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Q3 2020, the road ahead, and hidden innovation.

By: Devan Robinson

"You get recessions, you have stock market declines. If you don’t understand that’s going to happen then you’re not ready...you won’t do well in the markets.

If you go to Minnesota in January you should know it’s gonna be cold. You don’t panic when the thermometer falls below zero." -Peter Lynch


Q3 2020 Market Update

Markets rallied across all asset classes in the third quarter.  Emerging markets led followed closely by U.S. and international stocks.  The stampede continues!

Past performance may not be indicative of future results. Indexes are not available for direct investment.

Q3 was a well-earned victory for patient investors.  The pace of Q3 was a welcome relief following the plot-twists of Q1/Q2.

Past performance may not be indicative of future results. Indexes are not available for direct investment.

Economic Data Update

Federal Reserve Vice-chair Richard Clarida gave a speech this week with great insights into the health of the economy.  Instead of plastering charts I'd rather let Clarida speak for himself.

On the state of the COVID-19 recession:

...This recession was by far the deepest one in postwar history, but it also may go into the record books as the briefest recession in U.S. history. The flow of macro-data received since May has been surprisingly strong, and GDP growth in the third quarter is estimated by many forecasters to have rebounded at perhaps a 25 to 30 percent annual rate. This development is especially noteworthy when set in relief against the surge in new COVID-19 cases that were reported this summer in a number of U.S. states and the coincident flatlining in a number of high-frequency activity indicators that we follow to track the effect of the virus on economic activity.

Although spending on many services continues to lag, the rebound in the GDP data has been broad based across indicators of goods consumption, housing, and investment...

Clarida's longer-term outlook:

...the COVID-19 recession threw the economy into a very deep hole, and it will take some time, perhaps another year, for the level of GDP to fully recover to its previous 2019 peak. It will likely take even longer than that for the unemployment rate to return to a level consistent with our maximum-employment mandate. However, it is worth highlighting that the Committee’s baseline projections summarized in the most recent Summary of Economic Projections foresee a relatively rapid return to mandate-consistent levels of employment and inflation as compared with the recovery from the Global Financial Crisis (GFC)...

GFC took years to unwind.  Clarida hopes this will be a short recession.  This is the outcome I am rooting for.

The Road Ahead for Q4

Did you know there's an election coming up?

Market-nerds love this metric called the VIX (lovingly referred to as the "fear index").  The VIX is a measure of market volatility.  Market swings tend to be larger when the VIX is high and vice-versa. 

A "volatility-kink" has emerged in the VIX futures around election time - seen on the blue line below.  This vol-kink illustrates investors are bracing for impact the week of the election.

I am a bit skeptical of these volatility expectations.  I don't think volatility is that easy to predict.  This smells like recency bias to me.

I enjoy studying cognitive biases.  Whenever I revisit them I start seeing them everywhere; especially in my own thinking.  They are the faulty programming we all have in our brains.  What is recency bias?  Our tendency to take recent experiences and project them into our future.

I keep catching recency bias in myself lately.  

A few weeks ago I was in a little parking lot fender-bender.  I cannot stress enough how un-dramatic this accident was.  The only bruise anyone received was my own bruised ego.  Despite being nothing major I catch myself honing in on other cars as I drive.  I find myself more aware of their movements and even getting a little anxious.  If I see a driver slowly roll through a stop, rather than stop fully, my brain notices it and it captures my attention.

This is textbook recency bias.  If you experience a stress, no matter how minor, our brains have a tendency to start seeing it everywhere.  I am no more likely to get into a car accident now than I was before.  Accidents simply happen.  I know this is the case yet my brain still sends me these warning signals.  

The same concept happens in investing.  The 2016 Presidential Election saw some very short-term volatility and investors are bracing for action once again.

I am going to go out on a limb and suggest volatility expectations are a bit overdone.  We will know soon enough.

Hidden Innovation

You can't live in Dayton without knowing the Wright brothers.  Their presence permeates the region; our hometown hero inventors of flight. 

The newspaper above was the debut of their flying machine in the Dayton Daily News.  October 5th, 1905.

Here's the thing: the Wright Brothers had been flying since 1903.  They flew the skies of Dayton two-years before the local paper took notice.

Few understood the significance of the machine in their skies.  The flying machine was revolution above Dayton. 

  • The machine was innovation in travel.  In 1900 a train from Los Angeles to New York took nearly a week.  A few decades later and you could be there in six-hours.
  • The machine was globalization.  New York to Los Angeles?  How about Los Angeles to Shanghai?  Soon every market in the world would be within reach.
  • The machine was death and destruction.  The deadliest warfare innovation since gunpowder.  Load some bombs on the machine and war changed forever.  A wartime force-multiplier unlike anything in history.

Few saw history flying above them.  To top it all off, when the Dayton Daily News debut finally arrived it was on page 9.  They didn't even make the front page.  James Cox, the publisher at the time, said years later "frankly, none of us believed it."

I think that's the nature of innovation.  Innovation can be hard to spot.

If necessity is the mother of invention, what is the invention born of COVID?  I don't know but I'm confident it's out there.  What's the lesson for investors?  Own the greatest companies in human history and fasten your seatbelt.

Thanks for being a client,

Devan Robinson

The foregoing content reflects the opinions of Fairlead Financial Group LLC and is subject to change. Content provided herein is for informational purposes only and should not be used or construed as investment advice or a recommendation regarding the purchase or sale of any security. There is no guarantee that the statements, opinions or forecasts provided herein will prove to be correct.

 Past performance may not be indicative of future results. Securities investing involves risk, including the potential for loss of principal. There is no assurance that any investment plan or strategy will be successful, or that markets will recover or react as they have in the past.