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indicatorCompass Commentary

Portfolio Manager's Commentary

June, 2020 performance report

By ATB Investment Management Inc.

The coronavirus pandemic that quickly overwhelmed all economic, financial and social considerations in March was equally predominant in the second quarter, but the overall story was one of improvement on all fronts.

The economy and the pandemic

The economy and the pandemic remained intertwined, as new COVID cases in most developed nations peaked in early April and then slowly declined, along with the resulting fatalities. The public health benefit was achieved with significant economic costs, however, as about 20% of the working age population in the US and Canada became unemployed due to business closures, social distancing, and similar policies. The speed of the economic downturn was unprecedented in modern times.

Emergency measures enacted by central governments and central banks prevented the economic decline from being even worse. Governments provided financial support to individuals and businesses directly affected by the public health restrictions. Central banks lowered their interest rate targets and more importantly, provided multiple support programs for the financial and non-financial sectors in order to keep credit flowing and the financial system from locking up. The government and central bank actions are of such magnitude that they can't be maintained indefinitely, but as the pandemic ultimately recedes, so will those support programs.

Several regions less affected by the pandemic began to loosen their restrictions and gradually "re-open" their economies in May, and they were joined through June by previously hard-hit regions. Most economic indicators thus hit bottom in April and slowly rose in May and June. Recoveries could be seen in conventional measures such as employment and retail sales, along with more esoteric measures such as gasoline production and driving direction requests on the Apple Maps software program.

US employment situation
Ages 25 to 54

Source: BLS


Unfortunately, COVID cases in June began to surge in several southern US states that had largely avoided the March and April wave. The rise in diagnosed cases wasn't mirrored by a rise in fatalities, probably because the newly diagnosed in June were generally much younger than in March and April, and therefore at much lower risk of death. Due to the surge in cases, several jurisdictions paused their re-opening, reimposed some restrictions and required the wearing of masks in public places. However, the economy has clearly turned a corner and is gradually improving as society slowly adapts to the pandemic, and policymakers can better evaluate the public health benefits and their economic costs.

Financial markets

In a previous update, we wrote that "In nearly all recessions, stock and corporate bond prices decline well before the measured economic downturn. They also turn upwards long before the economy has recovered, and often even before the economy begins to recover." We're surprised at the speed at which this came true! Stock and corporate bond prices hit their bottoms in the third week of March - barely a week after the public health restrictions had been enacted - and proceeded upwards thereafter. The days of five percent to 10% changes in stock prices quickly receded as the emotional extremes that accompanied the first COVID wave moved into the rearview mirror.

At the end of the second quarter most major stock indices were down about seven percent to 12% from the start of the year, significantly above their late-March lows but still reflective of the hesitant economic environment. Share prices of US large-companies, as represented by the S&P 500 index, were only four percent below their level at the start of the year and appeared to do better than those of smaller and/or non-US companies. However, excluding the outsized contribution from Facebook, Google/Alphabet, Microsoft, Amazon and Apple, whose businesses and share prices thrived during the pandemic, the rest of S&P 500 index was also down about 10%.

US stock price (S&P 500) returns
Year-to-date to June 30, 2020

Source: Standard & Poors


The recovery from mid-March was even more pronounced for corporate bonds. Including their interest payments, by the end of June US investment grade bonds were slightly above their levels at the start of the year, while below-investment-grade ("high yield") bonds remained about five percent below their start-of-year levels. The US and Canadian central bank actions announced in March were crucial to the corporate bond sector "unlocking".  Not only did corporate bond prices improve, but US companies raised a record amount of cash by issuing bonds in the first and second quarters, cash which will help buttress them until their operations return to normal.

US corporate bond returns, 2020
(including interest income)

Source: ICE


Compass Portfolios

The Compass Portfolios rose in the second quarter, commensurate with recovering financial markets. At the end of June, their year-to-date returns ranged from four percent for the most conservative to just below negative six percent for the most aggressive, where the latter reflects stock prices that are still below their levels at the start of the year.  Despite the drag from stocks, the more conservative portfolios are now well into positive territory because their bond components were significantly repositioned in late March and April, to take advantage of lower corporate bond prices and their subsequent rise.

Compass Portfolios returns, series A
Year-to-date to June 30, 2020

Source: Morningstar


Conclusion

As society cautiously edges its way back to the normal patterns of life, we believe that progress will continue to be positive but gradual until an effective vaccine is developed. Fortunately, several promising vaccine candidates are rapidly proceeding through clinical trials. This is the first pandemic in modern times but it's not the first pandemic our species has faced and it won't be the last. Through each episode, humanity has survived and ultimately flourished and we see no reason to think this time will be different.

The speed and ferocity of March's market decline was unprecedented. Only three months later, however, much of that decline has been recovered. The second quarter thus served as a prime example of the benefits of sticking with a long-term investment plan and remaining invested, even when it feels most difficult. We've continually invoked this advice over the last 17 years, during both the calm times and the stormy, because it's the only proven method to achieve investment success.

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