What is new in this crisis ? The role of science. — Part 2: Interview with Philip Schnedler, Managing Director at Spinoza Capital
Political leaders will have to make decisions based on sharp minds from the life sciences, economics and ethics
After a month of never-before seen events, we are attempting to sort out the current situation for the btov community and ourselves. As a learning organization and investment platform we count ourselves lucky to have access to a strong combined “Investment Intelligence” across many generations within the btov network. We have spoken to one person in particular and would like to share his insights with you.
Florian Schweitzer: Philip, we founded btov together with other friends from university almost exactly 20 years ago. We finalized the business plan on April 4, 2000 — basically at the same time as the dotcom bubble burst. This was supposedly a very inopportune time, but at the end of the day it was a huge chance — and our luck, because it was a time when it was possible for students to receive VC funding. A few years before or after, that would not have been possible. When we repositioned our business after a year, you wrote a dissertation with Prof. Spremann that dealt with the question of when, based on quantitative models, an investor should switch between the equity and bond markets. After the btov experience you were assistant to Joe Ackermann for three years, then worked for Goldman Sachs and have been investing at Spinoza Capital for seven years now.
If you compare the current crisis with the bursting of the dotcom bubble — what is different from your point of view?
Philip Schnedler: The dotcom bubble was caused by a massive overvaluation of stocks, especially in the tech sector. The bubble burst when investors realized that companies in the “new economy” were unable to deliver on their high promises of growth and profits. The current crisis is different: the corona virus is an exogenous shock. Medical and political measures lead to an abrupt, massive supply and demand shock in the real economy. Certain industries such as aviation, hotels, tourism, concerts, restaurants, retail trade are reduced to almost zero in a very short time. Manufacturing and industrial production also suffer massively. Goldman Sachs expects the global economy to slump by 25% in the second quarter of this year. The shock of the real economy has spread to financial markets in no time at all. Global stock markets have collapsed at record speed. In addition, there are massive distortions in bond markets. The uncertainty among investors and among the population as a whole is extremely high.
Florian: Where does this uncertainty come from?
Philip: There are several factors. Unlike the dot-com crisis and the financial and economic crisis of 2008/2009, the corona crisis requires virologists and doctors, economists and politicians to make decisions together to find the best way out of the crisis. This is not easy, especially since scientific opinions are often ambiguous. On the other hand, the data situation in many countries is alarmingly lacking in transparency. “Big Data” and “data science” have been widely discussed in society in the past years — but now that we all urgently need reliable data, society is largely in the dark. How can we explain the fact that Italy currently has about twice as many confirmed corona cases as Germany, but almost 40 times more deaths? It is reasonable to assume that this is partly due to the different number of tests carried out in the two countries. So what do statistics say about mortality? As long as we do not know how many tests are carried out per day, the numbers of new cases reported daily are also of very limited value. The new case numbers are too much dependent on how many tests are actually carried out per day and according to which criteria tests are carried out. This is where health authorities urgently need to do better. The third and perhaps most important point is the concern that the consequences of fighting the virus could be worse than the consequences of the virus itself. Politicians are currently outdoing each other in terms of who has the most drastic sanctions, who has the biggest emergency package. The social and economic follow-on costs are hardly ever discussed.
Florian: Let’s get back to the effects on the financial markets. What was surprising for you in recent weeks with regard to the relationship between the bond and equity markets?
Philip: The interest rate level plays a very important role here. In Europe and Japan interest rates are negative, in the USA they are around 1% (for 10-year government bonds in each case). This is a fundamental difference to the last two crises: When the dot-com bubble burst in 2000, interest rates in the USA were 6% and in Germany over 5%; when the financial crisis broke out in 2008/9, they were 5% and 4% respectively. Why is this relevant? In the last two crises there was an attractive alternative for equity investors who wanted to get out of equities: government bonds with robust interest rates of 4% and 6% respectively. The situation today is different: those who want to get out of equities quickly ask themselves which asset class they should enter. Into a government bond with negative interest rates? An investment where I already know today that I will get less money back in ten years. The central banks’ low interest rate policy in recent years has meant that bonds no longer function as a hedge in times of crisis. As a result, equity and bond markets have fallen in tandem in the current crisis. This was different in recent crises.
Florian: How did the bond markets cope with this sell-off?
Philip: Bond markets are much less liquid than stock markets. This trend has been reinforced in recent years by the stricter capital requirements imposed on banks. This has led to massive distortions in bond markets in recent days, especially for corporate bonds. In other words: In a dried-up market, there were too many sellers and virtually no buyers. As a result, some of the largest global bond ETFs traded at significant discounts to their net asset value, the bid-ask spreads for bonds jumped by a factor of ten in some cases, and individual money market funds had to be supported with liquidity injections from banks. In the end, the ECB and the US Federal Reserve stepped in and massively expanded their bond purchase programs.
Florian: … which leads you to what opportunities?
Philip: Bonds of companies with high credit ratings have seen setbacks of 20–25% in some cases in the last few days, which in individual cases is almost equivalent to the price declines of the shares of these companies. This is an enormous dislocation, which makes no sense in this way. The main reason for this is probably technical factors, i.e. the dried-up liquidity in the bond market. This creates interesting opportunities. Of course, much will depend on how quickly the corona situation can be contained and political sanctions can be reduced. We do not have much time here.
Florian: As a politician, where would you invest money now? What would be your priorities?
Philip: In my opinion, a calm, well-considered risk assessment is necessary. The priorities should be:
- Rapid and significant increase in the number of tests performed. If we do not know who has the virus, where it is and how widespread it is, we will not be able to combat it in a targeted manner.
- Massive increase in intensive care capacities (medical staff, intensive care beds, ventilators, protective suits, etc.) and research budgets for effective drugs and vaccines
- Special protection for the elderly and vulnerable risk groups, as proposed by Prof. Rümelin (keyword: cocooning)
At the same time, the younger population should be allowed to work again and the economy should be opened up and boosted as quickly as possible. And structured in such a way that the risk of infection continues to be controlled, as has been successful in Korea and Taiwan, for example. In addition, the following must apply: Anyone who tests positive or shows symptoms goes directly into self quarantine. And, of course, this crisis is also a great opportunity to digitize healthcare systems nationally and internationally, to improve networking across countries and to fully develop progress in the field of “data science” in this vital area as well.
Florian: Thank you very much for our discussion, Philip, and for providing this layer of market understanding for our readers in these difficult times.
Please also read part 1 of this series here, where we share our view of the current situation — focussing on the venture capital and startup industry from the perspective of the btov community.
