Feeling scared already? It’s not even a Bear Market as of March 4! (But it became one a week later!)

Update (3/13/2020):

Well, it is a Bear Market as of this week! We dipped well below the -20% line on March 12 due to the awful 10% meltdown that day. But we also recovered very nicely on Friday the 13th, of all days!!! I’m putting together some notes about my thoughts. To be published on Wednesday, March 18. Stay tuned! Good luck everybody! Stay invested! 🙂

Scared Already Chart01a
We dipped below the -20% line. And recovered again on Friday the 13th (of all days!)

Original Post (3/4/2020)

Volatility is back! Did it feel a little bit like a bear market last week? Actually, that wasn’t even a bear market, only a correction so far. Hence the title picture with the Koala “Bear,” which is not a bear at all but a marsupial. But it still felt like a mini-bear-market, didn’t it?

So, I thought it’s a good time to write a response to some of the questions I’ve been getting over the last few days:

  • How bad is this event compared to other corrections? How long will this last?
  • Should I sell my stocks now?
  • Is this a good buying opportunity?
  • How did some of the “exotic” investment styles fare during this volatile time (Yield Shield, Merriman’s Small-Cap Value)?
  • What does this all mean for my retirement plans?
  • Did your leveraged option writing strategy blow up already?

So many questions! Let’s shed some light on them…

How bad is this compared to other corrections? How long will this last?

If you recall my post from early 2019 Will FIRE turn into “Fake Independence Rapidly Evaporating?”, I included a table with some stock market stats, including the largest equity drawdown by calendar year. The median drawdown peak to trough in the typical calendar year is just about 10%, so you’d expect a drawdown of 10% or more about every second year. The 12.7% drop in the S&P 500 (Feb 19 to Feb 28) is nothing out of the ordinary! After a relatively low-volatility year with a 30+% return in 2019, one should have almost expected the pullback! So far, nothing to worry about, nothing out of the ordinary

How long will this last and will this get worse? Maybe the worst is already over? I was certainly encouraged by the big move on Monday. Only to see the market drop again by almost 3% on Tuesday. That volatility shouldn’t be a surprise, though. Nobody would seriously expect the uncertainty to just go away after a few days.

If history is any guide then even in this best possible case, where the Covid-19 causes only minor disruptions, I’d still prepare myself for at least several weeks, maybe months of uncertainty and pain in the stock market. If we look at some of the corrections over the last few years, and again I’m talking about the recent corrections that did not coincide with any lasting negative impact on the market and the economy, they still normally needed some time to blow over. For example:

  • The August 2011 U.S. bond downgrade
  • The August 2015 China devaluation
  • The January 2016 Fed scare
  • The February 2018 vol spike
  • The Q4 2018 mini-meltdown

What they all have in common is that it took a while to reach the trough and a new high! I don’t expect the Covid-19 impact to just disappear after only two weeks either like nothing ever happened!

Scared Already Chart01
S&P 500 Total Return during six prominent corrections. Note: I set the starting point right right before the big drop, not necessarily the all-time-high. For some of the corrections, the ATH occurred a bit earlier. Starting date 0 at the all-time-high would make the drawdown even deeper and longer!

What if this virus turns into something more sinister? Again, I don’t believe that this is likely, see Dr. Grahama’s excellent post on FiPhysician.com. He’s an infectious disease doctor and makes a pretty convincing case that this virus will likely not be as dangerous as the media want to make it!

But I’ve seen some ominous signs. At both Costco and Walmart, they ran out of toilet paper. Why would they run out of toilet paper in the Pacific Northwest with so much timber and so many paper mills around here? Disinfecting wipes, rubbing alcohol were also sold out. Even more ominous, Walmart and Costco were already running low on or sold out of other essentials like bottled water, rice, canned beans, flour, etc. I hope it’s not a harbinger of something worse but just people who must have watched the “Doomsday Prepper” marathon on the Discovery Channel!

At a Vancouver, WA Costco. No more toilet paper and the kitchen towel is down to the last few packages, too!
At a Vancouver, WA Costco.
Toilet paper aisle at Walmart…

So, in the worst possible case, where a global pandemic indeed causes a global recession this would be just the beginning. A few months ago, I looked at the anatomy of past bear markets and found that from peak to trough it takes more than a year, on average. Which doesn’t sound so bad, but keep in mind that reaching a new (nominal) all-time-high took 4 years and 8 months on average and catching up with the old all-time-high plus inflation took almost 7 years. For some of the really bad events, you can also add another 50% or more to those time frames. Pretty scary, if you ask me!

AfraidOfBearMarket Chart05
From my Oct 30, 2019 post: The anatomy of the average bear market. The effects of the bear market will be felt for much longer than the often quoted 1-2 years!

But again, my working assumption, at least for now, is that the economy will muddle through because the virus concerns will eventually subside. Keep your fingers crossed!

Should I sell my stocks now?

The S&P 500 dropped below its 200-day moving average (and probably most other indexes as well) last week, so if you follow a momentum market timing approach this would have been a sell signal. If you strongly believe that Covid-19 will turn into a full-blown global recession, then sure, this might be a good time to still get out.  If you believe that the market will drop 20% or even 50+% peak to bottom, then getting out at -10% and getting back in at -50% would be a huge market timing alpha!

Personally, I think that would be a mistake. What if you had sold at the bottom on Friday only to see the market recover 5% on Monday? Do you get back in? Hey, you were above the 200-day line again! Then sell again after the dip on Tuesday? A lot of investors get “whipsawed” by chasing such short-term moves. For most investors, staying the course is the best way.

If you have thoughts of selling all your equities now, maybe you don’t even want to look at the market for a while! Get off the computer and go on a hike! Total coincidence, I did go on a hike on Thursday last week when the market tanked by 4%. I went to Mt. St. Helens (90 minutes from our home in Camas) and I had no idea at all how bad the drop was because there’s no phone or data coverage anywhere along the trail! I’m glad I didn’t because I might have overreacted…

Watching the Mt. St. Helens Crater beats watching the S&P 500 crater!

Mt. St. Helens before sunrise.
Looking back South. Mt. Hood in the background!
At the Summit, looking North over the Mt. St. Helens Crater. Mount Rainier in the background! At that point, I had no idea about the S&P 500 “cratering” 🙂
Winter wonderland on the way down!

More info on this hike:

Is this a good buying opportunity?

I’d always ask back: when would be a bad time to buy stocks? For me personally, while I accumulated assets between 2000 and 2018, I thought it was always a good buying opportunity! Either the market was going from one all-time-high to another, then why do I want to go against the momentum? Let the profits run and put more money into the market. Or the market was beaten down, then momentum may look bad but valuation looks awesome! Let’s buy stocks when they are on sale! Dollar-Cost-Averaging rules!

If you think that the virus will just be a blip in the current bull market just like all the other events over the last 11 years then this may indeed be a good buying opportunity if you have loose cash lying around. But heed the warning from above: Despite the bounce on Monday, the market might still get worse before it gets better. It happened in all of the other corrections before! The way down and the way up are rarely a straight linear path!

How did some of the “exotic” investment styles fare during this volatile time?

For the (mostly) passive investors and the broad index fund fans like myself and others in the FIRE community, there’s always the nagging doubt: is there a better way to invest and is a way to avoid some of the market pain? The internet is full of investing advice, some good and some not so good:

  • The “Yield Shield” i.e., shift your boring old 60/40 portfolio to other ETFs with higher dividend and interest yield to help with “Sequence Risk” in retirement. I thoroughly debunked that approach in my Safe Withdrawal Rate Series, Part 29 (and follow-ups Part 30 and Part 31).
  • “Small-Cap and Value stocks” as proposed by Paul Merriman and others. You invest in “Value” stocks and Small-Cap stocks. Hey, who doesn’t like value, right? Value is good! Unfortunately, the record of value and small-cap-value has been underwhelming recently as I pointed out in a post last year.

So, did the alternative portfolios with the “sexy” names perform better in 2020? Not at all. A simple, plain 60/40 portfolio (i.e., 60% S&P 500, 40% intermediate government bonds) would have been down by 2.5% up to February 28, 2020. The Yield “Shield” would have been down 5.4% and the Merriman moderate portfolio (60% stocks, 40% bonds) 6.4%.

And just to demonstrate that this isn’t cherry-picking just one short two-month time window, here’s the return comparison of a plain 60/40 vs. the “sexy” portfolios since 2014 (some of the Merriman ETFs were not available before then, but check out my historical backtests of the failed Yield “Shield” going back to 2007 in the SWR Series Part 29, Part 30, Part 31). The Yield “Shield” and Merriman Portfolio mostly underperformed the 60/40 portfolio. They each had only one calendar year where they posted a mild outperformance. But over the entire 74 months, the Yield “Shield” and Merriman portfolio lagged by 2.4% and 4.3%, respectively!   (Returns via Portfolio Visualizer, see this link)

Scared Already Chart02
Calendar Year Performance of different investing styles 2014-2020. (2020 refers to performance up to Feb 28.)

How’s that possible? Let’s look at what’s in those portfolios, i.e., the underlying ETFs. The equity portion of these alternative portfolios didn’t do particularly well in 2020. Sure, REITs outperformed the S&P 500 a bit. Even the total market index did slightly better than the S&P. But after that, it starts looking really grim: dividend stocks (VYM) underperformed by 4%. And most of the lineup in the Merriman portfolio, small-caps and value stocks of different flavors were an unmitigated disaster so far in 2020. Not a pretty picture!

Scared Already Chart03
2020 YTD performance (dividends reinvested) of the Equity ETFs used in different portfolios.

Moving on to the Fixed Income portion. In market stress periods, the plain old boring intermediate bond (e.g., iShares IEF with 7-10-year Treasury bonds) is king. The Merriman ETFs certainly didn’t lose money but they underperformed the IEF due to a shorter duration. And in the Yield “Shield” portfolio, shifting into corporate bonds and Preferreds has the expected outcome: corporate bonds don’t do as well government bonds (more macro risk, less “safe haven” assets) and Preferred Shares get clobbered because of their significant macro and equity exposure, as they always do! The Fixed Income portion of the Yield “Shield” and especially the Preferred Shares will always be a complete train wreck in market stress periods!

Scared Already Chart04
2020 YTD performance (dividends reinvested) of the Bond ETFs used in different portfolios.

So, long story short, simplicity is king. Don’t fall for the bling, don’t fall for the B.S. – it’s best to stick to the simple passive index portfolio.

What does this all mean for my retirement plans?

Most folks in the FIRE community are still years away from retirement. Keep investing, and do your dollar-cost averaging.

For current retirees or folks close to retirement, it certainly sounds a bit scarier. Sequence of Return Risk is the #1 retirement killer. But most investors who did their homework right should be OK. If you started with a modest initial withdrawal rate then even with the small decline since the peak you should still be safe. Of course, if you listened to some of the FIRE cowboys out there (“who cares about the withdrawal rate, just do 5% or 6% or 7%, as long as you’re flexible”) then indeed you might have to be flexible and cut your spending after only a few months in retirement. But I can’t imagine many readers of the ERN blog fall into that category. Right?

Did my leveraged option writing strategy blow up already?

Hah, glad you asked! I get questions like that all the time when there’s a spike in volatility and the market drops. My put writing strategy definitely got dinged this year, especially on February 24 during the first large move downhill. And I even had some small losses already in January. But so far, knock on wood, it worked out pretty well compared to the S&P 500 index: As of March 3, with the overall portfolio (short puts on margin + margin cash in bond funds), I was up by 0.4% for the year. Though the option writing portion alone is still down! Still pretty good, though, considering that the S&P 500 is down quite a bit.

Scared Already Chart05
Cumulative returns in 2020 up to March 3. S&P 500 Total Return Index vs. Put writing with ~2.5x leverage.

But why don’t you lose your shirt when the market is dropping so precipitously? Especially with 2.5x leverage? The beauty of the put-writing strategy is that, if done right(!), you can make money even if the market keeps dropping after the initial fall. Exactly as it happened last week. I certainly lost some money on Monday, but I was able to sell puts with strikes far below the current index level (sometimes 10-15% below the current value and 2 days to expiration) thanks to the extreme increase in implied volatility. The market still got close to breaking through my strikes on Wednesday and Friday last week, so you need some nerves and the right stomach to do this consistently!

Scared Already Chart06
The beauty of the put writing strategy. If done “right” you lose money only during the first major market drop (Monday 2/24). But subsequently, you make money despite a continuing market meltdown, because you can sell puts far enough out of the money. Sometimes as low as 10-15% below the current index level.

So, the February meltdown was scary but still quite a bit less worrisome than some of the other stress periods I’ve been through (e.g., August 2015 or February 2018). But thanks for asking how I’m doing, everybody! You are all a bunch of rubbernecks! 🙂

Hope you enjoyed today’s post! Looking forward to your comments and suggestions!

Title picture credit: Lee von Gynz-Guethle

110 thoughts on “Feeling scared already? It’s not even a Bear Market as of March 4! (But it became one a week later!)

  1. Karsten, I’m having a mini retirement for the next two months before I start my next job and boy am I glad when I see a new post up by you.

    A breath of fresh air to all the same articles about the Corona Virus.

    I’ve had similar thoughts to you but it’s always good to reaffirm my beliefs when a smarter person (i.e. you) writes about the same points.

    An update continuing from my latest comment on your option writing post if you’re interested:
    * I’m over the initial shock that I blew up more than I’ve ever made with the option strategy
    * Now I accept that it’s a slow grind back to profitability
    * But now I consider it tuition for learning how to navigate a correction properly and not being too aggressive with strikes
    * I am fortunate in that my new job should allow me to make enough to overcome the loss even if on paper my ROI is now terrible.
    * Please know that I really do believe in your strategy and it is my own fault for implementing it incorrectly

    That chart helps me get an idea of the kind if strikes you use after a big down day but would you able to let me know the premiums your were getting/targeting after those down days? Were you still writing options at the 5 delta?

    Thanks again for being the best FIRE blogger.

  2. You do great work. Likely the best out there. I have read and re-read your articles several times and learn something new each time. You really pick out the fine points that many overlook. I am about to embark on my early retirement in two months at age 53 and have been worried that it’s the worst time possible. But I’ve prepared against sequence risk with a lower stock allocation, holding more inter. Treasuries, some GLD and am moving to a much lower cost of living state. I passsed through this recent turmoil unfazed. Thanks for your work and for the frequent updates. It helps many people I am sure.

    1. Frank you may want to consider delaying retirement for a couple of years. What if the market does drop by 50%? We are in totally uncharted territory with a pandemic coming on during a period of excessive market valuation as per most measures.

      1. Thank you Karl, I certainly am concerned however I have decided that with a possible 40 years ahead in retirement there will always be a bad time to retire and crisis after crisis. I put it off several times already. I addressed everything I can to protect myself with what I have learned from Big Ern and others over the past few years. Plus the time is right with now with family arrangements before my kids are too tied down to make the move. Wish me luck!

    2. Yesss!! Thanks! Only people who are unprepared would get derailed by this volatility. If you’ve done some SWR simulations, you picked a conservative WR then you should retire with great confidence! Best of luck! 🙂

      1. Well It is a year later and I retired early as planned at 53. Amazingly everything has gone extremely well considering the events of the time. Our net worth has increased beyond what was expected. Our cost of living moving to South Carolina has been lower than anticipated dropping our WR to just below 3%. As an added bonus living on a lower income got us health insurance in January on ACA for zero premium with a high deductible plan and an HSA which is also great for tax planning. It has only been a year of course and there is a long road ahead. Keeping stock allocation at 60%, treasuries at 30%, gold 5% cash 5%. Conservative but more than enough to achieve our goals. If there is a major correction I will use the glide path to bump up equities. Thanks again for the knowledge I picked up from your incredible work here.

    3. Frank—I’m in your spot, leaving my job at 55 yrs old in 1 month… I’m also not changing my plans, always seems to be a reason to panic and delay. If it the world falls off a cliff a paid off place to live in a major city and marketable skills should see us through… And if it’s truly Armageddon, well no job will be safe and any asset allocation will be toast! Love the deep analytics on this site, saves me a lot of work. 😎🤫💪

      1. Heh, I’m 55 and decided to go part time rather than retire in Jan to eliminate my sequence of returns risk…

        I have a large cash cushion that is dry powder since I don’t see very high risk of downsizing for me in the next year.

  3. Hey – i am still up for the year around .50 which is good in my book. The 3X etfs which are super volotile worked liked a charm. I bought them over several weeks as an insurance policy hedging against huge market drawdown only .50% of total portfolio and liquidated them lat week. I sold some gold because I was up so much. My portfolio held up extremely well. Now I am basically back to about 60%/40% and doing nothing. For me, the best thing to do right now is stay away from the news and focus on something else – I am looking to fix things around the house. I painted a kitchen over the weekend just to stop thinking about the market. Anyone out there needs to get anything done -:) I am up for it – jk.

    1. Ha, good old Hussman. Has been warning of the impending doom since 2010. I agree that we should be cautious about the high CAPE ratio but I’m not quite as pessimistic as Hussman. If you’d followed him for the last 10 years you’d have lost more (opportunity cost) than an immidiate 50% drop right now. 🙂

  4. Hi ERN: Excellent link above to Dr. Grahama’s great post on FiPhysician.com. One of the clearest pieces I have read on the virus and in addition intertwined with what it means for our personal finances. Thanks.

  5. Why don’t you include longer term bonds? EDV? Up 18% YTD. Do you think they have a place in the bond allocation?

    1. Yeah, that’s a good one. Apparently even longer duration than TLT (iShares 20+ year).
      Again, the standard 60/40 portfolio uses the 10Y Treasury or the Barclays Agg. I happen to have the long time series for 10-year benchmark bonds. You could get some additional bang for the buck going for the longer-duration bonds.

  6. Karl,

    Excellent post as usual. My take away from the last couple of weeks is that most people have very little understanding of true risk and numeracy. I also agree that dollar cost averaging and just staying the course is excellent advice. Eat well, exercise and wash one’s hands regularly. Keep calm and carry on.

    Dr. Medimentary

    1. Very well said! Wash your hands everyone. And don’t buy facemasks: leave those for the people who have cold-flu symptoms!
      And really important: It’s totally safe to drink Corona beer! Corona Light as well!

  7. These events need to happen from time to time, market can’t keep going up forever! If so then dollar-cost averaging wouldn’t make sense either. For those that are selling in the past week, were they selling in September 2019 when the S&P was at the same level? Or were they buying because the market was in the middle of an incredibly hot upward shot?

    The stock market is not for the feint of heart which is why we need blogs like yours to keep things fact-based and analytical.


  8. I am not as optimistic this time the fed can keep us going to all time highs thru this with such a high CAPE.The largest tech employers just sent everyone home for a month! People just can’t all work from home because most companies systems are not at the level of capacity yet even in the tech world. I have never seen anything like this and we will see some major economic impact. Even the risk parity strategies are struggling to keep up… maybe this is due to margin calls and that will subside. Treasuries and some gold feels like the place to be right now until we get thru the peak fear stage. I rather lose upside at this CAPE (most likely limited) then defer early retirement by another 5 years by staying the course. There are still radical people on other FIRE blogs “buying the dip” and yolo 100% stocks. I think the majority of those have not been thru a downturn yet and do not know what it is like.

    1. Good point. Like you, I don’t think the rate cut will do much. It’s pushing on a string. Seems mostly psychological.
      And just for the record, even though I hope the economy will muddle through, this pandemic and the economic disruptions might have the potential to do some damage. So, I can undestant if people want to sit out this potential mess…

  9. Preferred shares are an enigma to me – all the downsides of bonds PLUS all the downsides of stocks – and still people buy them. Yet at some point even they get cheap enough to be a good deal for investors needing steady income or who are pessimistic about stocks at these prices.

    As someone who bond-tented and hedged to the point I’m only down 4.5% from my all time peak, but who is still 400k short of FI, I am attracted to the idea that if a downturn got severe enough (e.g. 40% off), I could potentially buy enough earnings from REITs, preferreds, downgraded bonds, etc. to cover my expenses and retire for a while on a 5% WR. I’d probably have to go back to work someday, but if the preferreds and REITs rebounded to normal levels (e.g. 40% up from my buy price), I might not have to. That optionality is worth something.

    The challenge is how to exploit my position of strength to come out of this correction roaring, and to shave my time to FIRE. Thoughts?

    1. Don’t get me wrong: I have Preferreds myself. Just under 10% of my total portfolio, about 1/3 of my option trading portfolio. Yield is nice! But they will get hammered in the next recession again: equity risk, financials struggling with low/negative interest rates, etc. It’s a risk, but if you’re OK with that and you know what you’re getting into, go for it!

      1. I agree they’ll be hammered in the next recession; that would be my entry point (My potential losses on index funds have a floor set by long put options with lots of duration remaining – so I’m rooting for a big fall.).

        If preferred yields hit 6.5% for example, maybe they* could offer an attractive way to retire at a 4-4.5% WR amid a Japan-style scenario in the US of slow/no growth, low inflation, and ZIRP. In such a scenario, a traditional stock fund + IG bonds portfolio would fail to generate enough capital gains or dividends to be a success story, and the poor performance could go on for decades.

        Could one escape disinflationary stagnation by seizing preferred stock yields* amid a market panic? I doubt there is any precedent unless preferred stocks existed in early 1990s Japan.

        So there’s your next, and admittedly very hard, article idea. How could a Japanese investor limited to his own country have retired starting in 1990? And with the starting assumptions that government bonds were yielding 1% instead of 7% at the time!

        *plus select REITs and maybe some other stuff

        1. Preferreds got whacked again today. Lower interest rates are bad for financial stocks and hence hurt the preferred sector (more than half are financials).
          So, maybe long-term this is a good time to buy again but we could go through a lot more pain short-term.

          Japan 1990 is a bit of a bad comparison. Valuations were completely crazy, much worse than the S&P on Feb 19.

      2. Margin is finally being offered to Australians now. What would you recommend be the holdings for the fixed income portion of the option trading portfolio? Taking into account if I want to avoid preferred and as a non-US person, I wouldn’t get the benfits of muni bonds.

        BND, IEF, TLT?

        And also to check again, you hold 70% of the portfolio in fixed income?

        1. BND, IEF, TLT are all good, though the yields are now so low, I wonder how much upside they have now. Maybe U.S. will go the route of Germany, Switzerland and Japan and have 10Y bonds yielding <0% soon?!

          I hold about 30-35% each in: preferreds, regular Muni bonds, closed-end fund Muni bonds.
          And 5% in cash.

          1. Since the yields are so low. Do you think it’s better to stay in cash for the moment?

            As you mentioned in another comment, maybe soon it will be time to buy in on preferreds? Do you have a list of preferreds you like?

            1. Just what I’m thinking. With the Treasury bond funds you’re now looking at super-low yields. But that’s what I thought in February and then IEF, TLT, etc. were the only (major) assets that rallied during this mess. Even investment-grade corproate (LQD) got hammered.
              So, maybe money market is a good temporary solution for now.

              Preferreds got hammered really badly. So they may be a good buy now. I’m following these: AHL PRC
              ALL PRB
              ALLY PRA
              ATCO PRD
              ATCO PRE
              ATCO PRG
              ATCO PRH
              C PRK
              GS PRj
              GS PRk
              KEY PRI
              MS PRI
              PNC PRP
              RF PRB
              SCE PRH
              SCE PRJ
              SCE PRK
              STT PRG
              USB PRM
              WFC PRq
              WFC PRR

              1. Thanks for the list of preferreds. I’m going to have a look and hopefully be able to get in at the right time even though I’m suppose to be a passive non-market-timing investor.

  10. What are your thoughts on the”permanent portfolio” such as Ray Dalios all weather fund, golden butterfly, Browne permanent portfolio, etc?

  11. I think COVID is going to be far more disruptive than some think, but it’s going to be a slo mo train wreck. The only thing I’ve been buying is treasuries and gold in my trading account and that is up 5% over the past month. I sold all my equities in that account into cash 2 weeks ago.

    The virus appears to be about 5x more infective than flu. The virus is bimodal as 80% get mild illness and 20% get severe illness. The problem is the 80% can be infective for 14 to 28 days. I’ve read the virus can live on a surface for 9 days as opposed to flu which lasts 2 hours, but I’m not sure I believe that data. It is clearly super infective as 1 carrier infected 200+ people in one church in Korea. Of the 20% with bad illness as many as 10% need ICU. The latest WHO death figure is 3.4%. Flu’s death rate is 0.1% So COVID is 34 x more deadly than Flu and far more infective. The real flu is far worse than the usual viruses we call “Flu” It is completely debilitating. I had it in med school and couldn’t move out of my bed for 5 days. If COVID is like that, 20% of the infected work force is going down.

    Death is by ARDS. This means the covid basically burns the cells in the alveolae and the burn exudes proteinacious fluid into the lungs filling the alveolar sacs, Fluid filled sacs can not pass oxygen and can not eliminate CO2. These conditions are not compatible with life. Treatment is intensive care on a ventilator until the body can start to heal and is very complicated. Treatment can last more than a month. There are a max of 100K ICU beds in the country and many of those beds are filled with other patients so an explosion will overwhelm the medical teams quickly. When overwhelmed the death rate will climb to 10% without proper supportive care. That’s the biology as of today. The virus has mutated to 2 strains one more deadly than the other. The way the pandemic is projected to work presently is 30% of the northern hemisphere could be infected then the virus will head south where another 30% get infected, then the virus will head north for a second season of infection and back south for a second season. Likely a 3rd season will occur but by the 3rd season there should be pretty good herd immunity and the pandemic will fall back to be endemic. This is a novel virus with no human immunity so everyone is at risk and that is why the virus will see saw between hemispheres mixing in a kind of swirling motion.

    If this likely scenario comes to pass, there will be huge economic dislocation world wide and central banks will not be able to play their put. This is anything BUT a buy the dip scenario IMHO. This is the stuff world wide deflation is made of. I spent the past 18 months de-risking equities and when the S&P was down 16% I was down about 5%. Equity index funds are virtually all beta and beta is the worst thing to be long in a downturn and I think lower lows are going to beget even lower lows. There is FAR MORE DOWNSIDE in the market than upside at this moment in time. The market is asymmetric to the downside in terms of risk. What I am watching is the VIX. The rate of change in the vix is the key IMHO. If the vix is over 30 I wouldn’t trade anything. If it gets down toward 20 in a sustainable way the market becomes tradeable again and you could start to think about reallocating. This is going to play out over a long time, so bide your time and don’t get whipsawed. The market is something like 100% over it’s mean trend line and this is a perfect reason for the market to mean revert on a macro basis. An example: On a YTD basis the S&P is down only 6.4% BUT did you know on a year over year basis the S&P is still up over 8%? This means the S&P is still very expensive. It’s buy low sell high not buy high and hope it goes higher. I subscribe to a service that measures market volatility and asymmetry. The market vol is up 250 – 300% and the asymmetry is 1.4% upside and 8.4% downside. That’s a sell scenario, not a buy scenario and the machines that do all the trading are very aware of those numbers.

    Just my opinion of course.

    1. I don’t want to be rude but this definitely sounds to me like “paralysis of analysis” when I overthink stuff – I start to believe that any straight line has curves but the reality is that a line was always straight except I was wrong after thinking way too much about a subject matter.

      The virus is cases are basically growing at about 13% percent and the growth is almost exponential, this means that by June 7 the while world will be infected and if the growth rate changes to 5% the world will be infected by 20th if September. Thus by October this virus will be old news and world will move on and we all will be used to the idea of Corona.

      1. Spoken like a true bogglehead buy and holder. What is 3.4% of 7 billion anyway? Do you think that number of dead might affect the economic output of the world, especially if it’s the most experienced people who die? Is there any long term sequella to people who’s lungs are scared by the virus and ARDS? Discuss among yourselves.

        1. Hi Gasem – Yes. You are correct. By the way I like reading your blog as well and you are a very smart to person to me.

          However, I lived through Chernobyl as child in a neighboring country and that time the world was coming to an end as well. They give us some BS syrup to drink and told us a lie that we are all going to be okay.

          Moving forward the world comes to and end again. I have a very hard time believing in that theory as well, here is why.

          – A lot of manufacturing is automated – much much more than 80’s, 90’s and even 2,000’s. People are still needed but not as much as in few decades ago.

          – A lot more people including myself can work from home. The function of going to work is a control factor.

          – Governments are printing fiat money like no tomorrow. Exactly where the money is going to go? 1. Houses, 2. Very cheap loans, and 3. Market to capitalize the companies. And of course inflation ,yes I will get to pay off my loans with much cheaper money.

          Lastly, government officials will stand up on their head to do everything that they can to keep the market up.

          Yes, people will die and that is very sad but most of them are in their 70’s plus with problems.

          1. I made my fortune as an automation guy. If you honestly think that because factories are more automated that the impact will be less because they need less workers you are missing the point. They are even more reliant on supply chains and certain key personnel to keep the system functioning. 1 little widget doesn’t ship from northern Italy and it shuts down and entire automobile factory that is highly automated. That factory shutting down then shuts down all of the other factories supplying it parts and the other small businesses in their area. These industries are already working on razor thin margins of 5% or less, but are valued at 17+ times earnings. A lot are not well capitalized and will go bankrupt, these bankruptcies cause other good well capitalized business to be under great stress. They in turn freeze hiring, slash dividends, delay future products, lay off employees. Rinse and repeat over all kinds of industries. You want to take a cruise right now? How about all these people who financed purchases of Airbnb rentals at elevated market prices, and for 6 months to a year will see half the traffic and have to be pulling money out of their pockets to keep them.

            Not saying all of this is assured to happen, but this world is now so interconnected that shutting down the economy doesn’t take as much of a disruption as you think. After all this doom and gloom though I do believe this will pass, I don’t currently believe it will kill millions, but I’m not discounting the possibility because I’m seeing it in my consulting gig now with suppliers in pretty much every industry. Sadly, this could solve the social security underfunding issue though.

              1. Karl’s comment reminded me of something that I read years ago “In the factory of the future you will have only a man and a dog. The man is there to feed the dog. The dog is there to bite the man if he messes with the machinery.”

                1. Ha, that’s a good one. It will eventually got to that.
                  If you compare how things worked during the Spanish Flu, how cramped and unhygenical life was 100 years ago. So, hopefully, the spread of the Wuhan Virus will have spred than the Spanish Flu.

    2. HI GASEM (MD on FI/RE): Thanks for the in depth analysis from the medical side and also sharing what you are doing financially as a retired MD to defend your portfolio against the possible consequences. Very useful. Will appreciate if you can give us periodic updates as more information is available.

      1. Here is an excellent article from Bloomberg news:

        Good graphs and Its statements are backed up with excellent links: I particularly liked the one to Bill Gates article in New England Journal of Medicine, and to that of WHO Director General.

        Plus, since we are on Big ERNs site and ERN always uses model and formulas, here is the key formula for “the reproduction number for Covid-19, or R0. It is usually pronounced “R naught,” and the zero after the R should be rendered in subscript, but it’s a simple enough concept. An R0 of one means each person with the disease can be expected to infect one more person. If the number dips below one, the disease will peter out. If it gets much above one, the disease can spread rapidly.
        And R0 is determined by the following formula:
        Ro = b * k * d
        • the probability of infection given contact with an infectious person (b), multiplied by
        • the contact rate (k), multiplied by
        • the infectious duration (d)

        In some cases, you can shorten the infectious duration (d) with treatment. Quarantining people once you know they’re infected effectively shortens it (reduces d), too. Variables b and k, meanwhile, are clearly dependent on behavior. The probability of infection (b) is reduced by things like frequent hand-washing, replacing handshakes with fist bumps and such. The contact rate (k) is reduced by staying home. By putting much of the country on lockdown, Chinese authorities reduced the contact rate enough that Covid-19’s R0 in the country fell below one. They also incurred huge economic and social costs. Now, as China begins to go back to work, the big question is whether a less-draconian approach can keep the disease in check or whether it will just start spreading again.”

    3. Which of these issues were not true of SARS, Bird Flu, Swine Flu, and MERS? Why is this time different?

        1. MERS and SARS were epidemic not pandemic. MERS especially and SARS were actually more deadly but died out before pandemic. It’s not about comparison it’s about dealing with the row to hoe in front of you. This virus has an infectivity (R0) between 4 and 7 meaning for every case 4 to 7 people will acquire illness. Flu has infectivity of only 1.2 so trying to compare flu to COVID is like comparing a bike to a mac truck when it comes to compounding. If the R0 drops below 1 the virus tends to die out and herd immunity squelches propagation. COVID has no herd immunity so there is nothing to squelch it. The virus has a bimodal course. 80% have a mild course and 20% get extremely sick. Of the 80% they remain infective for 10 days AFTER the onset of symptoms. IE get a snotty nose, on day 3 you may feel better but a week later you are still shedding virus. That’s the latest biology. Of the 20% who are deadly sick they shed virus for longer. Those people split 2 ways. 15% need hospitalization, about 5% need ICU and 3% will likely die. ICU can last for weeks because of how this virus damages lungs. There are 100K ICU beds in this country and they run 80% occupied, meaning only 20% of the beds are available for Virus. Once the ICU beds are overwhelmed the death rate will explode. MERS and SARS have vaccine COVID does not so the only way to herd immunity is through the illness. COVID has a 3.4% death rate, flu 0.1% This means COVID is 34 times more deadly. If 60k/yr die from flu you can expect 2.04M to die from COVID. It tends to kill 50 and above but 50 and above are the intelligentsia. They are the ones with all the experience and productivity on a PL basis is based on experience. The disrupted supply chain is also an issue. The Virus will likely peak in this hemisphere then die down for a few months while it peaks in the southern hemisphere, then head back north in the fall where the peak will be bigger, and then back south. This is a kind of mixing action like dropping a drop of food color into a beaker of water. Eventually there will be uniformity of color but that takes mixing. In the mean time with each peak medical services will be overwhelmed and more of the knowledge will die. Most pandemics last 2 or 2.5 years so that’s the time horizon unless we get an effective mass produced vaccine.

          1. Curious to know your thoughts on the likelihood of a vaccine being up and running in the next year.

            Wouldn’t the “Swirling across hemispheres across multiple seasons/severe long term economic shock” scenario you are implying here basically assume as a given that we don’t get a vaccine?

            I’m a self-admitted layman, but I don’t see that scenario as being likely given the incentive and the number of companies working on this. People are already being injected with the first test run of a potential vaccine in Seattle as we speak.

            Your posts sound scary. Interested to hear your thoughts on how a vaccine would potentially enter into your equation and how the scenario would potentially adjust accordingly.

            1. Whoa, I’m not a medical doctor. I’m hopeful though that a vaccine will up and running by next year, to lessen that North-South-backto North swishing.
              A vaccine will certainly brighten the outlook a bit. But a lot of damage has been done already. I expect this to be a lot slower recovery than, say, from the 2018 Almost-Bear-Market.

    4. I agree with you. People aren’t paying attention to this and the government comparing it to seasonal flu is extremely shortsighted. What’s happening has been very obvious since the characteristics of asymptomatic transfer, the transmissibility and the morbidity and mortality has been known. We’ve never seen anything like this in modern times and have no useful frame of reference to compare it to. No one was alive in 1918 and with vaccines the effects of disease have largely not been a problem for anyone’s lifetime. I think this could be the biggest mis pricing of financial markets in history not to mention a social and economic catastrophe. I’m up 17.4% YTD. Ignore this. at your own peril.

    5. Some points to consider:

      -the total number of cases is likely not accurate, meaning there are a lot more out there (the denominator is bigger and the case fatality rate will likely go down).
      -The fatality rate outside Wuhan in China is lower than 3.4%, but I still am skeptical of their reporting
      -The fatality rate in South Korea is also lower (has a developed healthcare infrastructure, so I trust their reporting and testing more)
      -It’s too early to tell a true case fatality rate, but the unknown and uncertainty instill fear in people and markets- hence the timely post by Karl post and great comments.
      -I don’t time my health and I don’t time the markets. I continue good practices in both and commen sense.
      -Keep calm, watch it play out.

      1. A gun shot wound to the chest also will play itself out. You can stand by and calmly watch the victim bleed to death. According to you, doing nothing is a good practice. Your presumption is there is no such thing as financial death. I bet you read that on some blog written by someone who grew a mustache which of course gave him super predictive power. If you want to know what the death of an economy looks like, look at a long term chart of the Nikkei starting about 1980. Imagine 2020 = 1990 on that chart and the Nikkei is the S&P. Will it ever return? No it never returned. In 30 years, an entire generation, it never returned. The market futures have been locked at 5% limit down for the past day. The free trading ETF, not bound by the limit is down 6.3% When was the last time that happened? The market crashed in 2001 2008 and here we go again. The total dividend invested inflation adjusted return on the S&P since Dec 1999 to today is 3.6%. That’s the ACTUAL total inflation adjusted return on a 100% STOCKS portfolio over 20 years. 10 minutes till the market opens, have a good one.

        1. Great perspective. I’ve been investing since 2000, most of those you’re talking to have only seen a bull market, recency bias.

        2. Doing nothing is always an option and, oftentimes, the best option. Dec 1999 is an example of the market being supremely overvalued at a point in time. Fortunately for the vast majority of us, we did not invest all of our eggs at that moment.

          One need not consult the mustached soothsayer with super predictive powers for guidance; you, yourself, cite 2008 as an example of a steep market fall, and that was followed by a rapid market rise.

          So is this the time of financial death? Maybe. But I choose not to bet that way. Soothsayers are often proved wrong. Doing nothing is a tried and true method for (hopefully) capturing the historical CAGR of the US equities markets.

    6. Very good points, as usual.
      Even if the death rate stays low, this has the potential to do real harm. For every death, there are 100 people who are seriously sick and 1000 people who are too scared to go to work. This could do real damage to the economy.

      1. The flu has a death rate of 0.1 All I hear is how the flu claims 60K/yr. The WHO says the Virus has a death rate of 3.4% This means the Virus is 34 times more deadly (3.4/0.1). If 60K/yr die from flu how many are going to die from Virus? that would be 60K x 34 = 2.4M deaths. This means we are just at the beginning of this train wreck. It tends to kill age 50 and above. That means its going to kill all the senior business management. Business is based on profit which means productivity. It’s all about profit v loss. How productive is a business going to be if the intelligence that systematically governs the generation of productivity is dead? Do you think a 30 yo jr engineer can do what a 55 yo senior project manager can do? Do you think a nurse can do what a cardiac surgeon with 20 years experience can do? If there is no productivity because the intelligence is dead, where are we going to get “the bounce” from? The FED can only pump money, they can’t provide productivity. Granularity and clarity of thought matters.

        1. Agree. And again, the deaths are only the tip of the iceberg. For every dead there are countless others with serious symptoms or people who can;t work and have to self-quarantine. The economic impact could be larger from all the survivors.
          But I also don’t believe we can take 3.4% of the population as a fair estimate of the potential dead. The spread has already slowed in China and S. Korea. So, I definitely hope that in the rest of the world it will equally slow down.

        2. Too pessimistic. It does not kill 50+, more likely 65+ which means retired people.. “For those aged 15 to 44, the fatality rate was 0.5%, though it might have been as low as 0.1% or as high as 1.3%. For people 45 to 64, the fatality rate was also 0.5%, with a possible low of 0.2% and a possible high of 1.1%. For those over 64, it was 2.7%, with a low and high estimate of 1.5% and 4.7%.”
          Yes, it will be bad, yes it will stop factories, sport events, traveling, but no it is not going to kill off all senior management and stop the world for 10 years… Come on.. There are three kinds of people, those that over-react and paint everything too dark, world is coming to an end type. You sound like one of those.. then there are people that just shrug everything off thinking everything will return to normal next week, overly optimistic type. Not gonna happen obviously.. But then there are realists.. Yes it will be bad. How bad, how long? No one knows. Will world stop or find a solution, vaccine eventually. Yes it will. Always had, always will.. Investing is for a long term so if anything big drops are a way to deploy cash reserves, buy on margin, leverage.. Then as it goes up deleverage a bit… I like to use leverge in bear markets, then reduce to 100 % invested after big gains, then reduce to 50 % invested after crazy blow off tops like we had now..

          1. Its weird because Gasem’s comment ALMOST sound informative.

            I would actually say that a good part of them ARE informative. But then there is that other part of them, the part that goes full worst case scenario.

            And a part of you wants to go there with him. Because you’re human. And because you know that bad shit can happen and sometimes does. And maybe he’s right. Truly.

            And then there is the other part of you. That part of you that knows even the smartest of people can and will attempt to justify their decisions through very rational words. Words that sound informed, but words that also hide biases. Biases based in decisions this person has made with their money, and is attempting to rationalize with words. Words that may or may not come to pass.

            Skepticism of even very well intentioned people is warranted in moments such as these.

            1. My thoughts exactly!
              Even part of his numbers like the death percentage will probably be much lower than 3.4% even if this is what the WHO says now.
              R0 will be much lower once quarantines will be in effect.
              After the initial total quarantine we’ll probably see risk-based quarantines: local or / and for old people and younger people at risk.
              Governments will have to find the subtle point between health and economy issues.
              This will probably have a major impact on the economy and the markets.
              How a big impact.
              No one knows.
              I stick with my plan so maybe I’m biased to the upside, just as Gasem who sold everything is probably biased to the downside.

          2. For one thing, the actual evidence is that it does kill younger people, just at 1/10th the rate.

            However, they are hospitalized at the same rate!


            What this implies is that if we have a severe outbreak, and it is looking like that, it’s the unsupported death rate that matters, and if the above holds, young and old alike will start dying as soon as ventilator support availability is overwhelmed.

  12. Thanks for the great post. The way you narrated the post is good and understandable. After reading this post I learned some new things. Keep posting. Please let me know for the upcoming posts.

  13. Again, tha language style you use it too complex for me. How I wish you’d speak my language so I could understand somehting. Is it to buy or not stocks at this point? Just yes or no

      1. I did put my first tranche in Thursday afternoon, and felt sick to my stomach doing it. Probably a good thing to have a little pain, I’m hopeful I don’t get an opportunity to deploy the rest of my cash, but I’m 99% sure I’m going to have to make another gut wrenching purchase or two in the coming weeks as the markets march lower. Best case is I miss the bottom and never get the chance to deploy more cash and hundreds of thousands if not millions of human lives are not lost…fingers crossed

    1. I’ll interrupt here and hope it’s not seen as rude and presumptuos. Obviously the open short put positions going into Feb 24 and especially the past few weeks would have been challenged severely and possibly rendered a fair amount of negative p/l. A far better, and vastly more important, question is how will it work going forward… will it allow for enough positive p/l to recoup recent losses and bring the performance back in to the expected range. Of course this is not knowable but it’s worth considering that in times like these the volatility regime will be much different for a longer period (ie, higher and longer). This will allow for the vastly improved premium collections for a longer period if time while vol slowly comes in. I have been through this several times and always come out with satisfactory overall p/l. The one elevated danger in the current environment is the sawtooth shape of the market’s movement. This can introduce some whipsaw risk and I would personally, and indeed am, selling further out (4-6 weeks as opposed to front expiry weeklies). It’s also a good time to look at the effects of leverage gearing overall as staying under-allocated in low vol leaves room to get bigger in more opportunistic environments. Just my .02 if you don’t mind.

      1. Very good point. I’ve recovered almost the entire loss from 2/24. That’s much faster than I anticipated but it’s a function of extremely rich premiums and a little bit of luck, i.e., no further losses post-2/24. It did get close a few times but it always worked out in the end.
        I stuck to my strategy and didn’t try to rush it, i.e., set the puts too high. I’ve always recovered. From worse losses (8/2015 and 2/2018) and this will be no different. 🙂

    2. Made all my premiums. Highest strike today was 2450, which seemed really scary considering that the market ended at 2480 yesterday and ES futures went to 2398 overnight. But all worked out well in the end! 🙂

      1. Wow, congratulations. I thought for sure this was the week where the steamroller caught up with you.

        I have to admit your strategy seems sound then. I was idly taking a look this week at what might’ve happened if I had *bought* put options at the right times. I realized that they were very overpriced unless I bought far-out-of-the-money ones, so it seemed surprisingly difficult to take advantage of the crash that way without a huge amount of conviction. I then remembered your strategy and realized that if buying puts was this unprofitable even when I thought they would shine, then the flipside is that they’re full of juicy premium for the writer.

        It seems you had some close calls though and I wouldn’t trust my own amateur judgment to perform as well on those tricky days. I’d probably have lost my shirt to one of those r/wallstreetbets gamblers. I’ll continue to leave the premium all to you!

        1. Thanks! 🙂
          Good point. I recently had a good discussion about buying bonds + a naked Call option (equivalant to holding underlying plus protective put). And doing this very long-term (2 years to expiration). The premium is really small when the market is calm. Would have worked out very nicely.
          Buying short-term protective puts would have been excessively expensive with the VIX at 50+, even 80+.

      2. My puts were all at 2500 so I had to sleep on seven SPX puts that were already 20 points under water. I was so worried that we would get another 5% drop on the futures market over night and then another 7% circuit breaker pause five minutes into trading. If we had had another 10% down day today, I would’ve lost years of potential premium. That was the hardest $3,000 in premium I ever earned!

        This strategy takes nerves of steel and very low risk aversion. I’m feeling a little better about my Monday puts that are 610 points above strike right now.

      3. Hi Big Ern,

        At about one year since starting this strategy, I am a long way from breaking even, but I continue to fight on. I noticed that your strikes seem always to be lower than mine lately. Unfortunately, I got bitten a few days ago because of my higher strikes which resulted in a $47,000 loss (my worst yet). This was on a day that you were able to capture all your premiums because your strikes were 100 points below mine.

        I have continued to target 5 delta options after the increase in volatility and that has resulted in a huge jump in premiums. Previously, my options were pretty much always selling at $100 a piece but now they are going for 4 times as much.

        I wonder if am taking on too much risk by targeting 5 delta options right now. Perhaps I should just sell $100 premium options regardless of the delta? I would be interested to know what you think. Thanks!

        1. Yeah, 5-delta is a good starting point.
          But at 5-delta you’ll notice that the 2-day premium can also be really rich. You’ll find puts with still rich premium even below 5-delta. My guideline: target a strike roughly 2x the most recent worst daily drop below the SPX. Right now, I’d target 20% under the SPX. Still nice premiums!

          1. Hey Big Ern, been getting my feet wet and implementing this strategy. Curious if you place limit sell orders throughout the day to see if they exercise or do you wait closer to the end of the day and place the bulk of the orders without a limit?

          2. I’m a bit nervous about my 1900-1950 strikes for this Friday!

            The delta was higher than 5 on my IB app. 😮

            What strikes did you sell this time around?

                1. Ha, I have strikes between 1700 and 2025. The 1700 and 1750 I already initiated on Thursday. Good timing. The other strikes between 1925 and 2025 I sold on Friday. Unfortunately, a bit too early before the last trading hour meltdown.
                  Yeah, dicey indeed. As of this moment, the futures have clawed back a little bit and are above their -5% floor, putting the SPX open at 2225. Still 200 of breathing room. Hope this works!!! 🙂

                2. Looks like it worked out well!

                  You’re such a master at this.

                  If things keep going the way they are, will we seem premiums start to go back to normal again?

  14. I only sell these days when RMD demands it. My plan is usually to RMD it in December. That’s what my IPS says and that’s what I am doing. I will extract $X from my Vanguard Total Stock market Idx IRA account and exchange it (after deducting for taxes) into my taxable VG Total Stock market account. Selling/buying @ the same price. The article was great.

  15. Well… This bear is likely to be (yet) another data point in a study that will show that the 4% rule did not work too well for the 1999 retirement cohort.


    Because of your detailed posts on options, I have been carefully studying SPX for a year now, every MWF, rain or shine.

    When the math started to go askew (VIX increasing), I reversed the strategy.

    Because I knew what I was doing, this will be our best year ever. I owe that to you, and to your blog. Thank you so much for showing me the fundamentals. My family’s entire financial fortune has been shifted because of this knowledge, and that is not hyperbole. I am so grateful to you.

    1. Oh, wow! Thanks for the feedback. Congrats to you for getting out in time (I never recommended that, I admit) but I’m glad it worked for you. Just make sure you get a good entry poiint again! 🙂

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