IFB149: Economy Basics Pt1 – What Will Covid Affect

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Dave (00:41):

All right folks, welcome to Investing for Beginners podcast. Tonight Andrew and I have been talking, and he thought we would do it all basics of the economy. So we haven’t taught, we’ve touched a little bit on economics in the past, and we thought maybe this would be a good time considering everything that’s going on with the economy in the world that there’s going to be some dues of different things happening over the next six months to a year plus that the talking heads on the news, we’ll talk about things and it might upset people a bit. And so we thought maybe we could spend a little bit of time and talk about some of those issues and some of the things that are going on and help clear things up a little bit so that when you come across things you, it helps ease your mind a little bit. So Andrew, why don’t you go ahead and kind of start us off, and we can chat a little bit about this.

Andrew (01:29):

Yeah, sure. I think it’s very important to kind of understand the economy and the right context. Obviously, as investors, we are a big part of the economy and what the comment, what the economy does is going to affect the businesses we own, the businesses in our portfolios, and how they perform.

Andrew (01:49):

And so I think it’s very easy as an investor to get caught in our little sliver of, well I have this business, I have that business. And then you kind of take what you hear on the news, take what you hear, what you see from the different publications, and you get little snippets from it, and that’s great. But if you don’t understand the big picture and you don’t zoom out and try to get a grasp of that, I think sometimes looking at that can be more harmful than helpful. So as an example, it’s very easy for us to look. So if you’ve listened to our podcast at all, you know that I am very, very big on learning from the past and trying to understand that things move in cycles and things that happened in the past tend to happen again, sometimes in a different form.

Andrew (02:51):

So history doesn’t necessarily repeat, but it tends to rhyme. And so it’s very easy for investors to make simplified ideas and make big investment decisions out of those. And those don’t always turn out in the best way. So as an example, let’s take the housing boom and bust as an example. So back in the mid two thousand, the context up to that point was that housing always goes up because that was what every investor and person who was a homeowner knew at the time. That was reality. As we found out later, that’s not the case, and the housing market can crash. And so what I see with investors doing now with the whole coven situation, the economic uncertainties all brewing there around that is they’re taking lessons from that boss and trying to apply it to today directly. And some making decisions or predictions or projections based on what happened then all that’s got to happen now.

Andrew (04:07):

And that’s just not the case. And I’m hoping that our episode today will, will give some context into why it’s not, it’s not that simple. I mean, maybe at first it might sound kind of discouraging because it’s nice to have a general simple idea that you can apply and then it’s like, okay, well I’ll have to think about that anymore. That’s nice. But that’s not always the case where we live in a changing world. I think seeing what’s, what’s happened with the current virus and how that’s completely changed the way that everybody behaves. All of our daily habits, our daily routines, it’s just been life-changing, and we’re starting to see it now with some of the economic data. The unemployment claims were the first to explode. Now, as of today, when we’re recording this, we had some bad manufacturing data, and so that’s just going to continue. We need to, as investors understand that this is a completely different reality right now.

Andrew (05:20):

All we know as we record this, we’re still in the mandatory lockdown. And you know a lot of businesses are struggling from that, and we just don’t know when that’s going to end that we don’t know how long that’s going to take if it’s going to be an instant rebound or if it’s going to be slow and drawn out over time. And so there are a lot of implications behind that. And my big fear is for an investor who’s starting to out to maybe not recognize the perils behind that because this is true, I mean, I’ve been in the market since 2012, and I haven’t seen anything like this. Still, you have investors like Warren Buffet, who’s been in the market since 1965, and he’s saying he’s never seen anything like this. And so what we need to understand, whether you’re beginner, somebody who’s had some success, is that you can’t just take at this point because the environment has changed so much.

Andrew (06:22):

You can’t just take financial data that happened in the past, extrapolate that into the future, and feel good about your investments. I would say, you know, Dave; we were talking about this off the air a little bit. I would say in like 95 to 99% of the time of an investment, typical investment environment; you’re generally okay to look at last year’s data. And you know, not just last year was maybe the past three years, five years, different periods in the past, depending on which metrics you’re looking at. But in general, you know, taking some group of those numbers and, and it’s reasonable to say that next year, you know, we should see something similar. Maybe, there’s going to be a dip. You know, maybe there’s, there are some headwinds as they call it in the industry. Maybe there are some difficulties ahead for the business, and that’s maybe why it’s trading so cheaply.

Andrew (07:23):

But in general, you know, it’s, it’s not like what we see today where you have businesses that are losing 25 50% 75% 90% of their demand just instantly vanished. And that’s going to have huge, huge implications. And so not only does it, you know, I think it’s easy for investors to think about the obvious ones, travel, hospitality, restaurants, food service you know, there’s a, there’s a ton of others that I’m missing that are directly affected, but we also need to understand that this trickles down. It turns into this butterfly effect, and that spreads out and touches everything all around us in one way or the other. And so, you know, I don’t think it’s necessarily the most critical thing to do. Still, I think, I think it’s very beneficial as an investor if you have an understanding and a basic grasp on how all of the different crazy events that are happening around this could potentially affect the economy and at least understand why certain things happen as a result of other things. Once you start to understand that flow through and the fact that some of these things do happen in a logical sequence, I think that brings a lot of comforts. I think it makes it easier to invest and provides an of windows

Dave (08:56):

Of opportunity for great investment ideas. I think this is the very best time, Dave; we’ve talked about this is the time to value investors will make their money. But it’s not going to be, in my opinion, that’s not going to be the investors who are blindly following formulas right now. It’s going to be the ones who can intelligently make the right judgment calls, still look for stocks that are undervalued, but look for them that have the greatest potential based on what’s going on in the economy. I would agree. I think that that’s a great point, and I enjoyed, you know, you and I have talked about this over the last few days about some of the continuity of how different things are interconnected and the impact that they can have. And it’s not just about looking at the numbers and seeing that a company has a three PE right now when they normally run a 22 PE and thinking, you know, that’s how incredibly undervalued that isn’t.

Dave (09:59):

Yeah, it may be. But then it’s also on the same token with that; there is the fact that it’s also because it’s a three PE because they haven’t been able to sell anything to anybody for the last five, six, seven weeks. And you know, depending on where you are in the country, that could go longer, and that has a direct impact. And we have seen some of that just with the early signs of the earnings releases that have been done recently. And as we get farther into the earning season for the first quarter, that will be somewhat telling, but the second quarter of the earnings is going to be the complete unveiling of how impactful a lot of this has been. And remarkably the market has still gone up a little bit over the last, not this week, but the weeks before on a lot of bad news.

Dave (10:59):

And I think there is, I saw a, a feed on Twitter just recently where they’re talking about whether this is the bottom or not. And I kind of in, I think I’m in the camp of a lot of those guys. I don’t think that was the bottom. And I think we’re going to see more and I think it’s going to go lower. And I think that there’s going to be more impact because eventually some of these things that we’re talking about, they just can’t be ignored. And Disney is shutting down its parks for months at a time that is going to have an impact on other lines of the business and other parts of the business that are interrelated with that. And it’s not just about the employees that are being let go, which is a horrible thing. And those poor people having to worry about all things that everybody else is going through.

Dave (11:55):

And then you also have the suppliers that are supplying Disneyland with all their belongings, whether it’s clothing wear, whether it’s the toys that they play with, whether it’s the work, the maintenance of the equipment, whether it’s the food that is sold there, the hotels that are on the properties. I mean, there’s just so many other aspects of this. And I think that’s probably where you, and I should probably start talking a little bit about some of this. So I know you had some great ideas about some things we were talking about. So why don’t you kind of take it from there.

Andrew (12:29):

I don’t know about great ideas, but I think to continue what you were talking about, you know, you mentioned Disney, and I mentioned a couple of weeks ago about the documentary I’ve been watching. I want to mention that again. I mean, maybe for selfish interests too, since I’m a Disney shareholder, you can watch it on the Disney plus app. It’s under that geo version. Will Smith narrates it. I think it’s fascinating. They call it one strange rock. And in it, they’re describing how everything on the earth is so interconnected. And what happens in one place can affect something completely across the globe. So you’ll have sand storms in the Middle East, and those will get those sand particles will get shot up into the atmosphere, move through the clouds, drop down into the Amazon river and South America, and be used as fertilizer.

Andrew (13:29):

And then from there, you have precipitation that comes up, it gets shot up through the Amazon river. That’s not the river on the ground, but the river in the clouds, then it goes through hits. I think it’s the Andes mountains. And then as that water breaks through the rock, it releases minerals into the stream and then that goes out. And that’s just so fascinating to see how everything feeds on each other. And so I think when we look at the economy, we need to understand that it happens in a very similar, if almost exact, a similar way. There are these things that directly affect other things. And so, sometimes you might have as an example, the interest rates that went down to zero. We’ve had super-low interest rates in the past, and I think a lot of people think about again going back to what I was talking about with the mortgage crisis, the housing crisis, there was this idea in the past that we had low-interest rates and then declining interest rates.

Andrew (14:43):

Then people look at the environment now, and they say that, well, you know, housing demand’s going to dry out just like it did then. And you know, I don’t necessarily think that’s 100% true. I think it’s all, you know, it’s, it’s possible. I think it has a direct impact on housing demand, but to look at the interest rate environment and just say in this silo low-interest rates are falling interest rates mean that we are going to have a housing collapse because it happened ten years ago. It’s going to happen today. I just, I don’t think that’s the case. You know, you could have a hurricane on one side of the globe, and it causes a tsunami on the other side, but then the next time there’s a hurricane, there could be no tsunami. And so while everything’s interconnected and the economy, everything’s also ever-evolving.

Andrew (15:37):

And so I guess to hammer my point from earlier, just because something happened a certain way in the past, it doesn’t mean it’s going to happen exactly that way in the future. So if we can get ahead of the curve by understanding what’s changed, that’s the key I think, is that it’s constantly evolving, constantly changing, just like the earth is. So if we can do some logical, critical thinking on what’s different in the environment today that can help understand where the money is flowing and what parts of the economy might boom versus others compared to where it’s been in the past. So the example that I found fascinating today is that we have different commodities and commodities are for somebody who’s completely unaware of the commodity market. You have the things that are just EV; they’re used for everyday things, corn, soybeans, wheat.

Andrew (16:40):

Oil has been a super hot topic lately. All of these things, I think we presented a good intro in the archives we talked about entering the commodities. All of these things have a huge impact on the economy, and we don’t necessarily realize it all of the time. One thing that’s been interesting lately, which I’m going to be looking deeper into in the days that follow is, you know, tell me if you think this is a coincidence. Okay. We have, India suddenly has a liquidity crisis and one of the stocks I own, they have their funds which were invested in corporate bonds in India, and they’ve had the, my, my stock that owns these funds, how to close five of their funds that have a lot of capital in India because of this lack of liquidity. Now at the same time, you have rice, the rice, the commodity of rice has shot up.

Andrew (17:47):

It’s been the hottest commodity. I don’t know, compared to gold, but compared to all the other commodities, it’s had the hot, hottest rise in the past six months, if not more. So, you know, how much has that people panic buying the rise of the grocery stores, but at the same time, the biggest exporter of rice in India. Now, if we can take that one step further, and what I find most interesting is that India is also, their second-biggest export is sugar. So if they’re having problems, and I don’t know if this is true or not, like I said, this is just one example of something that’s happening around us that could make for an interesting investment opportunity in one place or the other. If India is having problems exporting their rice, then are they going to have a problem exporting their sugar? And what’s that going to do to the price of sugar? Hard to say. But I think if you start digging, you’ll find more and more answers and it could lead to some interesting developments that can help you kind of think about where some other opportunity,

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Andrew (19:15):

I think it is fascinating. So Would the sugar then affect somebody like Coca Cola or Pepsi? You know, anybody who uses sugar, so then you start to think, does that start to erode their competitive advantage compared to other non-sugar alternatives? Right. Because now if it’s a lot more expensive for them to manufacture, either their margins have to compress, or they’re going to have to raise prices. They raise prices. How many people are going to switch because they’re like, I don’t want to pay that much for a soda? Right. Yeah, exactly. I think that’s, to me, that’s what’s fascinating about this and you, you have to think beyond just the normal functions of the business and what’s going on with the company. You kind of have to think along the, I guess, supply chain of what it is that they buy. I guess it showcases reading the risk section of the 10 Ks can be beneficial during this period because it can give you an insight into what different aspects of the business are affected by other aspects of the economy around you. Have you seen what’s happened with the prices of exit? I don’t know if that’s a local thing to me, but at prices around here have shot through the roof. Just like at the grocery store. Yeah, I did. I did notice that. Yeah. I did notice that the last time I bought eggs a couple of weeks ago, I thought, wow, they’re really expensive. Why are they still expensive? That was odd.

Dave (20:48):

It caught me off guard. We were talking about beef earlier. I think that’s something that a lot of people don’t think about. The impact that it’s having on the beef industry with all the restaurants being closed. I mean you think about like, you know, my comment was hamburger. I think people are still going to buy hamburgers cause they use it for so many other things besides just a hamburger. But something like chicken wings, those are more restaurant-specific. I don’t know a lot of people that cook chicken wings at home. Maybe they do. I don’t. But there are probably a lot of people that do, but I’m sure the vast majority of them are purchased through a restaurant, and now that’s dried up. And think about the stakes. You know, the high-end steaks, I mean the restaurant that I work used to work at, the people that we bought steak from was a supplier for people like Ruth, Chris and Morton’s. And those are huge steakhouses that, you know, used a lot of steak through the come through. So with those restaurants being closed now, that backs into the beef industry and how that affects the farmers that produce beef cows and everything that goes along with that. And that backs into the grain and the feed that they give the cattle, you know, there’s just, there’s so many different chains you have to kind of think about with, with what’s going on right now.

Andrew (22:13):

I don’t want to overwhelm people and start to act like you have to have some crazy knowledge about every little aspect of the economy. But I think it’s just, it’s helpful to think about some of these things, and you just think about supply and demand. And really when you think about economics, I think at the end of the day it comes to that. So if we look at some of Warren Buffett’s investments Coca-Cola, Gillette, you know, what was, what, what are some of the commonalities between both of those companies? Well, those were about the very high in-demand brands. And so when you’re, when you’re a brand that has that kind of demand power, you can raise your price and demand will still be there because you’re not subject to being the lowest cost. People aren’t buying Coca-Cola because it’s the cheapest.

Andrew (23:11):

So they were buying it because they were huge fans of it. And so that’s a huge reason why they’ve had success. When you start to get into commodity type investments, then you need to think about those types of things. So really supply the supply of what’s in the market and then supply within an individual company itself. And then the demand, I think. I think in a lot of cases the demand thinking about demand is more important than thinking about supply for a large majority of like, let’s say the companies in the S and P 500 restaurants. I would stay away from restaurants with every, every, every inch of me would just stay away as far as I could. It’s, I mean, you were saying how you know, the social distancing is likely to continue whether that’s on an airplane in the restaurant, you know, six feet, six feet, six feet, and I can’t even imagine, you know, what the ramifications of all of this are going to be if we do have a second way of like some experts are, are predicting you know, what does that look like?

Andrew (24:29):

And then how much more are people just going to. It’s almost like do you give up, and you just accept it at some point and be like, you know, we’re never going back to the good old days. But you know, that could be a real economic reality for a large majority of the country. Yeah, it could be. And that’s, that’s, I think the thing that a can be scary, but E B also has to be discussed to, so people are aware of it and how it could impact not only their investments but also what they do for a living and how that affects the interconnecting of everything. Like you’re talking about the airlines, the restaurants, movie theaters, cruise ships, going grocery shopping, and there’s just so many different aspects of this that kind of have to be thought through. I think it’s a; it makes another sales pitch for the eight K to where these, the people who generally should know these companies the best or the management who are running them.

Andrew (25:33):

And so a lot of times they will be able to tell you, and they share. If they’re good managers, they will tell you, Hey, this is kind of what we see of the effects of this and how it’s been affecting our business so far. And they’re usually able to lay it out and you could, you should be able to get a good, a good vibe on, on whether a company is doing is performing well or not in this environment. I think, I know, you know, we can talk about the obvious fallouts from coronavirus. I think some things that also need to be considered that could be problematic or also provide opportunity. There is a chance that you know, people are talking about it now, how supply chains have been so disrupted that you know, in the future, companies need to learn from this and they really need to either diversify a supply chain or bringing it home.

Andrew (26:29):

Right? And so with that and kind of the other tensions that have been going on, look at oil and, and the, the literal kind of price Wars that are being fought around it right now. And then you look just the general ideas behind that; I wouldn’t be surprised to see less global trading now. It seems like if one thing is kind of falling out from these countries to seem to be kind of, you know, people are hunkering down in there, in their homes and, and you know, there’s a possibility country do that too. I saw a story on Bloomberg. They were talking about how migrant workers couldn’t get to a European field, and it was causing like a bunch of different grains to go the waste because these migrant workers can get over to tend to the fields. So, you know, you could see that.

Andrew (27:26):

And I think it’s something to think about too. So when you think about an economy, and you think about, you know, taking some common sense kind of, you know, how has the demand side changed? And then from there, you know, what are there going to be changes based off of what’s going on internationally too and understand how everything moves together. And you also have the different things that are happening in different countries and the trade that’s going on. And you know, whether you have tariffs, whether you have free trade, whether you have deficits or surpluses these are all factors, and nobody can predict them. You know, a lot of people want to talk like they can or want to feel better and act as they can. We don’t know what’s going to happen, but these are factors to keep in mind. And so really studying your companies at a time like this and the companies you’re going to buy, I think, you know, people talk about, they have all this time in the world now that they’re quarantined.

Andrew (28:33):

What better time to go through and do an honest gut check on every company you own and understand where they were before this situation. Understand where they sit now with, with how things have changed, and how they could look moving forward. Whether we have a recovery, that’s an instance snapback, or we have one that takes a very long time. Those are all factors too. And you know, I’m excited for the next part of our econ series here, Dave. Cause we’re going to get into that a little bit. What, when you talk about the interconnection between countries and trade currency becomes a huge thing to we’ll, we’ll save that, for next week when we talk about inflation and deflation. But, you know, these are the things that I think just getting like an elementary understanding of it can help you not freak out when you hear things like you know, Russia and Saudi have intention over, over oil prices.

Andrew (29:46):

You know for the longest time they couldn’t make a deal. They made the deal. But now, you know, oil has continued to crash. We’re, we’re going to hear more stories around the oil, and you know, if you understand some of the basics behind commodities, you know, why did the oil go negative? A lot of the people don’t understand even how commodity futures work. And so something like that’s completely foreign and scary, right? Why, you know, why, what is the fed doing? And all I hear are trillions of dollars. And does that mean that you know, inflation is going to go into hyperinflation. Like I’ve heard horror stories of Nazi Germany back in the twenties and thirties. You know, if you don’t have context on inflation and deflation and the interrelationships between the big global powers in the world, you might get kind of worried about that.

Andrew (30:42):

And so, you know, if, if, if an economic change is anything, it is the absolute last time to be I think timid or to turn your back to the markets completely. This is the time that is going to test your metal. And so if you need that shot, that confidence, then I think more knowledge is better. And understanding these basics. Kind of like when we talk about when you go back to the basics, right? We have, if you’re interested in the stock market basics, we have a back to the basic series you can listen to in the archives. If you don’t know a thing about personal finances and IRAs and 401ks, then you can go to our personal finance basics series. We did, I think we did like five episodes of that too. So all of these basics are super, super key and I think this last one that we’re going to do next is not touched on at all unless you take a class at a college and then they bore you to tears with stories about guys who were alive 300 400 years ago.

Andrew (31:48):

You know when the economic conditions have changed so much now. So I know Dave, I’m excited about this little mini-series we’re doing. Hopefully, we can shed some insight, and hopefully, you guys can learn something from it. All right, folks, we’ll, that is going to wrap up our discussion for this evening. I hope you enjoyed our conversation about the basics of economics, and we’ll touch on some inflation-deflation and some of those fun things next week, and I’ve got some other ideas for some other great things. So you guys go out there and enjoy your week. Have a great week, invest with a margin of safety, emphasis on the safety. Have a great week, and we’ll talk to you all next week.

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