Fatigue, Distraction, and Risk

I see a growing fatigue with the impact the coronavirus has on our lives. There has even been outright resistance overseas to new restrictions imposed by officials in France, Spain, and the U.K. Canceling vacations, wearing masks, and avoiding social gatherings cramps our style. These actions provide us no direct or immediate evidence they have any effect. This makes it hard to persevere in order to avoid the unseen danger. We simply are not very motivated to avoid an imperceptible (but existing) risk. That doesn't make the risk any less.

It appears a similar effect is currently happening in the stock market, although it's probably better described as distraction rather than fatigue. When markets are moving up, as they have been since April, we tend to focus on that trend and subconsciously project it will continue. Our distraction may stop us from making sound financial judgments, balancing both the perceived potential risks and rewards. We may even perceive the real risk as being left behind if we're not fully invested. Just like the case for the coronavirus, we just aren't motivated to avoid the imperceptible (but existing) risks. What risk you might ask? Well there's the obvious ones related to the coronavirus, but often times it's the risk we don't think about that gives us a Halloween type surprise. The current earnings recession could fall into that category. An earnings recession is two or more quarters of declining corporate earnings/profits. When asked directly, most investors say they prefer to buy stock in companies that have (or hope to have) stable or increasing earnings. However, average corporate profits have been in a downtrend since the middle of last year, The pandemic has amplified and extended that trend and made it very difficult to project future earnings.

Normally, this downtrend in profits would put downward pressure on stock prices, but clearly these are not normal times. Investor unabated optimism seems largely based on the assumption government relief payments and a few technology companies can stop the economic impact of the pandemic. Perhaps, but to date they have not stopped the earnings recession. I remain concerned because things tend to get messy when stock market performance becomes heavily driven by a handful of stocks amid a broader pattern of weak corporate earnings. The good news is there are sectors of the market that have maintained relatively stable earnings, but have not participated in the recent market uptrend. They provide ample grounds for bargain hunters. They also offer a much better risk/ return profile than many of the more glamorous tech companies that seem priced to perfection. As the economy gradually climbs out of the hole, I expect these sectors will see their stock prices increase as earnings recover. Look for sleepy sectors like banking, insurance, shipping, tobacco, and media to name a few. Long-term investors should start nibbling at these sectors. Boring will become beautiful.

Frank Rizzo, Certified Financial Planner, CRC

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. The economic and market forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful. All performance referenced is historical and is no guarantee of future results. Because of their narrow focus, sector investing will be subject to greater volatility than investing more broadly across many sectors and companies. Investing includes risks, including fluctuating prices and loss of principal.