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COVID-19, Gold and High Yield

Raphael Fiorentino
3rd March 2020 - 6 min read

Three months ago, we concluded our note Taking stock of the recovery with the comment that the momentum of global macro indicators was pointing to a premature end of the 2H19 recovery trade, and a likely reversal to the kind of downcycle conditions experienced since mid-2018.

Of course, things have not exactly turned out this way, as markets have started to discount the staggeringly wide range of possible outcomes from the COVID-19 outbreak, specifically the present estimates of:

  • How contagious the virus is (R naught), ranging from under 2 (seasonal flu level) up to 7 (smallpox level) and so anywhere between under 5% and all but 100% of the world population might get infected within a year
  • How fatal the virus is (CFR), ranging from under 1% (i.e. not considerably higher than the seasonal flu) to over 2.5% (i.e. 1918 Spanish flu level) and potentially up to the 7% attained by SARS, leading to prospective deaths anywhere from well under a million to the hundreds of millions
  • How often does it lead to serious complications (SCR), with current evidence pointing to a percentage far higher than the seasonal flu and therefore with the potential to quickly overwhelm our healthcare systems
  • How fast the disease becomes treatable or preventable, ranging from short-term (e.g. antimalarial medicine) to medium term (new vaccine)

As a result:

  1. Stock-picking conditions have deteriorated steeply:

    • Across regions, the percentage of outperformers has dropped below 50% and even below 40% in Asia over the past 3 months (< 40% globally over the past month)
    • The median spread between outperformers and underperformers has narrowed, reflecting higher returns correlations and a lower likelihood that material outperformers can mitigate a synchronised drawdown from clusters of underperforming holdings

Breadth & Skew

  1. The number of stocks on an “Exit?” alert, and hence liable to material near-term underperformance, which started to escalated over December (from 10% of all stocks covered by Butterwire, to 15%), went up dramatically over the past few weeks to now affect 25% of Butterwire’s stock universe. Further, 75% of stocks are on a technical break-down trend versus under 1% on a break-up trend.


  1. The short burst that accompanied the easing of China-US trade tensions in December didn’t prevent global growth (and equity return) expectations to start dropping increasingly faster since January.

iGDP and iEMR

  1. To add to the confusion, gold, the one asset class expected to clearly benefit from the latest direction of global macro indicators just sold off heavily at the end of last week!

Against this backdrop, Butterwire’s Long/Short candidates have so far been weathering the storm: the “Interesting Large Cap Long Candidates” index is up 1.1% YTD and the “Large Cap Short Candidates” down -6.3% relative to the market benchmark, that is, +4.5% and -2.9% respectively relative to a random selection.

Butterwire Candidates

But the current market response also creates an opportunity to explore equity strategies not normally specifically targeted by Butterwire: gold and high income.

The Case for Gold (Equities?)

Butterwire’s global macro indicators (iGDP for global growth expectations, iEMC for emerging market capital inflows expectations – i.e. money printing by the Fed/G7 Central Banks, and iLCI for late cycle or inflation expectations) consist of an exponentially-weighted moving average of daily data outputs (see How “Nowcasting” Global Macro Expectations Improves Fundamental Stock Alpha “Forecasting” for more details). This is done to extract a smooth signal from noisy daily values, thereby providing a picture that is more appropriate for long-term low turnover investing.

iGDP Daily

With the caveat that making inferences or extrapolations from the noise of daily data is fraught, the current combination of daily iGDP, iEMC and iLCI values is unique enough to justify a quick review.

There has never been over the past 15 years such a “goldilocks” situation for gold, not even back in March 2008 or August 2011, when global growth expectations plummet (i.e. flight to safety) at the same time as BOTH money-printing and late cycle expectations shoot up (i.e. [US] real interest rates expected to reset to much lower levels). Yet, gold lost momentum from February 25th and ended up the week -5% down on the previous week, an arguably temporary blip caused by forced sellers (margin calls on equity and expiring equity derivatives positions).

Gold Price Chart

Here is the list of the 8 dividend-paying precious metals and PGM stocks with a fundamental score over 7/10 which unsurprisingly (very few PM companies have forged a reputation for being shareholder value-driven), contains several highly controversial stocks, some low value ones, and some with very negative recommendations from brokers.

Mining Stocks

The alternative to PM/PGM equities is to simply change the industry filter in Explorer to include all but metals & mining stocks with an “inflation hedge” macro profile. The top 8 then consists of companies from the staples, real estate and utilities sectors.

Inflation Hedges

The Case for High Income Equities

As equities sell-off and [US] treasuries head toward negative yields, companies whose already high dividend look relatively safe should find increasing price support from their high(er) dividend yield (both in absolute and relative terms). We therefore set out to download the latest universe database from Butterwire (under the Tools menu) to screen for stocks as follows:

  • Only include the highest income, highest liquidity stocks (209 stocks / 5,646): mega-cap or Large-cap global stocks with Excellent tradability and over 4% dividend yield
  • Exclude fundamental outliers (102 stocks): take out stocks with base score under 2/10 (or base score change under -2), Fitness/Value/Momentum scores under 1.5/10, Brokers score under 1.5/10, but do not exclude any stocks on account of short-term signals (flag, alert, negative technical indictor)
  • Only include relatively safe, growing, sustainable dividend payers (42 stocks): long-term growth score > 2.5, merton score > 2.5, dividend sustainability score > 2.5
  • Exclude EU and EM Banks and Insurance, Russian Energy stocks, and US MLPs (34 stocks)
  • Exclude the highest volatility, highest beta, lowest EVA stocks (30 stocks)

Out of 30 stocks screened:

  • 8 belong to the energy sector, 5 belong to the telecom sector and 3 to utilities, and of the 5 consumer stocks, 2 are tobacco stocks and 1 is a chain of casinos
  • There are 5 Canadian stocks for 11 US ones, 6 South Eurozone (France, Italy, Portugal) stocks for 2 North Eurozone (Germany, Netherlands) and 2 Non-Eurozone stocks (UK, Switzerland)

Despite the obvious industry and country bets, the resulting portfolio’s tracking error stands at only 4.5%, market beta at 0.8 and volatility at 10.2%. There is no significant style (slight value tilt) or macro bet (slight USD/pro-inflation tilt), and dividend yield is 2.5% above the benchmark. With a forecast alpha of only 0.2%, a third of the holdings carrying an alert signal, and an overall recession resilience score -0.6 below that of the benchmark, the portfolio bets on its high yield to provide a relative downside protection and on its high cash generation holdings to support long-term capital growth.

Holdings 1 Holdings 2