Twilight Zone Of The Coronavirus Economy: Where Is Everybody?

The very first episode of The Twilight Zone aired on CBS on October 2, 1959. It was titled “Where Is Everybody ?.” The TV series was created by Rod Serling and broadcast from 1959 to 1964. Wikipedia observes:

“Each episode presents a stand-alone story in which characters find themselves dealing with often disturbing or unusual events, an experience described as entering ‘The Twilight Zone,’ often with a surprise ending and a moral. Although predominantly science-fiction, the show’s paranormal and Kafkaesque events leaned the show towards fantasy and horror.”

Each episode started with Serling explaining: “There is a fifth dimension, beyond that which is known to man. It is a dimension as vast as space and as timeless as infinity. It is the middle ground between light and shadow, between science and superstition, and it lies between the pit of man’s fears and the summit of his knowledge. This is the dimension of imagination. It is an area which we call The Twilight Zone.” That is a remarkably good description of the predicament that we humans are confronting during the current Great Virus Crisis (GVC).

Although the phrase “submitted for your approval” from Serling’s opening narration is closely identified with the show (and often used by Serling impressionists), it is actually heard in only three episodes. Now, submitted for your approval are the following surreal developments:

(1) Pandemic of fear. In The Twilight Zone, fear is the all-consuming emotion that often leads to madness. On February 26, when the S&P 500 closed at 3116.39, Joe and I wrote:

“We have come to the conclusion that even if the virus turns out to be no more dangerous to global medical and economic health than previous outbreaks (as we still expect), extreme government responses aimed at containing the virus, while effective, will create a pandemic of fear, increasing the risk of a global recession and a bear market in stocks.”

On March 10, we wrote: “The pandemic of fear continues to spread faster than the cause of that fear, namely, the COVID-19 virus.” On March 12, we pushed our 3500 year-end target for the S&P 500 out to mid-2021, and targeted 2900 for year-end 2020 instead. On March 16, we started to monitor the “mad dash for cash.”

We’ve been monitoring this madness in our chart publication titled , I explained: “I have no lobbyists or political cronies in Washington, DC to protect my interests. So the forces of the competitive market compel me to work as hard as possible to satisfy my customers more than my competitors do.”

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I differentiated entrepreneurial capitalism from crony capitalism as follows:

“Admittedly, this is an idealized version of capitalism. It does exist, especially in the United States in many industries. However, it also coexists with crony capitalism. Actually, it can degenerate into crony capitalism and other variants of corruption. Successful entrepreneurial capitalists have a tendency to turn into crony capitalists when they pay off politicians to impose legal and regulatory barriers to entry for new competitors. It doesn’t seem to matter to them that they succeeded because there were no barriers or they found a way around the barriers. Rather than cherish and protect the system that allowed them to succeed, they cherish and protect the businesses they have built.”

As entrepreneurial capitalism evolves into crony capitalism, the government naturally becomes a bigger and more powerful participant in the economy and financial markets. That certainly describes what just happened with the passage of the huge CARES Act and the Fed’s unprecedented actions in the credit markets.

I’m not a preacher, so I am not going to dwell on whether this is a good or bad development. As an investment strategist, I focus on assessing whether the government’s policies are bullish or bearish. The latest developments are bullish for stocks, especially of companies that are likely to benefit from the triumph of crony capitalism. Most importantly, they are the ones that don’t need rescuing by the government, so they won’t be beholden to the whims of politicians to manage their affairs. (I wouldn’t be surprised if the airline industry, which received a $25 billion bailout under CARES, becomes nationalized on a de facto basis.)

Companies that have strong balance sheets with lots of cash will be like kids in a candy store, buying up distressed assets and companies with little resistance from anti-trust regulators, in my opinion. That’s because many of them also have lots of lobbyists in Washington who are vital intermediaries between big business and big government. They grease the wheels of crony capitalism.

(6) Good news: plenty of distressed assets. Several of our accounts told me during our recent audio and video conversations that they are getting inundated with calls from distressed asset fund managers. A few of our accounts are managers of such funds. Last year, they were bemoaning that they were attracting lots of reach-for-yield investors but couldn’t find enough distressed assets. Furthermore, intense competition in the industry for distressed assets boosted their prices, making these dodgy assets more expensive, thus reducing their risk-adjusted expected rates of return. It’s always better to buy a distressed asset at 25 cents on the dollar than at 50 cents on the dollar. But there have been slim pickings even at the higher prices until now.

The good news for distressed asset fund managers is all the bad news for the economy that’s been caused by the GVC: As a result, there’s no longer a shortage of distressed assets. The good news for the economy is that distressed asset funds are already scrambling to buy distressed assets. They have SWAT teams of professionals who are very skilled at restructuring these assets.

I’ve been saying since 2016 that distressed asset funds are the new shock absorber in the credit markets. It will be interesting to see if they can successfully absorb the latest shock to the benefit of both themselves and the economy. They’ll undoubtedly have plenty of assistance from cash-rich companies that will be scooping up cheap assets and companies. That’s certainly starting to happen in the oil patch, just as it did in 2015 and 2016 when the price of oil plunged. Of course, the Fed’s recent actions have also greatly reduced the pool of distressed assets.

In The Twilight Zone, good news can be bad news and bad news can be good news. Only in The Twilight Zone is it possible to go from desperately reaching for yield to madly dashing for cash, to scrambling to rebalance from cash and bonds into stocks, to snapping up distressed assets—all within a four-month period since the beginning of this year! That’s all truly surreal!

Written By: Ed Yardeni