and port delays/shutdowns, the transpacific flow of consumer goods is tracking down roughly 65% in February, and China outbound sea capacity has been cut in half.

GS looked at supply shocks post the 2011 earthquake in Japan (mainly autos) and during the West Coast port strokes of 2014-15 (autos, apparel, appliances, furniture, and recreational goods).

(…) Coupled with 1-2 month seaborne shipping times, we estimate that a fifth (21%) of Q1 Chinese consumer goods imports could be delayed (relative to the counterfactual trend) and that consumption growth from this channel could be depressed by 0.9pp (qoq ar).

Assuming a gradual return to normal Chinese production by the end of the summer, we should expect consumer goods shortfalls to worsen into Q2 and linger into Q3 (with Chinese imports down on the order of 45% and 15%, respectively).

The US GDP effects of the channel are smaller3 but nonetheless significant. We estimate a 0.2% annualized growth drag in both Q1 and Q2 (vs. -0.1pp in Q1, previously), and a reversal of these effects in the back half of the year (a boost of +0.25pp in Q3 and +0.15pp in Q4). In our view, these historical analogs increase the likelihood that US consumer spending growth will slow in the early spring—even if US virus case counts do not pick up significantly. Uncertainty around these effects is large, as they also depend on the duration of the supply disruptions and the starting point for inventory stocks.

  

Coronavirus Is Hitting China’s Economy Harder Than Expected

(…) economic data privately collected by China Beige Book shows that the state of Chinese businesses is significantly worse than investors have assumed for weeks.

Most of the economy has remained under a virtual lockdown. Our first-quarter flash survey, which has tracked over 1,400 firms in February, shows that 31% of companies have remained closed since the extended Lunar New Year holiday. Among many of the businesses that have reopened, employees either continue to telecommute (29%) or are waiting to resume work from their job sites (7%). In other words, only a third of businesses have fully reopened.

While figures on firm closures have improved in very recent days, business performance is in the doldrums. For the first time in nine years, every headline metric tracked by the private survey has turned negative. Companies say their revenues, profits, orders, and production are all in freefall. Sales have declined by over 10% at nearly two in five businesses. The result: Every major sector of the economy is currently in contraction territory. (…)

The ripple effects of this severe disruption will be felt through the global auto parts, electronics, and pharmaceutical supply chains for months to come.

British and German officials don’t rule out putting cities or regions under lockdown

Germany ponders financial stimulus package, as number of cases more than doubles in two days

How the Coronavirus Epidemic Is Hitting Businesses Around the World The epidemic is sending ripples through every corner of the global economy, slashing revenues, roiling supply chains and wiping out trillions in market value

The WSJ enumerated over 30 examples of how the virus is impacting our lives and businesses of all kinds around the world. There is no hiding.

U.S. Personal Spending Decelerates Despite Strong Income Gain

Personal consumption expenditures rose 0.2% (4.5% y/y) during January following a 0.4% December gain, revised from 0.3%. A 0.3% January gain had been expected in the Action Economics Forecast Survey. In constant dollars, spending edged 0.1% higher (2.7% y/y) for a second consecutive month. Real durable goods spending increased 0.5% (7.3% y/y) during January after a 0.1% rise. Spending on motor vehicles rebounded 1.5% (9.3% y/y) after a 0.2% dip. (…) Real spending on services improved 0.1% (2.3% y/y) for a second straight month. The rise was held back by a 0.3% fall (+0.7% y/y) in spending on housing & utilities, off for the third month in the last four. Health care spending held steady (2.9% y/y) after rising 0.3% while spending at restaurants & hotels increased 0.5% (3.7% y/y) after a 1.1% jump.

Personal income strengthened 0.6% (4.0% y/y) after a 0.1% December gain, revised from 0.2%. A 0.3% rise was expected. Wages & salaries improved 0.5% (3.7% y/y) after edging 0.1% higher. (…)

Disposable personal income rose 0.6% (4.0% y/y) last month after edging 0.1% higher, revised from 0.2%. Adjusted for price inflation, take-home pay strengthened 0.5% (2.2% y/y) after slipping 0.1% in December.

Because of the very mild winter, spending on housing services has slowed in December and January. The key is income growth, particularly wages and salaries, up 4.0% annualized in the last 3 months and a strong 0.5% in January. Keep in mind that 86% of Americans work in Services which limits the potential hits from supply chains disruptions.

EARNINGS WATCH

2019 earnings are not particularly relevant given the short term outlook. For the record:

Through Feb. 28, 477 companies in the S&P 500 Index have reported earnings for Q4 2019. Of these companies, 70.0% reported earnings above analyst expectations and 20.8% reported earnings below analyst expectations. In a typical quarter (since 1994), 65% of companies beat estimates and 20% miss estimates. Over the past four quarters, 74% of companies beat the estimates and 19% missed estimates.

In aggregate, companies are reporting earnings that are 4.7% above estimates, which compares to a long-term (since 1994) average surprise factor of 3.3% and the average surprise factor over the prior four quarters of 4.9%.

Of these companies, 63.9% reported revenue above analyst expectations and 36.1% reported revenue below analyst expectations. In a typical quarter (since 2002), 60% of companies beat estimates and 40% miss estimates. Over the past four quarters, 58% of companies beat the estimates and 42% missed estimates.

In aggregate, companies are reporting revenue that are 1.7% above estimates, which compares to a long-term (since 002) average surprise factor of 1.5% and the average surprise factor over the prior four quarters of 1.0%.

The estimated earnings growth rate for the S&P 500 for 19Q4 is 3.1%. If the energy sector is excluded, the growth rate improves to 6.0%.

The estimated revenue growth rate for the S&P 500 for 19Q4 is 5.9%. If the energy sector is excluded, the growth rate improves to 7.2%.

Now, looking forward, estimates are getting shaved at an accelerating rate:

The estimated earnings growth rate for the S&P 500 for 20Q1 is 2.7%. On Jan. 1, that number was +6.3%. On Feb. 10, it was +3.9%. On Feb. 25: +2.9%.

Pre-announcements don’t look so bad in total but the N/P ratio has deteriorated somewhat in the past 10 days.

The U.S. will, once again, prove more resilient.

• Global Profit Warnings Are Spreading as Fast as the Virus

(…) A majority of companies that have warned about an impact say they haven’t been able quantify it, or said they didn’t factor the epidemic in their full-year guidance. (…)

SENTIMENT WATCH

The blogosphere, bubblevision and other media are full of opinions from Armageddon to “Panic selling = Opportunity”, many flashing December 2018 as an example of opportunistically taking advantage of a panic.

The December 2018 low was reached after Powell pivoted, clearing away recession fears. Last Friday, Powell said that the Fed stands ready to act in an appropriate manner if needed. There are important differences, however, between then and now:

• The Fed had been tightening for several months. It has significantly liquified the system since last September.
• The Fed’s ammo is limited and not much potent against a global health scare which could hit demand when corporate supply costs are rising amid high indebtedness.
• The December 2018 low was at a P/E of 14.6 and a Rule of 20 P/E of 16.8, deep into undervalued territory. Currently (@2930), the S&P 500 is selling at 17.8x trailing EPS and 20.1 on the R20 P/E scale, right on “Fair Value” based on trailing EPS which might prove too high.
• In reality, nobody has a clue as to what lies ahead.

CHANGE IN THE RULE OF 20 STRATEGY

Friday’s market action triggered a change in the Rule of 20 Strategy as the Rule of 20 P/E went below the 20.0 “Fair Value” at the 2886 opening.

Consequently, the Rule of 20 Strategy moves from a 50% equity position to 80%.

Recall that the R20 Strategy automatically sets cash/equity levels solely on the Rule of 20 Valuation method, without any other input. Today’s Daily Edge offers some of my observations on the current situation.

Investors Flee Equity ETFs due to the Coronavirus Scare

Equity ETFs suffered their fifth worst one-week net outflow in history (Lipper began tracking equity ETF flows data in 1996) as the group had $17.8 billion leave its coffers for the fund-flows trading week ended Wednesday, February 26. (…)

The week’s most significant net outflows belonged to an ETF which tracks the U.S. large-cap market, as SPDR S&P 500 ETF (SPY) shed $14.5 billion of its assets. The next two largest net outflows came from ETFs which are facing a more immediate impact from the virus than the U.S. product. iShares MSCI Emerging Markets ETF (EEM), which has over 50% of its assets invested in China region stocks, had net outflows of $1.1 billion for the week. In addition, iShares MSCI Japan ETF (EWJ) had negative net outflows of $790 million for the week.

From @EricBalchunas, senior ETF Analyst for @Bloomberg Intelligence:

History was made today as $SPY became the first security to ever trade over $100b in a day (104b to be exact). An absurd amount of activity that speaks to the deep level of fear in the market and gravity of situation. It actually ended up being $128b, wow. Also, ETFs as a whole traded $414b, 4x their avg, blows away old record. They also accounted for 43% of all equity trading volume today, normally it’s about 25%…

Hence the broad declines.

TECHNICALS WATCH

Lowry’s Research, which still says this is “only an interruption in an ongoing bull market”, tackles what’s on most people’s mind:

If the current market drop is only short term in nature, the primary question facing most investors is when to resume buying. Since trying to anticipate how far and for how long a correction will carry is generally pointless, the best answer to the question of when to buy is to wait for evidence of exhausted selling to occur followed by signs of the renewed, strong buying needed to sustain a new move higher in the market.

Historically, evidence of exhausted selling has been provided by one or more 90% Down Days. However, to be significant, these signs of exhausted selling should be followed by equally compelling signs of renewed, strong Demand, most often through a 90% Up Day or consecutive 80% Up Days.

Paul, long time reader, comments that

Major lows typically happen when the number of stocks above the 200-day SMA falls below 20%. The number of stocks above the 10, 21, and 50-day SMA’s should also be below 20%, with the numbers often times getting in single digits.

As Ed Yardeni illustrates, there is room for worse…

The 100-d and 200-d moving averages are still rising but threaten to turn down.

THOUGHTS

• Reshoring and supply chains diversification, already under way from the trade war, will accelerate as businesses will feel legally and operationally obligated to prioritize security of supplies over costs and selling prices.
• “The government is very serious about encouraging India’s active pharmaceutical ingredients (API) manufacturers to expand capacity. This is linked to our national security”, says B R Sikri, chairman of the Federation of Pharmaceutical Entrepreneurs. (The Lancet)
• Operating costs will rise worldwide.
• Inflation will rise worldwide.
• China’s economy will slow down faster. Its clout will diminish considerably. Good WSJ piece about that: Europe’s Face-Off With China