The USA has turned a corner.
- Tuesday, April 14, 2020
Health and economic data are being poured over in the pursuit of the correct policy decision to exit the UK lockdown successfully. This is a delicate balance between the current and near future heath of the nation and the near future health of our economy. The government needs to find the right balance but with another 2-3 weeks of lockdown expected to be announced, clearly now it not yet the time to lift restrictions on our liberty as the health emergency still gets priority.
The end of the lockdown is both a moral and economic decision. If the lockdown is lifted too early, we can risk further contagion, death and a higher cost to the economy.
It gives us some comfort and optimism to see that China has restated its economy and that Wuhan City has been fully released from lockdown. The impact of Coronavirus was a 10% drop in national output and if the recovery develops as expected, China can return to normal by September. The length of lockdowns in other countries will impact this with the result of lower demand for Chinese goods.
Spain, so badly hit by the virus will be lifting restriction to certain workers today. People working in manufacturing, construction and some service sectors will be able to return to work. Other workers will have to stay at home and social distancing measures remain. Across Europe other countries are starting on the path of recovery. Small shops will open in Austria and the Czech Republic next Monday, while Denmark’s schools will open tomorrow and Norway’s next Monday. Italy is also considering certain businesses that can return to work.
The good news is that countries in Europe which closed down early have had less cases, less spread of the disease in the community and are therefore beginning to open up again cautiously. The bad news is that some countries which looked to have avoided much of the initial disease such as Japan and Singapore are now noting increases in cases, as has China mainly due to imported cases. China has also had 10 new cases in a town which borders Russia as Chinese citizens attempt to return home quietly.
Dr Anthony Fauci, The Whitehouse Coronavirus expert and Director of the US National Institute of Allergy and Infectious Diseases suggested last week that the USA has ‘turned a corner’ raising hopes that the US lockdown could be eased by 30th April. He also warned of the potential of a re-emergence of the virus if the lockdown ends prematurely.
So far, the USA has lost 21,000 people to Covid-19 and these numbers are expected to rise to 60,000 by August. This is the largest death rate of any country and questions are bound to be asked about public policy and access to health care. Despite this alarming figure, experts think that the pandemic may have already peaked earlier that previously expected. One further depressing statistic is that 17 million Americans have over the past three weeks, filed for unemployment benefits due to job cuts and lack of a furloughing scheme. As an indication of how severe this job loss level is, it took two years after the 2008 great financial crisis to make 8 million American’s unemployed. Analysts are predicting a 16% unemployment rate by May.
In the UK, we have witnesses 1.2 million new unemployment benefit claims as we start to head towards jobless figures not seen since the 1980’s. One in eight of British adults have no savings at all and therefore it is expected that a desperate growth in credit card debt and overdrafts will follow this pandemic.
The Treasury is going to borrow money directly from the Bank of England (BoE) rather than raise money to fund the crisis through a gilt auction. Raising capital from a gilt issue will result in cash leaving the real economy just at a time when it is most needed, so raising an overdraft with the BoE to help finance spending is seen as preferable. The Governments overdraft with the BoE currently stands at £370 million and the Treasury’s Debt Management Office is looking to raise £45 billion to pay for the unprecedented financial support for the UK economy.
While the lockdown remains, it is vital that government money gets to where it is intended quickly, as with every delay more business will fail and be unable to help support the recovery. The lengthy credit assessments and need for personal guarantees have held back the transfer of funds and thankfully these policy requirements have been removed.
If markets do open up again in places such as Italy and Spain where the virus has been so embedded into the community, there could be a second wave, which again won’t be detected for 10 days after the first cases start to reappear. The delay in symptoms makes the decision to fully open up society again difficult, if not impossible, until testing and medical and scientific advances are successful.
Late last Thursday, the leaders of the Eurozone eventually struck a deal over the €500bn rescue package to aid business and households badly hit by the Coronavirus. The agreement on a bail out will go some way to patch up a bitter rift between the countries of the South such as Italy and Spain who have suffered the worst of the Coronavirus and the fiscally conservative Northern nations such as Austria, Germany and the Netherlands. The break through eventually came when Germany put pressure on the Dutch to end their opposition to a deal. The Dutch wanted any long-term loans designed to rebuild national economies after the crisis to come with fiscal conditions. There was no agreement over the controversial ‘Corona Bonds’ proposal that would share debt across all countries in the eurozone. This proposal was bitterly opposed by the same Northern countries. This disagreement did expose a fundamental lack of solidarity between EU countries in the face of another crisis.
The biggest fall in crude oil prices for twenty years has just been resoled with an agreement between OPEC and Russia after heavy pressure and support from G20 nations. The agreement is to cut oil production across all producers by 9.7 million barrels per day with 2.5 million per day reduction coming from both Saudi Arabia and Russia. The price of Brent crude oil was US$50pb on 5th March and fell due to the combination of a supply glut, a Coronavirus inspired collapse in demand and a bitter price war between Saudi and Russia over market share. Oil prices fell to US$22.76pb by 30th March and has on the news of a deal recovered to US$31.48pb.
The pressure to conclude a deal was intensified by the fact that global oil storage capacity was full to bursting with oil tankers being commissioned to store oil at twice the daily rate to ship oil. The agreement should see oil prices stabilise but analysts are still predicting a US$20pb price in Q2 as much of the world is still in lockdown. The real prize for Russia and Saudi was the undermining of the US shale oil industry as they can sustain a lower price for oil for far longer than their Texan rivals.
Despite the Covid-19 death toll rising to unthinkable highs, stock markets have staged another week of recovery. This uplift in stock values came at the same time economic data has started to show the global economy has already hit depressed levels never seen in our lifetimes. The very real pain felt by people most exposed to the economic shutdown is now starkly visible. Companies are warning about bankruptcy, defaults and dividend cuts. Yet stock markets have recovered somewhere between two-thirds and half of their late March losses. So, did markets overreact originally and, as reality catches up with initial market expectations, are things turning out not to be quite as bad as was originally feared?
What stock markets fear even more than lower corporate profits are corporate bankruptcies. These do more than just lower the expected return-on-capital; they put the return of capital in its entirety at highest risk. That is why we witnessed market panic in the middle of March, which forced central banks to step in with all their might to prevent the Coronavirus crisis causing a financial crisis as well. Effectively, the central banks’ objective was to allay fears of mass corporate defaults by intervening in the debt markets to an extent that substantially lowers the risk of widespread defaults. At the same time, injecting vast amounts of additional liquidity helped satisfy the urge of so many to hold more of their capital in cash, together with government’s fiscal support pledges, has put a safety net underneath global capital markets. Markets are reacting to the double boost of much reduced default risks emanating from bond markets and plentiful liquidity from central banks.
JP Morgan analysts have published a research note that suggests that ‘most risk markets have probably hit their lows for this recession’. This note coincides with a market rally last week. The S&P 500 sat at 2488 on 3rd April and climbed nearly 12% to 2789 by the end of the pre-Easter trading. The FTSE 100 recovered over the same period by nearly 8%.
Based upon JP Morgan’s analysis it is therefore possible that the 23rd March was the floor to the market. From 21st February to 23rd March the S&P 500 fell 32.9% and from then to last Thursday recovered 24.5%. The FTSE 100 over exactly the same period lost 32.5% and has recovered 17%. However, there are lessons from history that during bear markets there are rallies that temp investors prematurely. Interestingly US markets were open on Easter Monday and recorded small losses. With all the information available on the world health and economic impact of Coronavirus, it is clear that the market has already priced in high unemployment, business failures, defaults and dividend cuts and are still betting on a V-shape recovery with a strong rebound in Q4 2020.
Due to central bank pledges, markets have possibly attained a resilience to short-term bad news. On the other hand, we may be experiencing a bout of artificial calm and exuberance in stock and bond markets, which underestimates what the true medium-term damage from the Coronavirus will be. If the pain to the economy drags on and the negative news-flow becomes overwhelming, while authorities simply execute what they have already announced without introducing any more stimulus packages, then stock markets may well re-assess their fast-recovering valuation levels against the backdrop of ever-faster falling earnings outlook expectations.
As we see through the wreckage, there will be winners that investor can see value in and support. Active investment management within the UK leading fund managers will now be a key aspect of asset value recovery. We remain confident in our fund manager selections as our portfolios have throughout this crisis performed around 2% better than national averages. We will be shortly be assessing our portfolios and reviewing each holding’s technical ratios such as volatility, Sharpe ratio, beta and maximum drawdown rates and considering which funds held up as expected and those that didn’t. We plan to publish post Coronavirus portfolios as soon as is practical.
Chris DaviesChartered Financial Adviser
Chris is a Chartered Independent Financial Adviser and leads the investment team.