Conference Call

Operator: Hello and welcome to the market update on the coronavirus with Professor Siegel conference call hosted by WisdomTree Asset Management.  Today’s speakers are Dr. Jeremy Siegel, WisdomTree’s Senior Investment Strategy Advisor and Professor of Finance at the Wharton School, and Jeremy Schwartz, WisdomTree’s Global Head of Research.  Please note that this call is for financial professionals only.  This is a 30-minute call.  We will open up the lines for Q&A 15 minutes into the conference.  During the presentation your lines will remain on listen-only. I would like to advise all parties this conference is being recorded.

Now, I will hand it over to Professor Siegel.  Please proceed.

Dr. Siegel: Thank you very much.  Wow.  What can I say?  Is this a big day?  We’re up 5.1% on the Dow.  Let me just mention, in its 120-year history we’ve only had 145 days where it’s been up or down 5%.  And even during this terrible decline of the last week, we’ve not had a 5% decline, but we did have a 5% bounce back today, so this qualifies as one of the big moves.

Ostensibly the move was caused by a lot of rumors that central banks are going to get together, have a conference call tomorrow, and plan for concerted reduction in rates that should come within the next few days.  Let me speak to that for a moment.  I think we should have a cut in rates most definitely.  The cash rate now fed funds is 160.  It doesn’t make sense for the ten-year to be at 110; 50 basis points lower.  I would actually support a full 50-basis point cut right now in the fed funds rate.

Is this going to cure anything?  Obviously  not curing the virus, not curing a lot of the fear, but one has to remember that there are trillions of dollars of loans based on LIBOR, which are in term based on fed funds, or it’s LIBOR and its new benchmark which is called SOFR; trillions of dollars.  By lowering 50 basis points we are improving the cash flow for many corporations that are going to be hurting quite a bit because of the decline that we see in economic activity as a result of this virus.

I would also like to address many people have been coming on saying oh a rate cut won’t help, because this is supply side, and rate cuts don’t help in supply side.  I disagree that this is a supply side event only.  Yes, there are problems going to be in supply chains from China; we know about this, but this is primarily a demand event.  People are stopping traveling.  They stopped going to conferences.  Some stopped going to sporting events.  Entertainment is a huge trillion-dollar business worldwide.  I could go on and on.  I don’t have to tell you what people are postponing or thinking of postponing these activities.

Firms that are linked to these activities are going to be hurting; they’re going to have to survive.  Those that have loaned it will be welcome relief at least that their interest rates could be dropping, and they will only drop if there is LIBOR.  Don’t forget, LIBOR is short-term.  That’s set by the fed.  Long-term is set by the market, and that rate has been going down dramatically, so I support this drop of rates.  And in fact, if they don’t, there’s going to be a big disappointment.  You’ll see this big rise today being wiped out, so we definitely should get one.

As I’ve been mentioning repeatedly as I’ve been on the network television Bloomberg, CNBC, and others, one has to keep in mind that over 90% of the value of any stock – virtually any stock – is dependent on its profits more than 12 months in the future.  Do the math.  I mean you are financial professionals.  If you’re selling at a 20 price earnings ratio, that means if I wipe out completely the first years’ profits and the rest bounces back to where it would have been before, you should see a 5% decline in the stock price; that’s it.  Now we already have a 15% decline.  Well today we’ll bounce back 5%, but I’m trying to give you a sense that as messed up as profits can be this year, as long as you hypothesize that there will be a recovery in 2021, there’s no reason for a drastic cut in values.

That said, clearly risk premiums and fear are very important drivers of economic prices and financial markets.  We know that, and in most cases, they drive it further than fundamentals would dictate.  Now we also have to realize that we have been — and I warned about this — we have been in a momentum driven up market from October last year through the first three weeks basically of January.  I saw no reason for that steady rise.  Yes, there was some relief that trade matters had basically normalized; that was fine, but really GDP had not accelerated, earnings forecast had not accelerated.  There was nothing that I saw driving all that, so 5%, 6%, 7%, 8% of that rise seemed to be excessive to me.  That had to be wiped out, and now we have another 5%, 6%, 7% which is due to the increased risk and the coronaviruses.  Could it go down more?  Of course, it could go down more.  Would that be a great long-term opportunity for investors; of course, it would be a long term.

Now this is another very important point.  I’m often asked the question is it possible for this to cause a recession, and if it does what does that mean for the stock market.  Well first of all, a rule of thumb definition of recession is two consecutive negative growth GDP quarters, so GDP would be negative in let’s say maybe first and second or second and third.  That is the technical definition of recession.  It’s not exactly what the National Bureau uses, but it’s a technical definition of recession.

It is also true that in most of past recessions, we’ve had a 20% or more decline in stock market, which as you know 20% is the rule of thumb that defines a bear market.  However, even though we might — and I would consider that part of the worst case scenario — have a recession two consecutive negative quarters, if people just holed up in their houses and apartments and just don’t go anywhere, wow I mean you’re going to see it.  One has to realize that it would be a very unique recession from a historical standpoint.  One should realize that historically recessions are due to tremendous excesses that have been built up in the economy and in the financial markets.

Like if we look at the home price surge before the financial crisis and then the chaos that enveloped our financial firms.  So, Lehman Brothers going under, Bear Stearns basically going under, Citi – major – I mean I don’t have to tell you guys.  I mean that took years to repair and confidence to come back, and who knew what’s going to survive and what’s not.  This is not the case now.  We don’t have those excesses and fear of massive financial failure that is going to restructure the financial market.  So, the bounce back should be much faster.

And by the way, I will also point to past recessions.  In the 1960s and 1970s that were brought about by OPEC surging the price of oil when we were much more oil-dependent and crushing inflation.  I mean, well, surging inflation crushing the economy, and that took years also to work itself out.  The virus, whatever its current course, is overwhelmingly going to be self-contained.  In the sense that as bad as it gets this year, it will run its course.

If we take a look at 1918, 1919 or other past, it will run its course, and when people finally see oh my gosh, I’m survived; I’m okay; we may have a vaccine.  At that particular juncture, people are going to come out and say yeah, I’m going to take that vacation; I’m going to go to those events.  So we will get a very sharp snap back and as long as we get profits in 2021 being approximately what we thought they were going to be today.  And by the way you know all, forecast of profits are always way too high, and they were too high this year.  I mean 12% is ridiculous.  The 5% was going to be.  Now it may be 0% or minus 5%, but I think we’re going to make that up and then get a 5% again in 2021.  That is also something that we should mention. 

Before turning it over to you people for questions, we’ve also had some pretty fast-moving political developments as ahead of Super Tuesday voting tomorrow.  We all knew about Pete Buttigieg dropping out of the race yesterday, a surprise announcement.  There was no inkling that Amy Klobuchar was going to drop out.  She did and then immediately endorsed Biden, and Buttigieg is going to be endorsing Biden.

Let me just tell you from someone who follows very closely in the betting markets which are very sensitive, a tremendous amount of shift has gone away from Sanders and towards Biden.  I’m not saying Biden is the favorite, but right now in the betting markets giving you an approximation it’s Sanders 50%; Biden 40%.  Before the Klobuchar announcement, it was Sanders 60% or higher and Biden under 40% to 35%.  He has not quite evened the odds but has moved the odds closer as the moderates drop out and try to consolidate support around an anti-Sanders candidate.

If you want to know my opinion, I believe that Michael Bloomberg should do the same.  Actually he should drop out tonight and join in Biden.  I mean realistically he came in to block Sanders, keep the momentum going before 20 million democrats vote tomorrow.  I don’t know exactly the number; I’m guessing.  It’s huge.  As you know, over 1,000 delegates will be chosen tomorrow.  It’s a possibility which was written off a Biden win in Texas.  Biden has surged right now in even Massachusetts.  I don’t think Warren is dropping out, but she has no chance.  She should also drop out.

There are basically two candidates.  Actually, there were two candidates for the last two weeks.  There were two candidates actually ever since Bloomberg could not make himself effective at the first debate.  He was out, and then basically there were two candidates.  So now there really are two candidates; moderate versus the extreme, and that’s going to be quite a fight to Milwaukee in July, but it’s become a terribly more interesting fight over the last 24 hours.

I’ve gone 15 minutes.  I know all you guys are very busy.  I want to answer your questions.  Our handler of this call is going to make some announcements to give you the procedure to do so.

Operator: Our first question comes from the line of Edwin Turnquist. Please proceed.

Dr. Siegel: Yes, Edwin.

Edwin: Hi, Professor.  Thanks so much for the time.  What do you think the huge move even probably a bigger move in the bond market that this economically speaking what does that say to you?  Thank you.

Dr. Siegel: Yes.  Alright.  Now, I’m glad, I should mention bonds.  As you people have been on my calls or gone to my talks or heard our weekly commentary — Jeremy Schwartz and I have a noon Friday program — the treasury bond over the last five years and becoming more and more has become the hedge asset of choice.  When there is risk, people flee to treasuries.  That impact is stronger and stronger and stronger.  More and more people want to hold treasuries as the hedge asset to offset the short-term movements of the equity market.  There are so many people that want that that they are the ones that are steadily, steadily moving into treasuries, and that is why we get so much boom.

Now this is a process that really has been going on for years but has gotten stronger.  And more and more people as I say hey listen treasuries are positive yield 1.1%.  I mean it’s not much but it’s better than the VIX has a negative return as you know.  If you take a head position in the VIX, I’d rather go into the treasury.  So, we’re getting a tremendous amount of what’s called the hedge impact, and that’s going to be around for years.

I mean obviously if we get a recovery from this virus, you will see the bond go down and the rate go up, but this is going to keep the rate on long-term treasuries low for years, if not decades into the future.  It’s just everyone is beginning to see this and say oh I want the long bond as my hedge; I want the long bond on my hedge.  You know they may even hold it at a negative rate.  Now I’m not predicting a negative rate for the ten, because even though Europe has negative rates, US has better GDP growth.   I mean we’re at two plus and they’re barely at one, so there’s a difference of one percentage point right there, so I don’t see ourselves going negative.

It could go below 1% most certainly.  I would like to see it go up because that means that fear has dissipated, and we see a recovery in the risk markets in particularly equities, but what you’re seeing is that huge edge demand driving that lower which is good for long-term finance.  It’s good for the mortgage market which pegs off of the ten-year.  Homebuilding as you know has been very strong.  Of course, weather has been very good.  Construction has been very good.  That’s been a strong sector going forward, so that’s a very beneficial effect, but I think the fed needs to therefore move downward on the short end to mirror the long end to cut financing costs both short and long term.

Thank you.  Next question.

Operator: Thank you.  The next question comes from the line of Larry Prozan from Prozan.  Please proceed.

Larry: Thank you.  Dr. Siegel, it’s been your thesis I believe that the multiple in the market should be 20 minus the ten-year.  Is that still your position?

Dr. Siegel: I’m not — and there’s been a lot of people quoting that — I’ve never officially said that but it is not a bad approximate.  Well that would give you 19 right.

Larry: Something about that.

Dr. Siegel: I’ve been saying in my official lectures that the new normal price earnings ratio should be 18 to 22, and you could put a midpoint of 20.  That’s within 5% of 19 if you want to use that formula and others do.  So, where do we stand right now?

First of all, you have to adjust what this years is going to be.  Before the selloff, we were 20 to 21.  A 10% selloff will get you to 18 to 19, and 15% gets you 17 to 18.  That’s under the 5% earnings growth.  If we’re going to base it off of 2021 and forget what we’re going to see in 2020, these are good long-term investments.  It will keep inflation at this level and all the rest.  You have to understand, you’re going to see the ten year move closer to 1.5% to 2% I think if this risk disappears, so that would move it up a little bit, but you’re definitely now down on the levels that I think give good long-term returns to investors.

Larry: And so going forward, what would change your thesis then of where the market was expensive if we can’t use or I guess anybody can use anything, but if you couldn’t use 20 minus the ten year, is it just you think with this new long-term low interest rate thing that investors should pay somewhere between 18 and 22 times forward earnings for the S&P.

Dr. Siegel: Yes.  Now let me mention to you it’s not just the low interest rates.  That’s one factor.  It is also the incredibly low transaction costs that give investors the ability to diversify worldwide at virtually no cost.  A phenomenon that was basically not present in the first 150 years of our market when it was selling for 15 PE.  As transaction costs fall and the ability to index cheaply and get the best risk return trade ups have gone up, that then migrates the normal PE to 20.  So yes low interest rates are one factor, but they’re not the only factor that I think has driven up the equilibrium price earnings ratio to the 18 to 22 range.

Larry: Yes.  I think you may not have heard one part of my question, sir.  Is there anything that would drive you to say 18 to 22 is wrong for X environment if rates were unusually to go up, or is it just this is the new era of 18 to 22 because of various factors present now in the market that weren’t present before?

Dr. Siegel: Okay.  So, if we change it, I mean what are the long-term risks on the market?  I mean there’s always potential political risks.  Clearly a Sanders presidency would not be good.  A Sanders presidency with the democrats taking the senate I think would be very bad, and that to me lops 20% off the markets, but I think that’s a very unlikely event.  Almost all the people betting it are giving 70% or more to the senate remaining republican.  If the senate remains republican then you know a Sanders presidency is maybe negative 5% to 10% type of event rather than a 20% type of event.  It would be much more muted in terms of that negative.  So there’s those political risks, that political risk going forward.

If this coronavirus is a pandemic a new — I mean it’s not one thing that was often named as a big type of risk, but given what we see now and what it could do, we all have to say we should have been better prepared.  We should have definitely — we were not well-prepared.  This caught us unprepared, and I think we’re paying the price for that.

Larry: Thank you very much.

Operator: Thank you.  The next question comes from the line of Justin Brouillard. Please proceed.

Justin: Hi, Professor.  Thank you.

Dr. Siegel: Yes, Justin.

Justin: I was just wondering, in starting to look at some of the tech stocks, the same stocks, if you want to look at those just to be simple, down 15% in about six trading sessions.  It rebounded today, but it’s still down about 12% or 13% —

Dr. Siegel: And Apple up 9.3% today.  Can you believe that?  Up 9.3%.  Microsoft up 6.6%.  First of all, one should note that actually there was a big rally in China overnight.  China was up 3%.  I was saying wow if that market is up, maybe things are not as terrible as everyone catastrophizes as things are.  So yes, you really saw a big — I mean tech was up 5.7%.  Tech sector of the S&P is up 5.7% today.  I mean that is the biggest increase I think of any of the sectors.  I don’t have every one written down here.

Justin: I’m looking at names like Facebook that was only up 1.5.  Amazon was up 3 points.  Netflix was up 2.  Google was up 2 and change.  Salesforce up almost 4.  Some of those names, if people are going to stay home more—

Dr. Siegel: No.  I understand what you’re saying.

Justin: And it almost seems defensive to me.

Dr. Siegel: Yes, I agree.  I agree.  But you know tech is in everything.  Tech is sold to airplanes and cruises and entertainment centers.  You’re right, it looks like a stay at home type of thing but it’s in all our economy.  If all our economy suffers, then it’s going to suffer.  People get thrown out of work and then the travel industry because of this virus, they’re not going to have the money to buy the new iPhone.  So, yes, I hear you.  I hear the defensive nature on it, and I’m not going to argue with it.

Only if there’s a macro event, you generally see now much the economy — Nasdaq is up 4.49.  S&P 4.3.  Dow up 5.09.  And the Russell 2000 which is always not quite as sensitive is up 2.85 today.  So you really are — the macro events really move all the markets.  The only thing that is when we had the dramatic change in the interest rates obviously utilities which are bought on yield and anything bought on yield and you know we here at WisdomTree do like yield, but think about this, if we’re now going to be stuck between 1% and 1.5% on the ten-year, right now the dividend yield n the S&P is 2%, and dividend paying stocks are 3% and more.  Think about that in terms of where people are going to get their income.

Thank you.  Do we have time for one more?  We are at 4:30.  Maybe one more question.  We know you guys are busy.

Coordinator: Yes, sir.  The question comes from the line of Jerry Schwartz [ph] from [indiscernible – 54:31].  Please proceed.

Jerry: Hi, Dr. Siegel.  I wonder what your view is on the trajectory for the price of oil and oil-related stocks.

Dr. Siegel: Well, I’ll tell you, oil is a beta 1, beta 2 type of thing.  I mean economic activity and oil are so intertwined that anything that slows GDP is slowing oil; anything that rises, rises.  I mean WPI [ph] is up 5%, 6% today.  Oil is up 6%.  Stocks are up 6%.  You have a beta 1 to beta 2.  That there when I see Exxon Mobil have what a 6% or 7% what is it yield, I mean I see some of these stocks, but then again you’re in an industry that does not have the best press.  The long term is militating against that industry.  However, when you get a triple A company and the S&P giving a 6%, 7% yield, I can’t blame anyone for buying that, but thank you.

Jerry: Okay.  Thank you.

Dr. Siegel: Thank you, all, for being on today.  We don’t want to keep you from getting back to your clients with at least finally some better news.  Yes, you can close the call.

Operator: Yes, sir.  Everyone, that concludes your conference call for today.  You may now disconnect.  Thank you for joining and have a lovely day.