Views from the frontline – 24 April 2020

It is worth remembering, that at the start of the year the thought of any recession was perhaps 2 or 3 years away. Although global growth was expected to slow, 2020 was likely to be a good year for investors. Whatever anyone’s views on the word we no longer mention, a stable government in the UK was something much needed; China and the US signed the first part of their trade deal, and almost certainly Trump was heading for a second term in the White House.

In an update from Matthews Asia they explained how this changed over four quick stages:

Stage one – the virus appeared to be contained within China (and within one province). This really ran from the end of December to the first week in February. Earnings growth for the year remained strong and equity markets and the strength of the dollar did not seem to be impacted by what was happening.

Stage two – the virus started to spread out, and countries headed into lockdown between early February and early March. Bond yields dropped heavily, the dollar weakened, and equity markets started to fall.

Stage three – 7/8 March everything changed; Matthews called this a dollar panic where the dollar strengthened, and bond yields spiked. Everything was sold off as there was a dash for cash. This was the ultimate pain of the crisis. The difference this time around was that the Fed stepped in which calmed the markets. Matthews’ view is that they do not believe we will see this again.

Stage four – reflation. We have reached this stage now, looking at the economic side, and the impact on supply and demand and then considering the winners and losers.

Per other reviews I will pick up on some of the key points from the discussions this week.

Matthews Asia (Asia Specialist Team)

Following on from how this built up, the team also outlined where the risks lie:

Another dollar panic – this would likely impact India and Indonesia most, although Japan and Australia would likely benefit
Most exposed economic impact – USA and Europe went in later and less aggressively, therefore the economic impact is likely to be felt harder in these regions compared to some Asian economies. They do not yet know the impact on India and ASEAN economies, and this is something to watch. In terms of sectors, global franchises especially automotive are at risk, there has been a big fall in demand but those that survive are likely to come out stronger
Fiscal stimulus – best packages have come from the US. China has also done well; India and Indonesia are more limited. Worst has been the Eurozone where the response has been less and not well co-ordinated

JPMorgan (Guide to the Markets Team)

In our one-to-one discussion with the team, we asked:

Will things bounce back, and are we being too pessimistic?

There are many different paths, one is the psychology aspect, and will people want to come out when the restrictions are lifted
Things will come back but it will be a gradual recovery, whether by geography or sector. They believe tourism will take longer to recover
We must remember that governments and central banks have acted and have indicated they will do whatever it takes to step in and save the day
The risk remains that markets may be too optimistic on earnings, and are therefore cautious on the rally
It is important to remember that the UK is focused on trying to protect jobs and cause minimal damage to the system, and in the US many of those out of work are expected to be re-hired. If that works then we could see a faster recovery than others. Risks are that not all jobs are taken back which could slow the recovery

Without bailouts are businesses like easy jet, Virgin, British Airways all but dead?

Policymakers have indicated that they will bail out businesses where the impact falls outside its scope. By this they mean liquidity, so if a company needs cash to get through this, the government will likely step in. However, where a business is already saddled with debt and this is a solvency crisis then government help is unlikely
Firms who have received government help are not expected to pay out dividends
One concern is that by expanding the debt on balance sheets this could shorten the next cycle, so we could head into a recession sooner this time around

Who are the winners?

Defensive and quality companies did better on the way down, and have done well on the way back up
Quality is clearly going to be a winner, those companies with strong balance sheets taking market share
There will an acceleration of existing trends around technology etc
The risk is that value gets so beaten up that there is a technical reversal

When we come out of this, what are the long-term implications?

The role of fixed income will become increasingly challenged – all G10 countries have cut rates to their lowest levels, government and central bank balance sheets are now significantly higher
They believe inflation will start to pick up; austerity was used to keep inflation low. They do not think it will happen this time (cannot use pay freeze) and therefore investors will need inflation protection
There are potential taxation issues which may target companies, and this could impact the future winners and losers within equities

Schroders (Economic Team)

The call started by highlighting that within a few weeks, 95% of staff are now working from home. This is a trend they expect to continue during this crisis.

Observations from the team include:

They feel where initially the tilt was in favour of the health of the person, this is now shifting towards the health of the economy
Data is now starting to come in on the impact of the shutdowns on the economy, which should start to paint a picture moving forward
They believe the market is priced for a U shape recovery, but that it is not the time to buy into small caps/emerging markets because economic activity will be weak for some time and these areas are likely to be most impacted

Positive signs:

On the first day of the furlough scheme over a million workers were added and there seems to have been no problems with the scheme
Although the fiscal policies have not reached all the areas they need to, there are clear signs that both the US and UK are looking at how to reach small businesses

Areas to watch:

Although the rates of inflection and death are stabilising and coming down, they are concerned about Brazil and India. They are also worried about second waves in Singapore and Japan
How does this ever get unwound, they believe the level of debt will impact the ability for economies to grow. There could be a Japan scenario where people save more, and businesses do not invest which can cause inflation to rise in the longer term. They expect central banks to push down bond yields by forcing certain institutions to hold bonds and they don’t expect interest rates to rise any time soon meaning this will continue to be a bad time for cash savers and investors in bonds.

Fidelity (Anthony Bolton)

Thoughts from Anthony Bolton who, although retired, is still on the board at Fidelity:

This is different to the financial crisis because then, there was no knowing how we get out of it; in this case we know this will end
For investors to understand this event they must become experts in coronavirus using reliable sources (learn about the virus, lockdown and how countries come out of it, medical developments etc)
This event opens great opportunities for active managers different to the financial crisis. It is not about picking any company; it is about understanding companies. Looking at how well financed they are, what are their balance sheets, what is the resilience of these companies, will they survive etc
In terms of investor emotions some thoughts are:
- Emotional side is important, and investors must be detached
- Need to be careful not to rush to defensive positions, and crystallise losses
- If investors have cash, then they need to look forward and consider if an attractive opportunity exists now to invest for the long term
- Turn to history and investors will see that markets will get better; but if investors wait for this to happen, they will likely miss the best opportunities
- There is always a danger that investors come in too early, but the focus must be long term
- The leaders in the last cycle are not necessarily the leaders in the next cycle
- Bull markets last longer than bear markets
Themes coming from this include healthcare spending, changes to global supply chains, home working, government spending
Some companies will go bust but those that are strategic or important to the economy will survive

Jupiter (Merlin and Economic Team)

Observations:

They do not believe we are out of the woods yet; economic activity is 32% of its normal level in the UK and they expect GDP figures to be very bad
In the short term they see gold as a haven investment
They are concerned about Oil ETFS, where one has seen a collapse in value of 78%. Oil remains an issue because the cut in production is not due until 1 May, there has been a demand drop of 30% and no means of storing excess oil
They are concerned about the rally pointing to other bear markets which had rallies before hitting the low point, however they see this as like the 1987 stock market crash rather than 1929’s
They expect a credit crisis in Europe because not enough is being doing done, and there is no joined-up thinking

China:

Tensions building globally against China – starting with Trump but now France and UK have joined in
Oil was the concentrator of power in the 20^th century, the 21^st century is all about data
The clear winner in this situation is China
They are far ahead of the west in terms of 5G
China also contribute 17% to Global GDP, the US 22% but this is expected to narrow. China is also the biggest investor in US treasuries
If countries walk away from China how do they get their investment out, or do they just lose it?

Additional soundbites

Templeton (Emerging Markets Team)

We need to separate the health issues from the economic issue. Coming into this, economies were satisfactory, we must remember this is just a phase and it will pass
Governments have shown their willingness to do anything to protect economies
In terms of the virus there will be waves, and this will continue for some time until a vaccine is created
There will be winners and losers – Asia (especially China) has leapfrogged the West in terms of technology and systems, and this will accelerate
Themes to watch include localisation of supply chains, e-ecommerce, e-learning, flexible working etc

T Rowe (Economic Team)

The US is entering a deep and sharp recession, but they expect it to rebound in the third quarter
This is not just about coronavirus but also oil. The fundamental issue is that there is no demand for oil, but you cannot switch off the pumps and so you have no place to store it; the price dropped below $20 and cannot see a clear route to recovery
It is unknown whether the market has reached its bottom, volatility has dropped from 82.7% to 38.2% this needs to reduce further before this can be confirmed
Long term (6 – 18 months) they believe equities are a good place to be. US equities and US large cap are still expensive relative to Europe, Japan, EM, US Small Cap and EAFE (Developed Markets outside of the US and Canada) Large and Small Cap
Government Bonds (US, Germany, and UK) remain a haven but still expensive, and investors will not make any money
Do not believe there will be a switch from growth to value for the simple reason that growth is about the future (changing technology) whereas value is about the past (financials, energy etc)

BlackRock (EM and Frontier Team)

There are far fewer cases in EM and Frontier compared to the Western World, it has not taken off in the way many predicted in these economies
1/7^th of all the deaths are in EM and Frontier and yet it makes up 6/7^th of the world population
Reason for deaths/infection rates being lower could be younger populations, less obesity and cardiovascular disease (all issues in the US)
EM and Frontier countries are more resilient; Bangladesh often suffers from flooding but is still growing its GDP. They tend to have lower levels of debt to GDP, and some are less reliant on global trade
The West is more stressed, especially trying to plan the return to ‘normal’. How do you remove the lockdowns? Promises by the governments may be with us for a long time, we have seen de facto nationalisation of payrolls and businesses
EM/Frontier companies tend to be more resilient they are used to dealing with political, economic, and social messes. Also, in the West dividends and buy backs are frowned upon, this is not the case in most of these economies

Aviva (Economic Team)

2020 started with an optimistic outlook – trade war concerns receding, growth albeit slow
It is not the virus which impacts economies, it is the lockdown and containment measures that do the damage
As these are relaxed, they believe we should see a big rebound on GDP
We should not underestimate the response of central banks and governments to protect economies

Western Asset (CIO Update)

The global economy has never experienced anything like this so very difficult to compare to anything in the past
This is a very different recession; there has been no physical destruction, these are self-imposed shutdowns, and monetary and fiscal policy completely supportive
This is not like the global financial crisis, while the timing is unknown, the growth shortfall should prove transitory, and there is a strong likelihood of an eventual recovery
This will be a much deeper recession than anything we have seen but equally the recovery will be just as steep
60% of CEOs from 109 countries; 60% expect U shaped recovery, 22% double dip recession, 11% see this as a threat to the survival of their firm, and 40% see the virus as a severe threat to their business
If governments get this right, then the amount of stimulus could become a tailwind as we exit

Fidelity (Economic Team)

Markets seem to be healing; helped by the massive fiscal and monetary policies put in place
The intervention was to plug the hole in markets, but we still do not know how big that hole will be
Many unanswered questions around longevity, how we come out of this, risks around second and third waves, supply/demand – no-one can see the clear pathway to recovery
Be very cautious and prepare for more bad news which could drag prices down, and expect long term for this to be bad for bond yields

Investec (Economic Team)

More countries are slowly re-opening, Netherlands is the latest
Gilead and University of Oxford are running trials for a vaccine
They remain cautious about the length of lockdown; they still think most of the economic damage will be in Q2, but this could extend depending on whether further waves of infection and lockdown occur

AXA IM (Economic and Fixed Income Teams)

Concerned about sovereign crisis in the EU. Italy is likely to need circa e400 billion, which is half the total support package. They must do more but there is no evidence of this happening currently
There is increased anger in Italy, the constitution doesn’t allow for a referendum but indications are that remain voters in Europe would only win by a very small majority and as we know in the UK, this margin means it could move either way
Although there are negative comments on Emerging Markets selectively there are opportunities. The IMF has offered a $2 trillion package, and the G20 countries have agreed a suspension of debt repayments from poorer countries. Those countries which rely on tourism, and are weak oil exporters are likely to be hit hardest

GAM (Technology Team)

40% of businesses will disappear over the next 10 years if they do not adjust to use of technology to drive their businesses
Three key areas of focus are digital disrupters (social networks, enterprise networks and smart world), software enablers (security, AoKW, AI and Blockchain), and hardware platform (AR/VR, mobile, IoT, Storage, 3D printing, robotics and data centre)
Expect a greater move to human tasks being replaced by machines, this could impact 400 million jobs worldwide
Greater move to flexible working which impacts negatively on office space, but positively for cloud infrastructure

And finally

A look at the impact of COVID-19 on Value Investing click here

Imperial COVID-19 vaccine team secures £22.5 million support click here

What future do airlines have? Three experts discuss click here

How Oil Prices Went Subzero: Explaining the COVID-19 Oil Crash click here

Vaccines in shining armor — Can vaccines really save us from the coronavirus? Click here

The UK housing market has shut down. But what happens after Covid-19? Click here

Low cost emergency ventilator to tackle coronavirus designed by Imperial team click here

How COVID-19 Consumer Spending is Impacting Industries click here

A Post-Coronavirus Recovery in Asia—Extending a “Whatever it Takes” Lifeline to Small Businesses click here

Note: This is written in a personal capacity and reflects the view of the author. It does not necessarily reflect the view of LWM Consultants. The post has been checked and approved to ensure that it is both accurate and not misleading. However, this is a blog and the reader should accept that by its very nature many of the points are subjective and opinions of the author. Individuals wishing to buy any product or service as a result of this blog must seek advice or carry out their own research before making any decision, the author will not be held liable for decisions made as a result of this blog (particularly where no advice has been sought). Investors should also note that past performance is not a guide to future performance and investments can fall as well as rise.