| Studies show humans have a built-in negativity bias, which means we give bad news a lot more attention than good news. Consider a couple of jarring headlines taken from the recent financial press: “Don’t even think of owning stocks unless you’re willing to buy and hold for at least 10 years”[1] “Global losses could be $10 to $20 trillion from a global economy worth $85 trillion”[2] A 2019 study reported in the Proceedings of the National Academy of the Sciences found that this bias transcends borders and cultures, and is likely rooted in our evolutionary biology:[3] Attention to negativity may have been advantageous for survival. Negative information alerts to potential dangers; it has special value in terms of “diagnosticity”, or the “vigilance” that is required to avoid negative outcomes. This account of the negativity bias is evident in literatures in physiology, neurology, and, particularly, work on the importance of “orienting responses” in evolutionary biology. And this is particularly true during periods of heightened uncertainty such as now, especially in our journalism and news coverage: Societies deal with anxiety about future uncertainties in different ways, and the extent to which members of a culture feel threatened by ambiguous or unknown situations may well affect the tendency to focus on negative information… Another dimension of variability is rooted in the institutionally coded professional practices of journalists. A strong professional requirement that journalists routinely cover politics in conflictual terms may also lead to viewers’ habitual expectation and attention to negativity. Further evidence comes from the Pew Charitable Trusts, which studied news reported over a two decade period, and found that the stories that generated the most interest from people focused on war and terrorism, despite the fact that incident rates for both were in decline to among their lowest levels in human history during the study period.[4] While negativity bias is no doubt helpful when running away from a hungry bear, it is not of particular use to an investor in dispassionately evaluating prospects for long-term portfolio selection. Equities Which brings us to a point regarding a topic we introduced last week: how can equity valuations be what they are with the economic news currently so poor? The economic data, while negative, is starting to improve now that all 50 U.S. states are at different stages of opening their respective economies. The stabilization of oil prices in the $30 dollar range is one such recent example, as supply has come down and demand has moved up. With these improvements, markets begin to price in the recovery in advance. Strategas (a Baird company) pointed out yesterday morning that P/E (price to earnings) ratios of stocks spike during recessions when earnings collapse, typically a very bullish indication, and then decline as earnings catch up. Additionally, P/E ratios tend to run higher during periods of low interest rates and inflation such as this one. Why? Consider the role of the discount rate. When looking at any future stream of cash flows, in order to assess their current value we must discount them to the present in light of risk (risk premia) and alternative options (opportunity costs) for return. If rates are lower, then the value (of the combined flows) will mathematically be higher. That’s the finance textbook explanation; a more intuitive explanation is to consider how much a stock that pays a 2% dividend with the prospect of capital appreciation might be worth to an investor versus a 10 year treasury bond that pays only 0.70% coupon rate of interest, and virtually no prospect of appreciation. While we do not expect corporate profits to recover in the very near term, the market is effectively peering through the current economic wreckage and discounting the eventual recovery in corporate profits. By not focusing on the current negative data and re-orienting to the improving data, the market is generally consistent in pricing a scenario we are projecting of a 5% contraction in U.S. GDP with an unemployment rate of around 8 – 10% by year-end (Baird Strategas), with a recovery in latter 2021. Already we are seeing this dynamic feed into the small cap and emerging market companies. On a quarter to date basis, the Russell 2000 index, a barometer of small company performance, is marginally ahead of the S&P 500, 13.6% versus 13.4%, and emerging market stocks are up 9.3% versus international developed, up a mere 6.7%. A thesis we identified a couple of weeks ago is beginning to manifest, and our tilts into both segments in client portfolios have added value. Fixed Income As the fixed income markets digest the long-term impacts of the coronavirus as well as the effects of monetary and fiscal stimulus, they continue to normalize and function more efficiently with credit spreads and yields continuing to compress since the March volatility. The Federal Reserve’s $500 billion Municipal Liquidity Facility program has opened to state and local governments. The program is designed as a last resort for municipalities, with the Fed encouraging them to find alternative forms of financing before tapping into the program. The Fed also recently adjusted their rules to allow participation in states that have competitive bid requirements such as Illinois. Accordingly, the state of Illinois announced Thursday that it is working on a notice-of-interest requirement that it will be submitting to the Fed as a precursor to applying for a loan from the program. Municipal borrowers continue to find ways to access the markets with traditional lenders but have also increased their use of private placements, bank loans and direct lines of credit as alternative funding vehicles. A number of municipalities with lower credit quality, including states such as Illinois and Connecticut, as well as several university systems, were able to come to the market this week and price bonds with healthy demand. The corporate market has seen new issuance volume increase over 88% compared to a year ago, including participation from some of the hardest hit industries such as travel and leisure. Many corporations have come to the market to issue longer-term debt to pay down the revolving credit they took on during the height of the crisis. Overall, we continue to see the fixed income markets positively react to improving market dynamics and Fed support, and we remain focused on maintaining higher quality in the core fixed income portfolios, with a tactical shift into high yield in Diversified Fixed Income. Past performance is not indicative of future results and diversification does not ensure a profit or protect against loss. All investments carry some level of risk, including loss of principal. An investment cannot be made directly in an index. |
“War Powers” in a Time of Corona: Learnings for the Climate Crisis (Chris Merker)
In light of significant and rapid changes occuring across the globe, arguably climate change and environmental impacts should be approached with similar urgency. Activists have been saying this for years, and now we have an opportunity to see how humanity reacts during an all-out crisis. In and throughout, the world has become in effect a laboratory for responding to a massive – and entirely global – economic shock, and every government has taken a range of a policy approaches with differing levels of efficacy.
Encouragingly we have seen a “can do” and “nothing will stop us” attitude that has crossed political divides as both the public and private sectors joined hands to resolve the crisis.
However, a major point of difference, is the absence of any similar level of intensity in addressing the climate crisis. This is in marked contrast to how the world addressed ozone depletion a generation ago, which, while not reaching “coronavirus” levels, did rally substantial, coordinated and targeted response globally in resolving that crisis. One commentator suggested that if carbon emissions came with a bad smell or turned the skies purple, we would see a more ready and visceral reaction from everyone. Because we can’t see, taste or feel carbon emissions, while no less damaging, the perception of immediate threat is not present in this instance.
So, after the dust has settled on the corona crisis, how can we apply recent learnings and experience to the climate crisis?
- Understand that collective actions can make an impact – Social distancing doesn’t work without everyone’s participation. What has slowed the spread of the coronavirus was everyone opting in and participating in this radical change in behavior. Similarly, we will need to change our behaviors in a number of ways: what we do and how we do it as we transition to a low carbon economy.
- Governments must overcome political divide to create effective policy solutions – While our leaders argued over some of the details as we worked to construct the largest fiscal stimulus package in history to mitigate the economic impact from COVID-19, no one disagreed over the objectives or need for immediate action. We need similar cohesion in addressing the climate crisis. This is still not present, and will be key.
- Countries must coordinate their actions – The coordinated actions of leaders and central banks has been key in addressing this crisis. Such multi-lateral coordination must take place in a way that we haven’t seen to date, despite attempts through agreements such as the Paris Accords, which has clearly been absent major countries – and the largest carbon contributors – in particular the U.S. and China. Just as important are the coordinated plans and execution of those plans following such agreements.
- Allow the experts and technicians to lead, and recognize that technology and innovation will play a role – Anthony Fauci, director of the National Institute of Allergies and Infectious Diseases, and others, who understand health policy and pandemics have been given license to act and lead in ways that are critically important on setting us on a path to mitigate the effects of the pandemic, and get on a path to recovery. Similarly we must turn to those who understand the climate and impacts to the environment to mitigate further damage, and put us on a transition path to sustainability. We must fund and incentize businesses to continue developing and expanding critical products and technologies to pave the way to the transition, just as we are seeing during this crisis.
- Plan the transition – How do we get from A to B? In this case the strategy was to “flatten the curve” to ensure our health system has the necessary capacity to respond to reduce the human cost, and delay the impacts to allow time to develop a vaccine. What will be our strategy for the climate crisis, and how do we get from A to B, to at the same time minimize disruption and minimize human cost?
In the final analysis, everyone has to agree to do whatever it takes – In this crisis, everyone has come together and responded, together. This collective purpose and global spirit of cooperation must pervade to the same extent to take on the monumental challenge of transitioning from a carbon-heavy to a carbon-neutral economy, an entire shift in the way our civilization operates today.
In recent days I have been encouraged, with commitments by companies that include those from the energy sector, including some major oil and utility companies. I believe we can get there, but it will take all of us working together to help assure a better future for us and the generations that follow.
Climate Change Has Lessons for Fighting the Coronavirus (NYT)
“Alarming levels of inaction.” That is what the World Health Organization said Wednesday about the global response to coronavirus.
It is a familiar refrain to anyone who works on climate change, and it is why global efforts to slow down warming offer a cautionary tale for the effort to slow down the pandemic.
“Both demand early aggressive action to minimize loss,” said Kim Cobb, a climate scientist at the Georgia Institute of Technology who was teaching classes remotely this week. “Only in hindsight will we really understand what we gambled on and what we lost by not acting early enough.”
The Trustee Governance Guide is now out!
Our new book, The Trustee Governance Guide: The Five Imperatives of 21st Century Investing is now available!
- Focuses on both structural and process factors of governance
- Covers related investment topics in each chapter, including fiduciary duty, financial literacy, asset allocation, and socially responsible and impact investing
- Draws from the annual U.S. Public Pension Governance Survey and other leading industry and academic research
- Includes special “practitioner sections” in each chapter geared to the more technical reader
More than 80% of the financial assets in the United States fall under the purview of a trustee. That’s a big responsibility for an estimated 1% (around 1.5 million people) of the U.S. working population charged with overseeing investments for millions and millions of beneficiaries, public sector, and non-profit organizations. In a world proliferated by investment products, increasingly dominated by indexes, faced—particularly in the pension world—with increasing liabilities, more regulation, and a growing number of social and sustainability objectives, what’s a trustee to do?
The Trustee Governance Guide is here to help guide today’s board trustee through the brave new world of 21st century investing. The book focuses on the critical aspects of the Five Imperatives: Governance, Knowledge, Diversification, Discipline, and Impact. Based on more than a decade of research, practice, and discussions with many key decision makers and influencers across the industry, this book addresses the many topics related to better governance, greater mission-driven financial performance, and impact. The questions the book addresses include:
- What is good governance, how do we know it when we see it, and why does it matter?·
- How much knowledge is necessary to be a competent board member?
- How big should my endowment be?
- What are the key elements of a diversified portfolio?
- How much does cost matter?
- What’s the difference between socially responsible and ESG investing?
- Can I focus on sustainability and still be a good fiduciary?
This book provides a way for boards to improve and benchmark their own governance performance alongside their peers, and uniquely covers related investment topics in each chapter.
It’s National Financial Literacy Month, Take the Financial Literacy Test (FINRA)
http://www.usfinancialcapability.org/quiz.php
See how you compare to the national and state averages.
The Bad
-49% of Americans don’t know what an index fund is
-44% can’t cover $400 out-of-pocket expense
-52% have no retirement savings
-Median household retirement acct bal is $2,500
-66% thought market was flat or down over past 10yrs
The Better
Those with greater financial literacy are more likely to save and plan for retirement, according to TIAA and the Global Financial Literacy Excellence Center at the George Washington University School of Business.
88% of those who answered between 76% and 100% of the questions on the Personal Finance Index (P-Fin Index) correctly save for retirement on a regular basis. By comparison, only 37% of those who answered less than 26% of the questions correctly regularly save for retirement.
86% of those in the first group have additional savings outside of their retirement plan, compared to 34% of the second group, and 63% of the first group usually track their spending, compared to 54% of the second group.
Furthermore, those with greater financial literacy are less likely to be financially fragile; 85% of the first group could come up with $2,000 if an unexpected need arose in the next month, compared to 25% of the second group.
Borrowing and debt management are the areas where knowledge is the highest, but comprehending risk is where it is the lowest.
“The P-Fin Index is the preeminent annual barometer of Americans’ personal finance knowledge,” says Stephanie Bell-Rose, head of the TIAA Institute. “Understanding the connection between financial literacy and financial wellness was a particular focus this year, to help us create a better roadmap for improving the financial well-being of Americans.”
On average, U.S. adults answered only 51% of the P-Fin Index questions correctly. The survey asked a total of 28 questions on the following topics: earnings, consuming, saving, investing, borrowing and managing debt, insuring, risk and where to find financial advice.