The latest view from our Investment Team
October - Market Outlook
As we have moved through 2020, the evolution of the global coronavirus outbreak and the measures taken to combat it have been the dominant factors influencing asset markets, but investors have begun to look through to when conditions return to normality and other issues such as the US election and Brexit have begun to have a greater influence on sentiment.
Whilst some countries have been successful at controlling the virus, it remains a significant problem in many parts of the world and the key investment markets of the US and Europe have seen worrying signs of a second wave developing, although as yet the level of deaths remain below those seen earlier in the year.
Economic reopening following the previous success in reducing virus cases has enabled activity to see a significant recovery from the earlier lockdown period, but a full recovery was always likely to require a successful vaccine to enable all areas to return towards normality. Given the economic damage and financial cost of the initial countrywide lockdown measures, the recent uptick in cases has seen more localised preventative actions to try and get the optimal balance between managing the virus and keeping economies functioning.
Markets will keep a close eye on how the latest wave of virus cases evolves and the actions taken to deal with them, but the extensive monetary and fiscal support measures taken by authorities and signs of progress on the development of vaccines have been crucial in avoiding another significant deterioration in investor risk appetite. Central banks have continued to indicate that they will do whatever it takes with their monetary policy to help economies through this unprecedented period and it has been important that governments also provide fiscal support to back this up and help ensure that fundamentally viable companies can be supported until conditions improve. This support has generally been forthcoming, although as initial schemes have begun to expire there is a danger that unemployment will begin to escalate. The generous initial package in the US has ended and its replacement has been caught up in political wrangling as the election approaches, but progress here would encourage investors.
Despite his often-controversial behaviour and foreign policy battles, US investors have enjoyed the tax cuts and deregulation that President Trump has enacted, so any change of leadership would see mixed feelings and impacts on different areas but overall no likely significant market reaction. Who controls Congress will be crucial in determining what policies can be pursued, but the main short-term election risk is over worries that a clear result is not forthcoming.
The fourth quarter is also due to see the end of the Brexit transition period and the success or otherwise of negotiations over a new trading relationship. As with all such deals it is expected to go to the wire and difficult compromises will be required, but as a deal is seen to be in both sides interests it is to be hoped that agreement can be reached, even if not an extensive one. However, the risks of a no-deal are not insignificant and with most investors seeing this as an economically damaging result markets will be impacted by this. As in the 2016 referendum, sterling would likely see the biggest reaction, with a fall on a no-deal outcome or a rally on a deal. Brexit has been a significant factor behind investors shunning UK assets in recent years, so sentiment could recover on a favourable deal outcome.
Whilst the second quarter corporate earnings season unsurprisingly saw significant declines, overall results came in better than expected and with 2021 likely to see a good global economic recovery from the 5% GDP decline forecast for 2020, profits are expected to grow. Many companies that reduced their 2020 dividend payments are looking to reverse this and in a world where interest rates and government bond yields are close to 0%, equities offer significantly higher levels of income.
Low bond yields and an acceleration of trends this year in areas such as the increasing use of technology and the switch to online shopping has seen certain ‘growth’ sectors of the market significantly outperform ‘value’ sectors or more economically sensitive parts of the market. This narrow market leadership has especially seen technology related companies such as Apple, Amazon and Tesla becoming increasingly highly valued whilst companies in areas such as energy, banking, transport and leisure have continued to suffer. With this differentiation approaching extreme levels by historic standards, there is a possibility that market leadership could change when a broader economic recovery takes place. Whilst equities overall are not as attractively valued as they were a few months back, alongside relatively attractive income support there are many pockets of value, especially on a longer-term view when a vaccine can potentially support a multi-year economic recovery.
Escalating government debt levels requiring heavy bond issuance and some concerns over the risk of rising longer-term inflation could provide challenges for fixed income markets, but government bonds have continued to prove their worth in difficult times as investors have sought their safe-haven qualities despite their lack of income. Central bank buying has also been a significant driver of lower yields in recent years and they look set to continue to try and keep the cost of debt low for the foreseeable future to support recovery. However, with yields now exceptionally low the longer-term return prospects look poor. Central banks have also been buying corporate bonds and, alongside a recovery in investor risk appetite as confidence in an economic recovery has grown, has seen the additional yield of corporate bonds over and above equivalent gilt yields narrow significantly from the levels seen earlier this year. Although, this remains our preferred area within fixed income assets.
The outlook for interest rates is that they will stay very low over the next few years, so for savers the returns on cash deposits will continue to struggle to match the low levels of inflation being seen.
In conclusion, the market outlook will continue to focus on the path of the virus and the degree of economic recovery that is possible, although central bank and government support, vaccine developments and US election and Brexit outcomes are also key short-term drivers. With interest rates and bond yields set to remain at close to zero, this has been a powerful support for equity markets as investors look through the short-term difficulties and recognise the relative growth and income potential that equities can offer as economies recover. Whilst market volatility could return, investors with suitable risk appetites should retain confidence in the longer-term attractions of equities as part of appropriately balanced portfolios.
How the coronavirus outbreak evolves will continue to be a significant factor influencing the economic and asset market outlook, but the policy response from governments and central banks will continue to provide substantial support through this challenging period until conditions return towards normality.
The economic cost of lockdown has been substantial, and the latest IMF global growth forecast is for a decline of 4.9% in 2020 followed by a recovery of 5.4% in 2021. Forecasts are especially difficult at the moment, as much will depend on the path of the virus and the success of reopening measures and consumer and business willingness to spend.
Where the virus has been successfully contained, such as in much of Asia and Europe, there have been encouraging signs of an economic recovery as lockdown measures have been eased. New virus outbreaks have been limited in these countries and localised measures to contain them rather than a return to national lockdowns should avoid economic damage. The more concerning situation is in the US and many less developed countries, where the virus is less under control and the path to recovery may be more challenging.
Until the virus is successfully under control around the world or a vaccine is available, authorities will need to continue to provide support for industries that are unable to return to normal yet. Furlough schemes have limited short-term unemployment across Europe and generous benefits have protected the spending power of US workers who have been laid off, but alongside other generous support measures these cannot continue indefinitely. Government debt levels are increasing substantially around the world to help deal with this exceptional event and the UK has just seen borrowing exceed 100% of GDP for the first time since the 1960’s.
Whilst support measures have helped many businesses and employees through this lockdown period and demand should largely return towards previous levels over the next couple of years, there are still risks to employment levels when support is reduced, and higher unemployment and higher debt levels may have a longer-term scarring impact on economic growth. Some industries may struggle to return to normal as habits will have changed, but equally there will also be corporate winners. For now though, central banks and governments are set to continue to provide substantial support for the global economy. Interest rates have been cut to record lows and there are massive asset purchase programmes, emergency lending facilities and major fiscal stimulus and support packages.
With such high debt levels and economic challenges, it is likely that interest rates are going to stay at exceptionally low levels for many years and the UK and US have even been considering the use of negative rates like we already see across Europe. Low interest rates and the impact of central bank buying has pushed government bond yields to around 0% in many countries, with shorter-dated UK gilts seeing negative yields for the first time.
Markets will likely continue to be driven by coronavirus related developments this year, but political events still have the potential to influence sentiment. The November US election will get increasing attention as it nears, although the removal of the risk of a radical Democratic candidate has eased concerns. US relations with China is an ongoing concern and Brexit will again be in focus as another key deadline looms at the end of the year. On a more optimistic note, the recent signs of cooperation in Europe as they look to create a recovery fund is a welcome development for European stability.
With equities having seen a strong recovery their attractions have lessened in recent weeks, but the gains have been relatively narrowly based (e.g. technology and healthcare companies) and opportunities do remain, especially on a longer-term view where even after significant dividend cuts equities offer income levels and growth potential that look attractive compared to the minimal yields on offer from lower risk assets such as government bonds and cash.
Despite the challenge of heavy bond issuance, government bonds have continued to prove their worth in difficult times, but with yields now exceptionally low the longer-term return prospects look poor. The likelihood of more company defaults saw the additional yield of corporate bonds over and above equivalent gilt yields increase significantly initially, but confidence in the recovery and the impact of central bank buying has seen this yield spread narrow and prices recover, although this remains our preferred area within fixed income assets.
The outlook for interest rates is that they will stay very low for the foreseeable future, so for savers the returns on cash deposits will continue to struggle to match the low levels of inflation being seen.
In conclusion, the market outlook looks likely to remain dependent upon the path of the coronavirus and any vaccine developments, the degree of economic recovery and continued central bank and government support. With interest rates and bond yields set to remain at close to zero, this has been a powerful support for equity markets as investors look through the short-term difficulties and recognise the relative growth and income attractions that equities can offer as economies recover. Whilst markets may remain volatile, investors with suitable risk appetites should retain confidence in the longer-term attractions of equities as part of appropriately balanced portfolios.
Equity markets have seen a strong recovery from their March lows, although we continue to see volatility related to the ebbs and flows of virus developments. Whilst we are seeing pockets of virus escalation, many economies are now successfully reopening as lockdown measures are being gradually eased.
A crucial factor supporting markets continues to be the extensive fiscal and monetary policy measures being provided by governments and central banks, which is helping both the economic and corporate situation as well as pushing bond yields lower which helps support risk asset valuations.
Economic data covering the lockdown period is extremely weak and some forecasts suggest UK GDP could see a double digit fall in 2020, but there are encouraging signs that the reopening seen across Asia and now in Europe and the US has seen growth recovering since April. Whilst a V-shaped recovery where lost economic output is quickly restored still appears too optimistic, the improving growth trajectory is an important momentum change and a substantial recovery is still expected over the next 2 years.
The biggest risk to this economic and market recovery is a further growth in the virus as social distancing measures are eased. The experience with reopening so far has been broadly positive, but some countries such as the US are seeing new outbreaks and many emerging economies such as Brazil are still struggling to contain the initial wave of the virus. Vaccine development will be crucial to the eradication of this risk and news on this will be closely watched.
Whilst support measures have helped many businesses and employees through this lockdown period and it is encouraging to see economies turning the corner, there are still risks to employment levels when support is reduced, and higher unemployment and higher debt levels may have a longer-term scarring impact on economic growth.
Government debt levels are increasing substantially around the world to help deal with this exceptional event and the UK has just seen borrowing exceed 100% of GDP for the first time since the 1960’s. The scale of bond issuance to fund this would potentially be bad for government bond yields, but central banks have been purchasing significant amounts which has helped keep bond yields extremely low. Extending these purchases to corporate bonds was a key factor in restoring investor confidence in that area and the initial sell-off on concerns over corporate failures has been reversed, although returns in 2020 remain behind those of government bonds.
Markets will likely continue to be driven by coronavirus related developments this year, but political events still have the potential to influence sentiment. The November US election will get increasing attention as it nears, although the removal of the risk of a radical Democratic candidate has eased concerns. US relations with China and Brexit talks will also remain in focus in 2020.
With interest rates and bond yields set to remain at close to zero, this has been a powerful support for equity markets as investors look through the short-term difficulties and recognise the relative growth and income attractions that equities can offer as economies recover. Investors with suitable risk appetites should retain confidence in the longer-term attractions of equities as part of appropriately balanced portfolios.
Recent weeks have seen a continuation of the recovery in equity markets since the coronavirus induced March lows, with some even returning to being positive on a year to date basis in sterling terms, although many such as the UK still show double-digit losses. The improvement in investor sentiment has been based on growing signs that the virus is under control in most countries, the gradual reopening of more economies, some optimism around a potential vaccine and the powerful impact of government and central bank support measures.
Economic data has continued to show the substantial impact of lockdown measures on the global economy and the first quarter corporate results season showed significant declines in profits and dividends. Worse is to come in second quarter data, but markets have been looking through this temporary short-term economic shock to the expected recovery as lockdown is eased. Early optimism over a potential V-shaped recovery as lost activity quickly returns to normal looks too optimistic, but signs that economic metrics are now on an improving trajectory has still helped confidence.
Most countries are still at an early stage of relaxing lockdown measures, but early signs suggest this has helped their economies without causing a significant pick-up in new virus cases. Markets are taking the optimistic view that economies will steadily recover, but a potential second wave of the virus is a risk to that view and whilst vaccine progress has shown some encouraging signs there is certainly no guarantee one will be available any time soon.
It is hoped that support measures for companies and employees will enable fundamentally sound companies to survive this health crisis, but there will be many challenges ahead when these supports are relaxed or removed. Activity and demand should largely return towards previous levels over the next couple of years, but there will be corporate winners and losers as habits have changed and the longer-term impact of economic scarring and higher debt levels will have to be monitored.
With such high debt levels and economic challenges, it is likely that interest rates are going to stay at exceptionally low levels for many years and the UK and US have even been considering the use of negative rates like we already see across Europe and Japan. Low interest rates and the impact of central bank buying has pushed government bond yields to around 0% in many countries, with shorter-dated UK gilts seeing negative yields for the first time. The prospect of more company defaults saw the additional yield of corporate bonds over and above equivalent gilt yields increase significantly initially, but confidence in the recovery and the impact of central bank buying has seen this yield spread narrow and prices recover, although this remains our preferred area within fixed income assets.
Whilst coronavirus continues to dominate asset markets, we remain mindful of other factors and the escalating war of words between the US and China is a concern. Social unrest in the US is another emerging issue that markets have largely ignored so far and closer to home Brexit will again be in focus as another deadline looms. On a more optimistic note, the recent signs of cooperation in Europe as they create a recovery fund is a welcome development for European stability.
With equities having seen a strong recovery their attractions have lessened in recent weeks, but the gains have been relatively narrowly based (e.g. technology and healthcare companies) and opportunities do remain, especially on a longer-term view where equities offer income levels and growth potential that look attractive compared to the minimal yields on offer from lower risk assets such as government bonds and cash. Investors with suitable risk appetites should retain confidence in the longer-term attractions of equities as part of appropriately balanced portfolios.
Investment markets remain extremely focused on coronavirus developments and its impact on the global economy, although US-China relations remain a concern and Brexit still lingers in the background. With more countries now through the initial virus peak and beginning to gently reopen their economies, there is confidence that the economic impact will begin to lessen. It is clear though, that the impact of lockdown and social distancing measures has had a dramatic impact on economic activity, with data for the first quarter showing significant declines in GDP and forecasts for the second quarter are expecting record-breaking plunges in many economies.
To support companies and employees through this short-term crisis, central banks and governments have continued to take substantial measures. Whilst there are some concerns over the longer-term impact of increased debt levels, the cost of borrowing is extremely low and to help support the economic recovery it is important to avoid large-scale bankruptcies and unemployment. This pandemic has accelerated some trends that were already occurring such as the move towards online shopping and the greater reliance on technology, but although some business models may struggle to re-establish themselves there will be others that prosper.
Equity markets have rallied strongly from the March lows as confidence grew in the controlling of the virus and the boost from fiscal and monetary support measures, but there remains a danger that opening up economies will lead to a second wave of the virus or the economic damage that has been inflicted will not recover as quickly as the optimists expect. Some lasting damage seems inevitable and some behaviours may have been changed, but whilst consumer spending and business investment may take a while to recover towards previous levels, the overall economic impact will hopefully be kept to a modest level.
Within equity markets they have become very polarised between companies that are relatively well-placed for this current environment, such as technology and healthcare companies, and more economically sensitive or service-based sectors such as banks and leisure companies. This has favoured the US market with its strong exposure to the former, whilst markets like the UK and Europe are more exposed to the latter. The performance and valuation difference between ‘value’ and ‘growth’ sectors was already growing and has been extended towards record levels, so there is a healthy debate in the investment world about whether this difference has gone too far or are we now in a new world where genuine growth is scarce and deserves to be more highly valued.
In the fixed income world, despite the massive increase in supply to fund support measures, government bonds remain supported by central bank buying and safe-haven demand and UK gilts have seen healthy returns as yields have moved close to 0%. The initial sell-off in corporate bonds saw yield spreads over and above the equivalent government bond yields widen, but central banks extending their buying to investment grade corporate bonds has helped them recover their recent losses.
The short-term outlook for markets continues to remain dependent upon virus developments and how effectively economies can reopen as lockdown restrictions are eased. A second wave of cases is a risk, but a successful vaccine would be a big boost, so whilst volatility has eased somewhat it remains well above normal and this two-way volatility is likely to continue as investors assess the ebb and flow of news developments. The equity market recovery has reduced some of the valuation attractions we saw in recent weeks, but even with the expected cuts in dividend payments there is still good income support compared to lower risk assets such as government bonds and cash. Investors with suitable risk appetites should retain confidence in the longer-term attractions of equities as part of appropriately balanced portfolios.
After the rapid decline in equity markets and other higher risk assets as coronavirus spread throughout the world and major parts of the global economy were effectively shut, we have seen a useful recovery in recent weeks as some confidence has returned. Whilst some countries are yet to see the virus peak, most are now seeing cases decline and the debate has moved on to the relaxing of lockdown restrictions.
The economic and corporate impact of the social distancing measures has been substantial and we are seeing data that is in excess of what we saw in the 2008-09 global financial crisis, with large declines in economic activity and corporate sales and profits. To avoid numerous company failures and massive unemployment it has been vital that authorities provide financial support through this short-term economic shock and that when the lockdown ends that we see a decent recovery in demand.
Central banks and governments have continued to provide extensive support and markets are optimistic that fundamentally viable companies will come through these exceptional conditions and be able to recover most of the lost activity when conditions normalise. While authorities seemingly will do ‘whatever it takes’ to provide this support, it will still be important that lockdown conditions ease as soon as reasonably possible over coming months or the longer-term damage to government and corporate finances will become more problematic.
Early indications from countries that have begun to ease the lockdown have been broadly encouraging, showing that with suitable social distancing businesses can return to work without seeing a second wave of virus growth. Demand in many areas will not fully recover quickly as some restrictions will remain and consumer and business habits will take a while to normalise, but signs of things moving in the right direction have been important for investor confidence. Improvements in virus testing, monitoring and any potential vaccine can provide further confidence that we can return towards more normal conditions.
Global equity markets have now recovered more than half of their initial 30% falls as they continue to show an encouraging ability to look through the current difficult conditions and focus on the future recovery. This optimism is based on expectations that the lockdown will be gradually eased, no second wave of the virus and demand recovers strongly later this year and into 2021. Whilst that is a reasonable central scenario, there are clearly some risks that worse outcomes are possible which could see a reversal of recent market gains.
We have also seen further exceptional developments in the world of oil. With oil demand significantly reduced by the impact of coronavirus and supply reductions yet to come through, a lack of storage capacity in the US saw local prices briefly move well below zero. This was to some extent a technical issue and the global oil price remained positive, but it is well below pre-coronavirus levels and is causing issues for that important sector of the global economy.
In the fixed income world, UK government bond yields have remained just above 0% as central bank buying and safe-haven demand has offset the negative pressure from the massive increase in supply to fund the wider support measures. The initial sell-off in corporate bonds saw the gap between corporate bond yields and government bond yields widen, but improved confidence in the eventual economic recovery and central bank buying has seen investment grade bonds recover their recent losses.
The short-term outlook for markets remains dependent upon virus developments and the economic impact of the containment measures and how soon and how extensively they can be relaxed in key economies. Whilst volatility has eased from the recent extreme levels it remains well above normal and this two-way volatility is likely to continue as investors assess the ebb and flow of news developments. The equity market recovery has reduced some of the valuation attractions we saw in recent weeks, but even with the expected cuts in dividend payments there is still good income support compared to lower risk assets such as government bonds and cash. Investors with suitable risk appetites should retain confidence in the longer-term attractions of equities as part of appropriately balanced portfolios.
Whilst it is increasingly clear that the impact of the widespread shutdowns and social distancing is going to cause a deep short-term recession, investors have taken encouragement from recent coronavirus trends and the exceptional level of support being provided by central banks and governments and last week saw a strong global rally in equities.
With more countries now hopefully through the peak in the virus, attention is increasingly turning to the difficult decision of when and how extensively to relax the current lockdown restrictions without risking a second wave of the virus.
China has shown that once the virus is under control economies can begin to be reopened, although this will be more of a challenge in the developed world who have more service-based economies which will likely require a slower return to normal than the more manufacturing based Chinese economy.
Markets have shown a welcome ability to look through the short-term economic and corporate risks and have recently focused more on the expected rebound in activity. We are now entering the first quarter corporate results season, so in addition to the exceptionally weak economic data expected in coming weeks investors will also have to cope with a stream of updates from companies on the impact of coronavirus on their businesses. It feels like there will need to be substantial reductions in profit forecasts and more dividend cuts are expected, so it will be interesting to see if these headwinds will temper the recent rally.
Another welcome development has been the recent deal between oil producers to reduce output in light of reduced demand and this should provide some support to the oil price after heavy declines.
Some equity markets have now recovered around half of their recent declines (less so in the UK), so the attractive valuation opportunities are not as strong as they were and further recovery will likely require continued evidence of virus control and confidence that the social distancing measures will be eased and longer-term economic and corporate growth will return towards normal levels.
In the fixed income world, whilst government bond yields have remained close to 0%, we have seen the recent widening of income returns on corporate and government bonds also partially reverse as confidence in the eventual economic recovery has grown.
In conclusion, the short-term outlook for markets will continue to be dominated by coronavirus developments and the economic impact of the containment measures and how soon they can be relaxed. As we have seen recently, market volatility can be both on the upside and the downside and this two-way volatility is expected to continue and investors should try and retain a longer-term focus.
Despite the increasingly severe economic impact, with some encouraging signs of the coronavirus outbreak looking to be peaking in key European countries and investors taking comfort from the scale of central bank and government support measures, equity markets have recovered somewhat from their recent heavy declines.
It is clear that the economic damage being caused by the widespread shutdowns and social distancing measures is significant. The scale and speed of the decline in economic metrics is unprecedented and already on a scale similar to the financial crisis of 2008-09, but it is likely to be relatively short-term and it is still anticipated that there will be a substantial recovery in activity once the containment measures are eased.
Clearly there is a difficult balancing act looming as authorities look to limit the economic damage by easing the restrictions as soon as reasonably possible without risking a further escalation of the virus. Whilst the virus is yet to peak in places like the UK and the US, we are taking comfort from the initial return towards normality in some key Asian economies such as China and that the social distancing measures in earlier adopting European countries such as Italy are showing signs of success.
With some confidence that the virus can be brought under control, the key market driver is likely to become the scale and duration of the economic impact and the extent and shape of the recovery. The nature of this situation and lack of historic precedent makes this very difficult for forecasters to accurately predict the impact, but most commentators currently suggest a short sharp setback and a gradual recovery towards normality.
There will be corporate casualties amongst those with underlying weaknesses and many companies are seeing profits decline and are cutting dividends to preserve cash, but the extensive global monetary and fiscal stimulus measures and promise of more to come if required should ensure that viable companies can be supported through this short-term shock and return to growth when conditions begin to normalise over coming months.
The collapse in the oil price following falling demand and a price war amongst key producers had been a further factor fuelling market volatility, but this has also shown signs of recovery in recent days. However, coronavirus will continue to be the dominant driver of asset markets and investors will remain keenly focused on the path of the virus, the extent of the economic impact and how soon economies can be reopened. This will continue to create elevated two-way volatility and we will monitor the situation and look out for investment opportunities that can add value to our funds.
Whilst the coronavirus outbreak continues to escalate in the key economies of Europe and the US, the pace of development has been largely within expectations and extensive stimulus measures have given equity markets a welcome boost after recent extensive falls.
Economic indicators have begun to show significant weakness as widespread shutdowns and social distancing measures have impacted both supply and demand, with a key question being how long will these restrictions need to remain in place? Encouragingly, China has begun to return to work and markets will be closely watching for signs that Europe and the US will also be able to get the virus under control and begin to ease the containment measures and limit the economic damage.
News of the virus peaking in the likes of Italy and Spain or developments in vaccines and coronavirus tests will give investors encouragement, but signs of a second wave of infections in Asia or restrictions having to remain in place for many months would cause concern.
Last week did see further evidence of governments and central banks stepping up to the plate, with extensive monetary and fiscal stimulus, including a $2 trillion package of measures from the US. Measures have matched and in some respects gone beyond those used in the 2008-09 financial crisis.
With encouragement from statements that authorities will do ‘whatever it takes’ to support the global economy through this short-term shock, investors have begun to take comfort that whilst there will be corporate casualties, fundamentally viable companies will survive until conditions return towards normality and central banks will provide sufficient liquidity to keep markets functioning effectively.
It will be interesting to see what the longer-term repercussions of all of this stimulus will be and we have already seen a UK credit rating downgrade, but for now government bond markets continue to be working well as a safer haven for investors. However, with yields now close to 0% future return prospects look limited at best.
Coronavirus will continue to be the dominant driver of markets and they will remain hostage to the ebb and flow of news around virus developments, the extent of economic damage and policy stimulus announcements and further two-way volatility is likely to continue for a while.
However, investors can take comfort that once the painful short-term human and economic impacts have passed there will be a substantial recovery in activity and longer-term economic and corporate prospects do not seem to have been significantly damaged. Whilst all investors are understandably nervous in these unprecedented conditions, we continue to closely monitor the situation and look for attractive medium to longer-term investment opportunities that volatility like this can create.
With the global coronavirus outbreak continuing to develop at an alarming pace, the economic impact is now expected to lead to a significant short-term decline in activity. Whilst supply disruptions are a negative factor, it is the collapse in demand across many areas as a result of social distancing measures that is now doing the most damage.
The hoped for policy response from central banks and governments for substantial support for the global economy and to ease some of the stresses appearing in the financial system has been forthcoming and at unprecedented levels. We have seen interest rates cut to record lows, massive asset purchase programmes, emergency lending facilities and major fiscal stimulus and support packages to try and avoid mass lay-offs.
Given the truly unprecedented nature of this medical crisis, markets are still uncertain as to whether these actions will be sufficient to counter the significant financial and economic costs of the pandemic, but authorities seem committed to do whatever it takes.
We are already seeing many companies slash their sales and profit forecasts and cut their dividends to preserve cash, but the support measures being taken to help viable companies through this economic shock should prove vital to begin giving investors confidence that these companies can survive until conditions return towards normality.
In addition to the extent of the economic damage, the other key consideration for markets is the development of the virus. Whilst some parts of the world such as China are already through the worst, the major economies of Europe and the US are yet to peak, and investors will be eagerly watching for signs that the measures being taken will get the virus under control. Italy is at the forefront of the epidemic and when their new cases begin to decline it may give encouragement to markets.
With the economic damage potentially on a scale similar to the 2008-09 financial crisis, investors are also becoming nervous over the emerging signs of additional stresses in parts of the financial system, although authorities are acting to support the smooth functioning of markets.
While the scale and depth of the crisis has continued to escalate, we remain optimistic that after the painful short-term impacts there will be a substantial recovery in activity and longer-term economic and corporate prospects will not be significantly damaged.
With large declines in global equity markets, losses in corporate bonds and an expected decline in some commercial property values, most investment portfolios have been having a difficult time after a long period of gains. We are still in the eye of the storm and volatility is expected to remain at elevated levels, but a lot of bad news has now been factored in by markets and current equity valuations look attractive in most scenarios. Investors are understandably very nervous, but should try and retain a longer-term focus if possible and look through to the eventual recovery from this short-term crisis.
The pace of development of the spread of coronavirus and the measures being taken to reduce public interaction around the world have escalated beyond previous expectations.
It is now clear that the extensive reduction in human contact in coming weeks is going to have a significant short-term impact on a number of industries and overall economic growth will be much reduced in 2020.
However, central banks and governments are increasingly taking unprecedented actions to help bridge the anticipated drop in economic activity and support fundamentally viable companies through this difficult period.
Investors are understandably very nervous in the current environment. However, once markets gain comfort that vulnerable companies can survive through this crisis then it is reasonable to expect that economic activity will rapidly return towards normality when the virus has worked its way through and companies will recover.
Authorities are providing extensive support to business, but it will need to be seen as sufficient enough to avoid widespread business failures in order to support investor confidence.
The other factor that will help risk appetite recover will be signs that the spread of the virus is beginning to peak outside China. It is anticipated that evidence of that happening in Italy could be another key catalyst to give confidence that the radical actions being taken are working and that other countries like the UK would likely follow a similar path.
Developments in China and South Korea and the history of previous outbreaks give us some confidence that conditions will normalise.
Whilst most of the focus of investors has been on the volatility in equity markets, elsewhere we have seen a recent significant drop in sterling which provides some support to returns on overseas equities for UK investors.
In the fixed income world, we have seen an increase in UK government bond yields from the early March levels of around 0% and corporate bonds have seen more substantial increases in yields as risks have risen.
Coronavirus has rapidly emerged as the dominant short-term driver of asset markets and investor sentiment, but there are reasons to be optimistic that after some painful short-term impacts and temporary lifestyle changes it will pass without doing substantial longer-term economic or corporate damage.
Whilst heightened volatility is expected to continue for now, for investors with a longer-term focus and the ability to withstand the volatility we are beginning to see some increasingly attractive investment opportunities in equities following the significant market falls.
Read views from our Investment team following further falls in stock markets, oil prices and interest rates, as the economic impact of Coronavirus continued this week.
With the spread of coronavirus and the growing economic impact of the preventative measures being taken, investors have become increasingly risk averse. Already nervous markets were further impacted by the collapse in oil prices, as a failure to agree production cuts in response to falling demand led to a price war. Whilst lower oil prices are ultimately good for many, it raised concerns over the health of oil companies and the impact on banks and investors that lend to them.
More countries are resorting to extensive preventative measures to stop the spread of the virus and relatively less impacted countries so far like the UK and the US look like they are heading down a similar path. The short-term economic impact now looks like it will lead to a slowdown or mild recession before the virus dies down and economies return towards normality.
Clearly there are business casualties in certain areas, and Flybe will not be the only corporate collapse. However, there are already signs that the virus is peaking in early impacted countries like China and history suggests that economies and markets will not see significant long-term damage.
Central banks and governments are beginning to take action to support economies and companies through this temporary downturn, such as the cut to the interest rates and budget measures announced by the UK on Wednesday 11th March.
There are some signs of minor stresses in the financial system, but unlike 2008 the health of the banking system is in a much better place to withstand this volatility so there is nothing to suggest this economic slowdown will develop into a wider credit crunch.
Investors need to be mindful that further short-term market weakness is possible if the impact of the virus escalates beyond current assumptions, but with equities having now fallen around 20% from their recent peaks there is a lot of bad news now priced in.
Fixed income assets and cash continue to provide support to balanced portfolios in times of market stress, but UK government bond yields are now close to 0% so investors should be mindful that future return prospects in this area may be limited at best.
Whilst investors need to be prepared for the increased volatility that comes with equity investment, there are growing relative valuation attractions now available in equities on a medium to longer-term view.
Hear from our Investment team on the impact Coronavirus is having on the markets.
Coronavirus and its potential impact on the global economy has rapidly emerged as the key driver of asset markets and investor sentiment in 2020.
The initial consensus was that this was likely just a temporary and largely localised issue mainly effecting China, with a similar modest impact to that seen in the 2003 SARS outbreak. With equity markets at close to all-time highs in early 2020, this view left equities vulnerable to a spread of the virus and following significant growth in cases outside China there has been a rapid and substantial drop in equities and a flight to invest in assets such as government bonds and cash.
China is now a much larger part of the global economy than it was in 2003 and current data is showing their extensive efforts to isolate the virus have led to a dramatic slowdown in their economy. China is also vitally important to global manufacturing supply chains, so their shutdown will be having a further impact on the wider global economy. With the virus now in many other countries, the economic impact is set to spread as preventative measures such as travel restrictions, the curtailing of mass gatherings and school closures hit growth.
With the recent double-digit equity declines, the initial market complacency is now over and moderately negative scenarios have now been priced in. Investors will be closely watching the development of the virus and any actions the authorities are taking.
Although previous epidemics – such as SARS – can give us some reassurance that impacts are short-lived, it should be acknowledged there are potential scenarios from a sustained Coronavirus outbreak that could have a more severe long-term impact on the market.
Further market weakness is possible, but there are a number of reasons why investors should not panic.
- Central banks have been key to the recovery since the financial crisis and they are poised to act decisively once more to support growth, although their impact may be limited
- Also, after many years of austerity, there are growing expectations that governments such as the UK will be shifting towards more expansionary fiscal policy which will support economic growth
- Whilst markets will remain nervous until we see a peak in cases outside China, there are already some encouraging signs that the robust measures taken in China may have succeeded in containing the rate of spread of the virus
- Trying to time the market is notoriously difficult, long-term investors should remain calm, and retain well-diversified portfolios.
- Once the virus impact settles down, there is nothing to suggest that the global economy will not return to its previous growth rates after the short-term shock
- Whilst it is too early to confidently call the market bottom and we must be prepared for more volatility, as long-term investors we are beginning to see some more attractive medium to long-term opportunities as equity valuations have become more appealing following the market falls.
Please note the value of your investment can rise or fall and you may get back less than you invested.
Why financial planning is important in these times
The Coronavirus impact on the markets may have you thinking, ‘how does this affect my financial plan?’ All of us will have different financial lives and plans but here are some key points to keep in mind:
- Volatility is normal in the markets recognising that Coronavirus has caused severe impact. Identifying the top and bottom of the market is notoriously difficult. Selling after a large fall often means that investors miss out on any subsequent upturn.
- Holding a diversified portfolio that gives you exposure to shares, bonds, property and cash can help reduce the impact of market volatility as falls in one part of your portfolio may be cushioned by positive performance in another
- Investment managers may see falling share prices as an opportunity to invest in companies they see as having good longer- term prospects. Expert buying in this way can bring investors benefit over time
- It’s important to focus on your original reasons for investing. Meeting regularly with your NFU Mutual financial adviser can help you make sure your financial plans stay on track.
To find out more please speak to one of our financial experts.