March ’20

The BAN Report: Washington to the Rescue / Ben’s View / Why Whitney Tilson’s Optimistic / Remote Working Tipping Point? / Class Warfare in the Hamptons-3/26/20

Washington to the Rescue

Just a couple weeks into this severe recession, Washington has already responded with a massive $2 trillion stimulus / relief bill, entitled as the “Coronavirus Aid, Relief, and Economic Security Act” or the “CARES Act.”   Washington’s actions are akin to an insurance company paying out a total loss claim on your house before the hurricane has even hit.   No one is certain how much these companies need yet, but the current fashion is to throw a lot of money at the problem fast, as one of the lessons from the Great Recession is policymakers did not act fast enough.   So, what’s in this $2.2 trillion package?   We are going to focus on what’s relevant to our audience, the provisions related to business, credit, banking and small business.

It should be noted that this is a highly complex piece of legislation and we may have misinterpreted some of the key provisions.   The relevant agencies will soon be publishing rules, which should provide more clarity on many points.    Attached is the complete bill, as passed by the Senate.   It is not yet law, but the House is expected to approve it this week, so it can become law shortly thereafter.   We encourage you to review the final text which is attached.

SBA 7(a) and Paycheck Protection Program

As part of the 100% guarantee on SBA 7(a) loans, during the covered period of February 15, 2020 to June 30, 2020, payment protection loans can be made based on a formula of the average total monthly payments to payroll costs multiplied by 2.5.   Money can be used essentially for payroll, benefits, interest on mortgages, rent, and utilities.

These loans are non-recourse and unsecured.   I am not aware of the SBA ever allowing a loan on a non-recourse basis.    Additional there are no SBA fees and no credit elsewhere test.   Additionally, the loans can be forgiven.   Rates cannot exceed 4%.  And these loans will have zero percent risk-weighting for risk-based capital requirements.   Additionally, the lender gets reimbursed for making these loans on a sliding scale of 5 to 1 %.

There is $349MM in lending authority for 7(a) for this year.   To put that in perspective, both 7(a) and 504 for last fiscal year was $28 billion.     Additionally, the Express loan limit raised from $250K to $1MM.

Corporate Relief

The CARES Act provides up to $500 billion for loans, loan guarantees, and other investments, as designated by the Secretary of the Treasury.    Ultimately, subject to strict Congressional oversight, the Secretary of Treasury has broad authority to cut deals with the impacted industries, so the generosity of this provision will be regulatory, not statutory.

Almost all businesses, states, and municipalities are eligible.    It does state that no more than $25 billion for the airlines, $4 billion for cargo air carriers, and $17 billion to businesses involved in national security (Boeing?).     Additionally, the airlines and cargo air carriers get grants to pay their workers through September and relief from aviation excise taxes.

These loans or loan guarantees must be based on market rates.   Recipients can’t repurchase stock for at least 12 months after the loan / loan guarantee is paid off or make any dividends.   They must keep their employment levels at least 90% as of March 24, 2020.   It also forbids loan forgiveness.    There are limits on total compensation of any officer of employee (capped at $425K) in aviation.   Treasury can receive warrants, options, preferred stock, debt securities, notes or other financial instruments for providing this financial assistance.

All of these loans will be overseen by a 5-member Oversight Commission.    Except a high level of scrutiny on all of the deals made by Treasury.

Banks and Credit

One of the biggest wins for banks is TDR relief.   Banks are often reluctant to make concessions to borrowers and be forced to re-classify these loans as TDRs, which are usually added into the bucket of classified assets by banking analysts.    For loan modifications related to COVID-19, they would not be treated as TDRs for the term of the modification.   This doesn’t apply if COVID-19 was not the cause but shouldn’t be hard to argue that any TDR was due to COVID-19.

Community banks get a leverage ratio of 8% until either the national emergency ends or December 31, 2020.   Moreover, they can optionally get relief from CECL, but it’s only in the short run, so this does little.

Borrowers get some relief from credit reporting during the period between January 31 and the end of July for delinquencies related to COVID-19.

There is a foreclosure moratorium for 1-4 loans guaranteed by a federal Agency or originated and sold to the GSEs.   Forbearance must be granted for 180 days, with a second 180-day borrower option with no fees, penalties, or default interest.

For multi-family loans backed by GSEs, there is an initial forbearance for 30 days with two additional 30-day periods.   During this period, the landlord can’t evict or initiate an eviction, or charge any late fees or penalties

Finally, payments of principal are suspended on student loans (those held by the Department of Education) through September 30, 2020, and interest does not accrue.

Overall, few can argue that Washington has responded aggressively to the current crisis, and it was good to see our government functioning on a bi-partisan basis.     The CARES Act passed the Senate 96-0, and the absentee votes were Senators under quarantine.   The House is expected to pass it by voice vote on Friday.

Ben’s View

We think highly of Ben Bernanke’s opinion of economic crises, and he made some predictions this week regarding the immediate impact on the US economy.    As we argued last week, he predicts a short and sharp recession, followed by a strong rebound.

“It is possible there’s going to be a very sharp, short, I hope short, recession in the next quarter because everything is shutting down of course,” he said on “Squawk Box.”

“If there’s not too much damage done to the workforce, to the businesses during the shutdown period, however long that may be, then we could see a fairly quick rebound.”

While he guided the Fed through the financial crisis and accompanying Great Recession and is recognized authority on the Great Depression, he said the current situation bears only minor resemblance to those two periods.

“This is a very different animal from the Great Depression” which he said “came from human problems, monetary and financial shocks. This is has some of the same feel, some of the feel of panic, some of the feel of volatility that you’re talking about. It’s much closer to a major snowstorm or a natural disaster than a classic 1930′s-style depression.”

In fact, he said, the current situation is almost the opposite of the financial crisis, where problems in the banking system infected the broader economy. This time, issues in the broader economy brought on by the coronavirus are infecting the banks.

He stressed the important of getting the coronavirus itself under control so that policy can do its work.

“Nothing is going to work, the Fed is not going help, fiscal policy is not going to help if we don’t get the public health right, if we don’t solve the problem of the virus, of the infection, so making sure that the risk has declined sufficiently before put people back in the line of fire,” Bernanke said.

“So I think the public health is the most important one,” he added. “If we can get that straight, then we know how to get the economy working again. Monetary and fiscal policy can do their thing and we won’t have anything like the extended downturn we saw even, I don’t think, in the Great Recession, much less the Great Depression of the ’30s.”

The prescription for the sick US economy is fairly simple – first, halt the virus, and then throw a lot of money at the economy.    While we do think governments should re-think some aspects of the highly restrictive “stay at home” orders, we shouldn’t be re-opening the economy until we get this virus under control.

Why Whitney Tilson’s Optimistic

Whitney Tilson, who ran multiple hedge funds for nearly two decades and now publishes a number of investment newsletters, writes a free daily email on the markets, which I always enjoy reading. He’s been doing a lot of work on the Coronavirus crisis and has come to the conclusion that many market participants are mis-interpreted the data and making predictions that are overly pessimistic.  Most notably, he argues that the delay between when someone has symptoms, and when they actually get tested creates a more dramatic jump in reported cases.   Consider what happened in China’s Hubei providence, which includes Wuhan.

On average, there was a 12-day difference between these two dates, which reflects two things: first, most people don’t rush to get tested the day they first start having symptoms like a mild sore throat, cough, and fever. Most probably figure it’s just a regular cold, so they don’t seek treatment – much less get tested – until they’re really feeling lousy a week or two later. Then, compounding the delay, there were testing delays in China, just like we’re seeing here.

Now look at what happened: the number of infected people – the gray bars – rose rapidly, about 10 times, from 250 to 2,500 – in only nine days from January 14 to January 23. That’s when the Chinese government did an about-face and implemented an extreme lockdown of the entire province.

And it worked – immediately! As you can see, the number of newly infected people only rose slightly the next day to about 2,750, was flat for another three days, and then steadily dropped for the next two weeks to almost zero.

But nobody could see this. Instead, people could only see the number of reported new cases – the orange bars. Looking at them, one would no doubt be convinced (wrongly!) that the lockdown wasn’t working because this number was skyrocketing.

Whereas the actual number of new cases peaked almost immediately after the lockdown, the peak in the reported number of new cases didn’t occur for another 12 days!

In summary, as soon as China locked down Hubei province, the growth of actual new cases plateaued and started to fall within days, dropping to almost zero within two weeks.   

He argues that we are more similar to Germany than say Italy, with respect to our health care system, the age of our population, and our population density.    We’ve gotten permission to share his recent report and we encourage you to read it.    Thank you, Whitney!

Whitney Tilson is the founder and CEO of Empire Financial Research, as well as the editor of the Empire Investment Report and Empire Stock Investor.    If you would like to receive his free daily investing e-mail, click here.   If you wish to subscribe to his coronavirus e-mail list, simply send a blank e-mail to: cv-subscribe@mailer.kasecapital.com.

Remote Working Tipping Point?

As we stated last week, employers are doing a massive experiment on working from home.    While time will tell on the effectiveness of remote working, many believe that this crisis will accelerate the trend for companies to allow workers to work remotely.

“The coronavirus is going to be a tipping point. We plodded along at about 10% growth a year for the last 10 years, but I foresee that this is going to really accelerate the trend,” Kate Lister, president of Global Workplace Analytics, told CNBC.

Gallup’s State of the American Workplace 2017 study found that 43% of employees work remotely with some frequency. Research indicates that in a five-day workweek, working remotely for two to three days is the most productive. That gives the employee two to three days of meetings, collaboration and interaction, with the opportunity to just focus on the work for the other half of the week.

“I don’t think we’ll go back to the same way we used to operate,” Jennifer Christie, chief HR officer at Twitter, told CNBC. “I really don’t.”

Certainly, it will be better when homes aren’t filled to capacity.   And, there are issues in communities with poor broadband distribution.   Some workers do not have access at all, and it would severely disadvantage those workers.   But we think this is a post-Corona trend.

Class Warfare in the Hamptons

Many wealthy people are fleeing dense cities like New York City for resort towns in order to ride out the “stay at home orders.”    In the Hamptons, it is getting especially tense, as the locals resent the influx of outsiders so early in the year.

The year-round residents, the locals who serve and clean and landscape for the super-rich in the summertime — and put up with all manner of entitlement and terrible behavior in exchange for good money — are silent no more.

“There’s not a vegetable to be found in this town right now,” says one resident of Springs, a working-class pocket of East Hampton. “It’s these elitist people who think they don’t have to follow the rules.”

It’s not just the drastic food shortage out here. Every aspect of life, most crucially medical care, is under strain from the sudden influx of rich Manhattanites panic-fleeing, bringing along their disdain and disregard for the little people — and in some cases, knowingly bringing coronavirus.

“We’re at the end of Long Island, the tip, and waves of people are bringing this s–t,” says lifelong Montauker James Katsipis. “We should blow up the bridges. Don’t let them in.”

The same thing is happening in England, as many Londoners are fleeing to their second homes in the countryside.    We suspect that something long-term may be going on here.    Living in a major city, especially New York and coastal cities, is about the worst place to be right now.    The movement towards urbanization and downtowns in America may be doing a complete reversal.   Already, there was evidence that the downtown movement had stalled.   But, if global pandemics are a regular phenomenon, many people may rethink if it makes sense to cluster in dense cities.

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