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The Illusion of Safety

May 4, 2020

Brown University President Christina Paxson wrote an op-ed piece for the NYT last week entitled, “College Campuses Must Reopen in the Fall.  Here’s How We Do It.”  We have two girls in college and we are all ready for them to go back to school, so this got my attention.  Dr. Paxson has a PhD in Economics from Columbia, sits on the Board of the Boston Federal Reserve, and has spent her career studying economics and public health.  Wheelhouse.  I was in. 1

“The reopening of college and university campuses in the fall should be a national priority. Institutions should develop public health plans now that build on three basic elements of controlling the spread of infection: test, trace and separate.

These plans must be based on the reality that there will be upticks or resurgences in infection until a vaccine is developed, even after we succeed in flattening the curve. We can’t simply send students home and shift to remote learning every time this happens.”

A rational thought.  How refreshing.  She went on to suggest this will be rooted in:

  1. Testing
  2. Digital spying contact tracing
  3. Isolation for those that test positive
  4. Acceptance that college life will be different for the time being

This is where our views diverged.

“Our students will have to understand that until a vaccine is developed, campus life will be different.  Traditional aspects of collegiate life — athletic competitions, concerts and yes, parties — may occur, but in much different fashions. Imagine athletics events taking place in empty stadiums, recital halls with patrons spaced rows apart and virtual social activities replacing parties.”

Wait a second.  School re-opens so you can collect full tuition and room and board, and your plan to keep our kids safe is to have extra space between rows at recitals and to convince college kids to have virtual keggers?  Getting kids back on your campus is suddenly a top priority, huh?

She’s not alone.  The North Carolina State University Chancellor said last week, “We fundamentally believe the best educational experience is a residential, fully-engaged experiential learning process,” Woodson said. “Our hope is to get back to that as quickly as we can.”  I bet you do.

Universities, with the fall semester at risk, are suddenly tripping over themselves to figure out how to make in person classes “safe.”  Reduced class sizes.  Alternating in-person attendance.  Every other seat.  “We care about your children.  They are safe here and the profit margin experience is much better than online classes.”

These measures offer the illusion of safety, not real safety.  How can a class size of 50 be “safer” than a class size of 100?  Does that really pass the sniff test?  They return to their dorms, their groups of friends, etc.  It’s binary – you either believe they should be in school or they don’t.  Anything in between is an exercise in self-deception.

Here’s the thing – I think kids should be in college in the fall, but because they are at such low risk.  In the entire state of North Carolina, do you know how many people under the age of 25 have died from covid?


I suspect there will be some eventually.  But 87% of all deaths in NC are in the 65+ crowd.  Why are we treating those two age groups the same?

We need to stop deceiving ourselves into believing that half measures of social distancing are what are keeping us safe.  Our best defense against covid is our immune system, not six feet of space.

College administrators should say, “The stats suggest the risk is acceptable.  Send your kids or don’t, that’s your choice.  But we won’t pretend that reduced class size or alternating seats is what will keep your kids safe here.  We’ll put hand sanitizer in every room to make you feel more comfortable, but just know they are probably as safe without it.”

They won’t say that of course.  But in the coming months, with their backs against the economic walls, I expect more and more leaders of all stripes to suddenly realize they have a way of keeping us safe.  Their own motives will drive that decision, not a sudden development in the fight against covid.

Dr. Paxson is a perfect case study in motives, because hers are vastly different than many other universities.  She said, “Imagine athletics events taking place in empty stadiums.”  Brown’s football program generated just $1.7mm in revenue.  All sports generated $16mm in revenue.2

Meanwhile, “At Brown undergraduate tuition will be $57,112 for the 2019-20 academic year — a 5.1 percent increase. With standard room, board and fees added, undergraduate student charges will total $73,736.”3   How convenient for her to conclude that in person classes are a must but sports can be sacrificed.  I wonder if other schools will feel the same?

You know how much the University of Texas generated in football revenue in 2018?  Over $200mm.  Same for A&M.  Ohio State.  Many others were just under $200mm.  Michigan.  Alabama.  Georgia.  Tennessee.

Among the top 50 programs in Big Five conferences, college football generates over $4B annually.  College football pays for more than 60% of all operating expenses at these schools.4  Maybe not at Brown, but for most schools.

In 2018, Penn State football media rights generated $32.45mm for the school.  That’s why so many people think college football could be played without fans in the stands – “It’s about the TV rights!” very well informed Bleacher Report reader.  But PSU actually made more from ticket revenue – $34mm.  That doesn’t include concessions or parking, just tickets.  With seven home games, that $4.85mm per game from tickets.  Total Power 5 Conference ticket revenue exceeds $1B per year.   People in seats matter.

The entire higher education profit machine system is at risk.  Dr. Paxson’s response reveals her motives.  But an op-ed by Clemson’s president might read differently.

With each passing week, leaders will be responding to their motives.  They will likely offer up solutions to keep us “safe”, but let’s carefully consider whether those measures actually keep us safe.  Or are they designed to simply make us feel safe?


Last Week This Morning

  • 10 Year Treasury tested 0.55% again before closing out at 0.61%
    • German bund down 12bps to -0.59%
  • 2 Year Treasury down a touch to 0.19%
  • LIBOR dropped to 0.30%
  • SOFR is 0.04%
  • 8mm Americans lost their job last week, bringing the 6 week total to 30mm
    • This implies an unemployment rate of nearly 22%
  • Q1 GDP came in at -4.8% vs an expected -4.0%
    • Keep in mind that this only captured the very beginning stages of the economic shutdown that began in the second half of March. Q2 is going to be much worse.
  • Q1 Personal consumption came in at -7.6% vs an expected -3.6%
  • Business fixed investment came in at -8.6%
  • The savings rate had its biggest jump since 1975
  • CBMS delinquency rates spiked in April, but will likely set an all-time high in May once more borrowers fail to make consecutive payments and qualify as “delinquent”
  • DB announced it will start paying negative rates on deposit accounts over €100k


Federal Reserve Intervention – The Illusion of Safety

At last week’s FOMC meeting, Powell committed to keeping rates at 0% for the medium-term, which he ballparked at about a year.  It will be longer.  It always is.

More importantly, Powell stands ready to continue dumping money on the economy.  We need to look no further than beleaguered Boeing to see how the Fed’s intervention is impacting markets.

On Wednesday, S&P cut Boeing to one notch above junk status.  On Thursday, Boeing issued the 6th largest investment grade bond offering ever.  In fact, Boeing initially intended to raise $10B-$15B, but investor demand was $70B.  So Boeing upsized to $25B.

Remember, this is a company that was already struggling from the 737 Max accidents.  And clearly air travel has been impacted negatively.  And then S&P cut its rating.  And then it raised $25B in an oversubscribed offering.

Boeing didn’t raise $25B because its outlook is bright.  It raised $25B because the Fed has said it will buy corporate bonds as part of its plan provide liquidity.  Investors are buying the Fed backstop, not Boeing’s outlook.

While Boeing issued bonds ranging from 3 years to 40 years, let’s consider the $4.5B 10 year bond it issued.  The coupon is 5.15%, a spread over 10T’s of about 4.50%.  If you believe there’s an implied Federal backstop, that’s a pretty spectacular return right now.   Last summer, in the midst of the 737 MAX issues, Boeing’s 10T issuance priced at a spread to 10T’s of just 0.90%.  In that context, a spread of 4.50% feels like a homerun.

It’s the same reason Italian bond yields were on top of US yields last year.  Investors weren’t buying Italian risk, they were buying an ECB guarantee.

The Fed hasn’t actually started buying investment grade corporate bonds yet, they’ve only said they would, and demand for Boeing was through the roof.

The Fed’s corporate credit facilities will provide for up to $6B per day in corporate bond buying.  The ECB started a similar program in early 2016, and some lessons were learned by investors.  BNP Paribas found that buying ahead of the central bank led to the best returns. That’s why demand for Boeing’s debt was so strong even though the Fed hasn’t actually bought a single bond yet.

In the US, BNP concludes, “Therefore, combining both the Primary and Secondary facilities at full speed together with maturities and coupons would amount to a negative net issuance of -$5.2bn/day, i.e. -$650bn in the next six months. This sharp supply drought would clearly push spreads much tighter.”

Corporate issuance, like Treasury issuance, will be net negative over the next six months because the Fed is buying up everything in sight.

Boeing spreads at 4.50% not only look great relative to the 10T, they look great relative to where they are likely trading over the next six months once the Fed is knee deep in buying mode.

Over the last decade, the Fed’s accommodation has been similar to our initial approach to coronavirus – blunt.  Rates to 0% and QE.  Some would say both approaches have been equally ineffective.

My hope is our coronavirus response moving forward will feel more targeted, like the Fed’s intervention over the last two months.  Here’s an overview of the Fed’s intervention thus far.

The Fed’s balance sheet has already ballooned to $6.6T and is headed for $10T.  Many of these programs will have multiple rounds of expansion (like QE2.0, QE3.0, etc).  This level of intervention is unprecedented.

And I agree with all of it.

The house is on fire – we can debate later whether we used too much water to put it out.  The Fed didn’t decide to shut down the economy, it is simply playing the cards it has been dealt.

The underlying risk is still there, but the Fed’s backstop provides an illusion of safety.  Unlike our response to coronavirus, however, perception of safety in markets is just as important as actual safety.  The Fed’s actions have prevented a full-blown collapse of the financial system.  We feel safe.

But at what long term cost?  Are we becoming hooked on Fed intervention?  When the Fed tried to shrink its balance sheet from $4.5T, markets started to seize up by the time it got to $3.6T.  What will happen when we try to shrink from $10T to $8T?

Will we ever be able to extricate ourselves from this intervention?  Will Boeing bonds ever price accurately in the market?  Will the government ever allow Boeing to default?

In economics, hysteresis is the idea that effects persist after the initial causes giving rise to those effects are removed.  It’s a big fancy word – I had to look it up.  Dr. Paxson probably knows it by heart.

Post financial crisis, the Fed’s bloated balance sheet persisted even though the economy recovered.  The Fed could barely raise rates.  Hysteresis.

Now we have far more intervention.  A much bigger balance sheet.  Direct asset price manipulation.

The Fed is no longer the lender of last resort, it is the lender of first resort.

When we are on the other side of this, I’m not confident we will allow the Fed to extricate itself from these policies.  We will demand low rates.  We will demand high stocks.  We will demand to be protected from default.  We will demand a bailout even after a decade of profitability (cough cough airlines).

We like the illusion of safety.  We are hooked on it.


Just like we were dealing with a $4.5T Fed balance sheet 10 years after the financial crisis, we will be dealing with a $10T Fed balance sheet in 2030.


How I Plan on Returning to the Office

We’ve been on lockdown for six weeks and the North Carolina governor is talking about re-opening to some extent on May 8th.  I’ve started to consider how we will return to the office, so I went to the NCDHHS website to wrap my arms around the real facts and risks.

Firstly, there’s been just over 11,000 confirmed cases in North Carolina. Here’s a graph showing the distribution across the age brackets.  With the exception of a couple analysts, all of our employees fall into that 25-49 year old bracket.  This age bracket actually has the most number of confirmed cases.

But as I discussed at the beginning, 87% of the 399 deaths have occurred in the 65+ year old bracket.  There have been just 15 deaths in the 25-49 year old bracket.

Even in NYC, the death per capita for the 25-49 age bracket is 10 per 100,000.  That’s 0.01%.  That’s why re-opening shouldn’t cause panic among most employees, not because I put hand sanitizer on each desk.

I know what some of you are thinking – “JP, the numbers look good because North Carolina has been on lockdown.  Don’t return to the office now!”  By now you probably know I don’t believe that.

In a WSJ opinion piece written by the founder of Cypress Semiconductor Corp, TJ Rodgers, he and his team examined the correlation between a full lock down and coronavirus deaths.  Most media and politicians would have us believe that a full lockdown is the only thing that has saved us.  But why then are some states that were late to locking down doing better than others that moved quickly?  Why is Sweden doing better than other countries?

Their findings on the connection between a full lockdown and deaths?  “The correlation coefficient was 5.5%—so low that the engineers I used to employ would have summarized it as ‘no correlation’ and moved on to find the real cause of the problem.”

In fact, they suggest that population density is a much bigger determining factor.  “Our correlation coefficient for per-capita death rates vs. the population density was 44%. That suggests New York City might have benefited from its shutdown—but blindly copying New York’s policies in places with low Covid-19 death rates, such as my native Wisconsin, doesn’t make sense.”5

I think the first step is therefore education.  Address the (ir)rational fear.

If we do that, things like keeping some distance and washing your hands are pretty common sense and easily followed.  But are those measures truly helpful?  Or do they simply provide the illusion of being helpful?  Is Florida really just better at washing hands than the rest of us?  Or is it more likely that something else is responsible and we are fooling ourselves into believing we are controlling the spread?

Here are two big items that you will probably disagree with me on:

  1. Masks – these are being treated like a precursor to a vaccine. I get stares when I go out and don’t have a mask on, but I’m not convinced masks are the failproof solution we believe they are.  “There’s been enough research done to be able to confidently say that masks wouldn’t be able to stop the spread of infection, that they would only have a small effect on transmission,” Ben Cowling said, Co-Director of the World Health Organization Collaborating Center for Infectious Diseases.  “We shouldn’t be relying on masks to help us go back to normal.”

a. If you want to wear a mask, please do. But it will not be required in my office.

b. I will not take away a mask from a medical professional who is constantly exposed to covid.

c. Risk compensation – wearing a mask leads to a false sense of security and may lead to less strict adherence to more important guidelines.

d. If I have it right now, a mask won’t help prevent me from spreading as much as not getting close to someone.

e. Our primary defense is our immune system, not a mask.

  1. Testing – this is starting to replace “flatten the curve” in the pantheon of coronavirus mythology. It would be great to have unlimited, instant testing, but that’s not reasonable.  Furthermore, the benefits are likely overstated when we consider the actual, data-based risk.  Saying “Obviously, testing is critical if we want to return to normal” has become as stock as “I hope you and your family are safe in these crazy times.”  We just say it without thinking about, but should I really avoid the office until I have unlimited testing?

a. A test telling me whether I have covid right now is overrated. Giving me a test on any given day doesn’t do much because I need to do it again the next day.  And the next day.  As do all of my employees.  Just like people hadn’t fully thought through how a lockdown would need to be in place until a vaccine was developed, people aren’t considering how testing doesn’t mean a single test, it means constant testing until you get it or until a vaccine is developed.

b. The antibody test, if accurately done, gives me the all clear. I want this one.  But that means I keep taking it periodically until I show I have the antibodies or until there’s a vaccine.  That’s a lot of tests.  And it’s not a cure.

i. As we discussed last week, there’s a chance that the number of actual cases is 50-85x higher than confirmed cases. There’s a lot of people with antibodies that don’t need to fear for their life and would really benefit from this test.

c. In the rush to address testing shortages, there will poorly designed tests that provide inaccurate results.

d. Targeted testing is more critical than blanket testing. If I’m going to hug my grandparents, I want a test right before I walk through their front door.  But do I really need a test every single day?

Masks and testing, like full quarantine, offer the illusion of safety, not real safety.  It makes us feel like we are doing something, which is better than nothing.  But what are the incremental benefits when weighed against the real risks?

In our pursuit to feel like we have control over covid, we are suggesting some logically inconsistent accommodations, such as:

  • How much safer is having classes every other day than every day?
  • Why is drive through that much safer than dining in?
  • How much safer is sitting in every other seat than every seat?
  • Empty rows on airplanes

The one that is really bothering me the most recently is the use of thermal imaging at entrances to stores or large gatherings.  It tells me if I have a fever right now, but what good does that do if I have been carrying it for a week and just haven’t developed symptoms yet?  Or if a 10 year old kid has it but isn’t the least bit sick?  These provide the illusion of safety.

I am not suggesting a reckless approach, but I would like a rational discussion around what steps are actually beneficial.  If we start looking at the data rationally, we could reasonably conclude there is no reason for schools to be closed.  We could also rationally conclude that the elderly population should be fully protected.  The rest of us fall somewhere in between that risk spectrum and should behave accordingly.

But we love to deceive ourselves.  We love the illusion of safety.  We want to believe our efforts are having a direct effect on our own survival.  “Because I wash my hands for 30 seconds instead of 10 seconds, I am safe.”

“Better to be safe than sorry,” some of you are thinking.  But is it?  If these measures don’t actually increase safety, but we require them anyway, aren’t we impeding the recovery?  Restaurants at half capacity.  Refusing to go into a retail store unless everyone has a mask on.  Movie theaters with every other seat empty.  Empty commercial flights.  Couldn’t these measures contribute to my fear, which in turn driving my economic decisions?

Our collective psyche is going to compel companies to take these measures simply to provide the illusion that we are safe in their store.  Just like it’s going to compel university administrators.  Or a Camry salesperson.

But how much incrementally safer is a healthy 25 year old in a full restaurant vs a half capacity restaurant?

There are always unintended consequences for better safe than sorry.

We are so accustomed to controlling everything around us we have forgotten what it is like to have no control.  Coronovirus is going to run its course and it will be our immune systems that protects most of us, not sitting in every other airplane seat.  I suspect we still have modified behavior long after coronavirus has been put behind us.  Hysteresis.

And our collective psyche will demand the Fed provide the illusion of safety long after the economy has begun to recover.  I agree with the Fed’s bailout, but I doubt we’ll allow them to return to normal.

We just love the illusion of safety too much.





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