Mathieu Martin |

COVID-19 Pandemic: The Good, The Bad, And The Ugly

 

In 2020, life as we knew it has been turned upside down on many fronts. The economy has been disrupted in an unprecedented way, leading companies and investors to adapt and rethink their practices.

While some things have changed for the better, the pandemic can also remind and teach us some important lessons about financial markets.

Here are a few thoughts on the good, the bad, and the ugly of this pandemic.

 

 

The Good

 

  • Improved business efficiency. The uncertainty created by the pandemic has led many companies to go into “capital preservation” mode, which has prompted a complete review of unnecessary spending and significant cost cuts. Many companies will emerge from this crisis with a lower cost structure and better productivity.
  • Business resilience has been tested. The severe and sudden economic downturn we have experienced has highlighted which businesses and industries are most resilient during a crisis. The financial results for the second quarter (April to June) already show which companies have continued to grow revenues and maintained or even improved their profitability. In some cases, this demonstration of resilience has led to higher valuations for companies that have proven themselves.
  • Better access to information. In the microcap space, conferences are essential because they allow investors to meet management teams to gather important information regarding the growth strategy, competitors, risks, etc. Today, most conferences don’t occur in New York, Los Angeles, Chicago, Vancouver, or Toronto, but rather online. This is an excellent opportunity for small retail investors to discover new investing ideas and get access to information without having to travel all over North America.

 

The Bad

 

  • Difficulty understanding the risks. As there are few historical precedents on which we can rely to make predictions, the current pandemic brings its share of uncertainty. The crisis will have significant repercussions on the economy, and many businesses will be affected in both direct and indirect ways. The indirect consequences are the most difficult to identify. It’s more important than ever to know your portfolio positions better than most people. Fortunately, microcaps are often niche businesses that serve a single industry and only sell a handful of products or services, reducing the range of potential risks.
  • Long-term valuation is a challenge. The value of a business is the sum of its future cash flows discounted back to their present value. In some industries, the negative short-term impacts of the pandemic will not have substantial repercussions on the long-term value. In other sectors, the future outlook will change permanently. For now, it’s still difficult to differentiate temporary impacts from permanent ones.
  • Markets are volatile and unpredictable. The major correction in February and March and the subsequent rally demonstrated once again how difficult it is to predict the direction of the markets in the short term. How many investors sold in a panic only to miss the recovery? How many stayed on the sidelines during the recovery hoping for a pullback to buy back (which never really happened)? Don’t try to predict the direction of the markets. Instead, rely on business fundamentals to determine whether the valuation warrants a buy or sell.

 

The Ugly

 

  • Flavors of the day. Occasionally, industries suddenly become extremely popular and attract all the investors’ attention. Think of cryptocurrencies in 2017 or cannabis in 2018. This year, the COVID-19 pandemic has become the flavor of the day, with excessive speculation in everything from treatments to vaccines, diagnostic tests, personal protective equipment, and telemedicine. Unfortunately, many retail investors who have overpaid for popular stocks may be disappointed with their returns in a few years.
  • The largest casino on earth. With real casinos and sports leagues shutting down at the start of the pandemic, many speculators seem to have turned to the stock market to get their adrenaline rush. The level of retail investor activity on online brokerage platforms like Robinhood and Wealthsimple has skyrocketed. Have people suddenly become mindful of their personal finances, or are we seeing excessive stock speculation? Time will tell.