As of this week (1) , almost two months after the first reported cases of coronavirus, there have been around 94,000 confirmed infections and 3,219 deaths worldwide. People are understandably worried but, bearing in mind that most infected people (those with mild symptoms, which accounts for around ~80% of estimated cases) are not accounted for in these numbers, the “effective fatality rate” appears to be a much smaller ~0.7%. Without intending to belittle the real-life consequences for the many people infected with coronavirus, the fact is that the number that have died from it thus far is well below the hundreds of thousands that are estimated t die globally from flu each year.
As fears of a global pandemic mounted, global equities experienced their worst week since the global financial crisis in 2008 and experienced their fastest decline in history. The MSCI World Index was down over 13% from its highs in USD terms, and the S&P 500 (US equities) Index fall approached 15%, with most other markets experiencing similar or larger falls. At the time of writing though the MSCI World is up over 7% since Friday’s intraday lows, with the S&P 500 up almost 10%. The yield on 10-year Treasury Bonds has also fallen to new all-time lows, below 1%.
The selloff in markets is a rational reaction to the growing downside risk to economies and corporate profits as a result of the coronavirus, although the pace of declines last week suggest a degree of panic had set in with more indiscriminate selling. We know that global supply chains have already been disrupted due to the China shutdown, while the services sector has also been hit by a sharp slowdown in travel and other activity. Real economies are suffering too. In an effort to reduce contagion, many countries have been restricting travel, cancelling large public events, suspending public transportation and quarantining people. The predictable effects of such measures have been a short-term decline in economic activity with a deterioration in consumption, growth and investor sentiment. Now that the virus has reached most corners of the developed world and is likely to spread quickly, the level of uncertainty has increased materially.
Looking forward, we believe there are two scenarios likely to take place. In the more negative scenario, infections increase in western countries and economies hit the brakes further to prevent contagion. Here, a synchronised global slowdown taking place in an already weak, mature business cycle could increase recessionary fears and spark a further sell-off. In a more positive scenario, western economies take advantage of the lead time and cope better with the outbreak with minimal economic disruption. Also, as China restarts its operations and global governments and central banks plan for fiscal and monetary stimulus, economies recover faster than expected and oversold financial markets reprice as a consequence. There is elevated uncertainty today and it is not easy to evaluate which outcome will play out, nor what is priced into current market valuations, but we are currently leaning towards the latter scenario.
Central bank action this week – not least the Federal Reserve’s 0.5% interest rate cut in the US on 3rd March, the first ‘emergency cut’ since 2008 - is intended to stabilise markets, but the post cut reaction shows they remain volatile.
The best reference we have for how this might progress from here is China, given the virus has been present there for many weeks more than elsewhere. What’s been observed in the last few days is a slowdown in the rate of spread of the virus while businesses have started returning to normal levels of activity. This suggests the worst may have passed there and is a positive sign, albeit early and uncertain, for the rest of the world. If this becomes the template for how the virus develops across the rest of the world, then the potential for a V-shaped recovery in markets increases.
Although it is concerning to see such sharp falls in markets, the diversified, multi-asset nature of our Funds and Portfolios mean that they’ve held up better than equity markets and other strategies with higher equity allocations. In particular, allocations to Treasuries, hard currency emerging market debt, gold and alternatives have performed well and mostly delivered outright gains over the past week. However, the fall in the gold price recently highlights the need for a blend of different defensive strategies in portfolios, rather than concentrating in any one area.
So, how have we responded? We rebalanced our equity allocations to a meaningful extent across all our Funds and Portfolios on Friday 28th February and Monday 2nd March (i.e. buying equities). In such a volatile environment, a diversified portfolio is the most efficient way to achieve your long-term investment outcomes. We believe that, at these levels, risk assets offer attractive long-term expected returns, but more volatility is likely to come. We advocate remaining invested at times like this, rather than attempting to time markets. Selling now locks in the losses and then exposes investors to the risk that they miss any eventual rebound in markets if they haven’t reinvested by that point. Market history is littered with periods where stocks sold off very sharply, but with a long-term horizon they end up being far less significant than they feel at the time.
We will continue to monitor the situation very closely and stand ready to adjust our asset allocation as we feel necessary. We will also ensure we provide regular updates to share our views on the ongoing situation with you, our investors.
(1) Sources: Bloomberg, Chinese Center for Disease Control and Prevention