February 17, 2021 | macro-economic research report

Research Report: The Road Less Travelled

BY: Richard Croft
For the record… I am an optimist! Although I prefer to think of myself as one who seeks out constructive elements in harsh realities. But that said, consider our optimist psyche as a “caveat emptor” as we review some strategies for the road less travelled, and examine the vaccination roll out, the post-COVID economic recovery, and possible ways to close the chasm that is the great political divide. And along that road, we wanted to examine SPACs as an emerging investment vehicle, which some of our in-house pools now hold.



For the record… I am an optimist! Although I prefer to think of myself as one who seeks out constructive elements in harsh realities.

But that said, consider our optimist psyche as a “caveat emptor” as we review some strategies for the road less travelled, and examine the vaccination roll out, the post-COVID economic recovery, and possible ways to close the chasm that is the great political divide. And along that road, we wanted to examine SPACs as an emerging investment vehicle, which some of our in-house pools now hold.


Currently in the U.S. and Canada, we have approved two vaccines and a third underwritten by Johnson & Johnson should be available by the end of February. That we have two successful vaccines and a third showing promise likely speaks to the success of the warp speed initiative advanced by the Trump Administration.

The subsequent roll out of the vaccines to date has not been as successful. Mind you, much of the delays have to do with re-tooling the Pfizer plant in Belgium to ramp up production, and with concerns about EU countries prioritizing domestically manufactured vaccines for use on their own population.

We also recognize concerns around COVID variants that could make the vaccines less effective. Some epidemiologists believe that recent variants from Brazil and South Africa – both of which have been discovered in North America – could reduce six-fold the effectiveness of the immune response generated Moderna vaccine. While still within the margin of efficacy for the annual flu inoculations, it is a concern.

At present the U.S. is vaccinating one million people per day. The expectation is that number could rise to 1.5 million per day within the next couple of weeks. The optimists would suggest that North America could reach herd immunity by the end of June which would be two months ahead of schedule. Herd immunity would allow a total re-opening of the North American economy and a return to some semblance of normalcy. That is our base case.

This thesis is not so far-fetched as to require rose colored glasses. Here are some comforting stats in support of the herd immunity premise. Each year the U.S. and Canada offer vaccines to reduce the effects of the seasonal flu. In the U.S., for example, between 190 million and 200 million vaccines are injected usually between November and January the following year.

The slower uptake of the COVID vaccination is the result of limited supply which will be ramped up in the coming weeks. Especially if the single-dose J&J vaccine receives FDA and Health Canada approval and gets added to the distribution network.

Another consideration is that limited supplies are being delivered to targeted groups, which creates friction within the system. Once we have inoculated the higher risk groups, authorities can turn their attention to the general population. With greater supply, which has been promised by the manufacturers over the next two months, inoculating the general population will ramp up in much the same way as the annual flu vaccines.


Let us not forget that global economies were in good shape prior to the onset of COVID. The initial economic impact was induced largely by governments to flatten the infection curve. Stay-at-home orders led to a significant jump in unemployment and an outsized impact on small to medium size businesses – carnage that rivals the Great Depression.

As we look forward, several questions come to mind. Will the aftermath be as painful? Will economic activity surge once the pandemic has passed? And what about the recovery timeline?

As we have said before, some sectors such as business travel on airlines and the cruise industry, will be slow to recover. However, consumers have disposable income from government support programs and we think discretionary spending in restaurants and entertainment venues should bounce back quickly, once the majority of the population feels it is safe to go out again. The issue is how long before the eventual uptick in consumer spending overcomes the serious economic damage caused by the pandemic.

According to data from the St. Louis Fed, the level of real (inflation-adjusted) GDP fell 5.00% in the first quarter of 2020. In the second quarter, as lockdowns became commonplace, we experienced economic Armageddon as GDP plummeted by another 31.4%. To put these numbers into context, the largest quarterly GDP decline observed during the 2007 through 2009 Great Recession was 8.4%.

At the beginning of the pandemic few economists were able to model recovery scenarios. There was simply no precedent. As the economy bottomed, recovery scenarios were posed in varying shapes… “V”, “W”, “K” and “Z” each with shifting timelines to normalcy.

We talked about potential versions of a return to normal in our May 2020 Research report (“Shape of the Recovery”). In that report our baseline scenario was a “W” shape recovery which implied a rise in economic activity with setbacks in the fourth quarter of 2020 and into the first quarter of 2021.

For the overall economy, the “W” recovery has played out as expected. Although, interestingly, it is the “K” shaped recovery that has garnered the largest following. The difference between a “W” and a “K” is semantics. The “K” assumes that some sectors will recover quickly while others will be subjected to a much slower uptake. The “W” shape reflects the performance of GDP without scrutinizing the underlying sectors. In that sense we are currently seeing an uptick in GDP after stalling during lockdowns intent on smothering the second wave.

What we know is that, barring major improvements in COVID treatment (which would make the disease less dangerous), only a vaccine can allow economic activity to return to the pre-pandemic baseline. During the vaccination ramp up, re-opening protocols will be managed in much the same way as one powers a dimmer switch. Always mindful that at any moment, lockdowns could be reinstated.


COVID-19 and government mitigation efforts inflicted a self-induced coma on global economies, and the resulting fallout will range from catastrophic to minimal depending on what sector is being examined. To that point we believe damages can be aligned across the following four broad categories.

Consumer Behavior: Rising unemployment means a decrease in savings and an increase in borrowing. The ripple effect plays out as missed mortgage and / or rent payments lead to a decline in credit ratings and uncertainty about the future becomes exacerbated as borrowing costs encroach on consumers’ discretionary spending. The bottom line… even during the re-opening phase, consumers may not have the wherewithal to spend.

On the positive side, governments moderated the economic downfall through various income support programs. Broadly speaking, savings rates have ticked up and consumer debt to equity ratios have declined. We can see this in the excess capital ratios at the big five Canadian banks. As such, we think consumers are more robust than is generally believed and while consumer apathy risks exist, they reside on the margin.

Provincial / State and Municipal Finances: While Federal governments have access to central banks that can print money to finance deficit spending, provincial / state and municipal governments walk a finer line that requires a more balanced budget strategy. Revenue from the sales, personal income and property taxes have slowed as GDP contracted.

It took ten years for provincial / state and municipal governments to rebound to pre-recession levels after the 2007 through 2009 Great Recession, and the concern now is that these segments of bureaucracy could slow an economic recovery through future spending cuts and tax increases.

Small Businesses Impairment: It takes money and an abundance of sweat equity to open and manage a small business. Finding good employees, establishing lines of credit, setting in motion marketing strategies, and overseeing capital expenditures, all are costly and time consuming. When a small business is shuttered by government decree, the costs and time associated with re-starting can be substantial. Not to mention concern that businesses could be shut down again as new variants emerge. If we see a slow or halting re-start among small businesses, that will have an impact on GDP growth.

Rebuilding Human Capital: We define human capital as the relationship between employees and employers. We attach a value to human capital through regression algorithms that measure the relationship between the employees’ acquisition of firm-specific skills relative to the increased efficiencies that accrue to the company.

Workers who have been unemployed for prolonged periods tend to seek out other employment and may not be available until the economy re-opens. That lost human capital is not easily replaced and, when taken across a broad swath of small businesses, can slow the recovery.

The shape and veracity of the recovery will ebb and flow as the virus mutates. That uncertainty will raise or lower the temperature on the above-mentioned impediments but should not short circuit the overall economic recovery. Our view is that the “W” shape broad recovery remains intact. We believe we are on the second leg of that recovery which should continue through the remainder of 2021. Once the industrialized world has attained herd immunity, there will be a major push in the poorer countries to ramp up vaccinations.

No one suggests there will not be bumps along the way, but overall, we believe our thesis is intact and will unfold largely as envisioned.


At the time of writing, former President Donald Trump survived a second impeachment process. The U.S. Senate required 67 votes to convict Mr. Trump but only seven Republican Senators along with all 50 Democrats voted to convict. That does not exonerate Mr. Trump, as Senator Mitch McConnell was quick to point out: “There is no question that President Trump is practically and morally responsible for provoking the events of that day,” and he also noted that the former President may now be subject to criminal prosecution. Senator McConnell then voted to acquit!

The challenge is that Mr. Trump will be emboldened by the failure of his second impeachment and will likely double down on his Make America Great Again mantra. That strategy may have longer-term implications for the economy. Political division – either within or outside party lines – does not impinge our base case over the next two years. But it serves as a reminder that financial markets never go straight up and are subjected to corrections that most of us do not see coming.

We suspect that Trump-style disruptions will continue to foster discontent among his base, and Republicans will continue to function as a party firmly in his grip. Whether this alliance of convenience remains resolute will largely depend on Republicans’ success or failure during the next election cycle.

The upside is that a more normal economic environment with low unemployment will push discontent to the back burner. Especially if the Democrats can avoid shooting both themselves and the economy in the foot. For the next twenty-four months we doubt the Democrats will engage in any major socialist endeavors aside from developing green energy policies to manage climate change. If they can contain themselves to that, which is not at all a certainty, it may move the U.S. closer to bridging the great divide.


SPACs have been making headlines as of late and we wanted to end this Research Update with a bit of primer. SPAC is the acronym for “Special Purpose Acquisition Company.”  These are publicly traded entities that have no operations, no assets – other than a war chest of cash – and one stated business plan, which is eventually to buy another company. Not much of an investment thesis when viewing it in those terms.

SPACs are typically formed by a group of managers called sponsors. The sponsors generally have expertise in a particular industry or sector. They raise funds from other investors, and use the money to acquire an existing, privately held company — and then take it public in an IPO. Think of it as a high-stakes version of Shark Tank. Only in this game, the SPAC sharks are seeking out new ventures rather than new ventures seeking out the SPAC sharks.

The value proposition is that SPACs provide a platform where individual investors can play the role of the venture capitalist, riding the coattails of successful sponsors who make early-stage investments in private companies, nurturing them through puberty and eventually providing an exit strategy with an initial public offering (IPO).

In 2020 SPAC issuance intensified with 127 SPAC IPOs totaling nearly U.S. $385 billion. Well above 2019 numbers, which included 59 issuances totaling U.S. $230.5 billion. We believe that the COVID-19 pandemic was a factor in the 2020 surge of new SPAC IPOs. That does not diminish their value as an investment and portfolio diversifier. Since SPACs focus on private equity investments, they are excellent diversifiers during periods of market turbulence. SPACs simply do better during market declines because private equity investments are not subjected to daily mark-to-market values.

SPACs have captured nearly U.S. $2 trillion in new investments from retail and institutional investors. Their popularity can be traced to name recognition of sponsors (i.e., entrepreneurs and hedge-fund managers like Bill Ackman), celebrity investors (Richard Branson, Michael Jordan), mutual fund companies like Fidelity and T. Rowe Price, and investment banks like Morgan Stanley, Credit Suisse, and Goldman Sachs.

For new businesses considering the IPO route, SPACs offer an interesting alternative. A typical IPO requires multi-page disclosures through a prospectus filing, multiple roadshows to showcase a company to prospective institutional investors and setting a release date on which success or failure will partially hinge on whether stocks are up or down on that day.

SPACs streamline the process with a cash infusion and mentorship from a single investor, and simplified disclosure requirements. Rather than multiple legal parties negotiating with issuers and underwriters at the same time, the SPAC is usually the only party at the table with the issuer. Deals can simply move faster and more efficiently.


Investing in a new SPAC can be difficult. Usually the major hedge funds, mutual funds, and other deep-pocketed institutional investors get first dibs at a new SPAC offering. That is not necessarily a bad thing. Early SPAC investors typically do not know how the sponsor will spend the money. In fact, many sponsors do not have a specific target in mind, which means that the initial investors are relying on the sponsors’ reputation in the hope of realizing a good investment.

Some SPACs raise funds through their own IPO and as such are listed on a major exchange. That does not mean the listed SPACs have a target company in mind or are simply looking for potential deals; a process that can take as long as two years to consummate. If the SPAC cannot find a good deal, it is liquidated and the money, presumably, is returned to the shareholders.

These risks are what make SPACs vulnerable and why investors should limit their portfolio exposure to 10% or less. The potential is that a SPAC will acquire a company with solid upside, take it public, and the SPACs share price will skyrocket. At this point, investors can cash out, or hold on for longer-term gains.


When investing in a SPAC you are buying into a blind investment trust. Having no idea who the target company is or whether one is even on the radar, makes any offering impossible to evaluate.

The period between your initial investment and the sponsor’s deployment of capital to a target company can be long. Your initial investment could sit idle for up to two years in an escrow account. If there is no acquisition, your funds are returned, but idling capital for that long may be painful.

The historical performance of SPACs is mixed. A July 2020 study by Goldman Sachs analyzed performance of 56 SPACs — primarily in the technology, industrials, energy, and financial segments — that “merged” with their target companies beginning in January 2018.

During the one- to three-month period following the acquisition, the average SPAC outperformed the S&P 500 by 1% and 11% respectively. Longer term – after the three-, six- and twelve-month intervals – the average SPAC underperformed the S&P 500. At best this analysis is anecdotal given the disruptive biases related to the pandemic.


SPACs invest in up-and-coming industries such as tech or consumer discretionary. Rather than taking a shot in the dark on a tech startup, which is not likely to be available, SPAC investors can access the sponsor’s expertise to get in on the ground floor.

Exchange traded SPACs can be purchased by individual investors. While it may be difficult to access a SPAC at the IPO price, investors can usually buy in the secondary market at a price close to the IPO offering.

In the end, when used selectively, successful SPACs are excellent portfolio diversifiers. They play the role of private equity, which is how large pension funds diversify their holdings. And for smaller, private portfolios, they can be relatively inexpensive in that they can generally be purchased for less than U.S. $50 per share.

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Richard Croft, Chairman & CIO

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