Davy Group update to UK clients - 26th March 2020
26th March, 2020
Another week into the crisis and data keeps deteriorating. We are seeing exponential growth of infection cases on a global scale. Governments are implementing policies previously considered unthinkable. Economists are building these policies into their models to produce forecasts more negative than ever seen before. We are finally beginning to see the virus impact in economic data, and it is very negative. What is an investor to do?
The number of infections worldwide has risen from 100,000 last week to over 500,000 this week. The number of deaths has exceeded 20,000. The virus continues to spread across the United States, with New York and California imposing distancing policies seen in Europe, but the numbers will continue to shoot upwards. On a positive note, we have seen an inflection point in Italy – the growth rate in new infections is declining. While it is too early to conclude that Italy is turning the tide, this was the point that signalled improvement in China and South Korea.
The economic impact – how bad a recession?
The debate now is not whether we will have a recession, but how bad will it be. Assuming a total standstill, economists at the major banks are releasing progressively more alarming forecasts. Q2 estimates for US growth range from -2% to -30% on an annualised basis, or -1% to -7% for the quarter. The enormous range of forecasts is an indication of how speculative these estimates are. For example, the higher end would be more than twice the largest recorded quarterly fall in the US.
After last week’s record drop in China, this week we saw the composite Purchasing Manager Index (PMI) in the Eurozone fall from 52 to 31. Above 50 represents an expanding economy, below 50 a contracting one. While these are surveys and not actual activity data, a reading in the low 40s is consistent with a recession, and in the 30s with a severe recession. We await the commonly used US equivalent, the Institute for Supply Management (ISM) survey, next week to gauge the extent of the damage there. On a more optimistic note, if China is really recovering from their virus lock-down already, we may see their PMI index rebound higher next month.
The policy response
Cometh the crisis, cometh the policies. After a painful learning experience in 2008, the central banks have gone straight to the crisis playbook and beyond. They are injecting massive liquidity into the system to ensure that banks and money markets continue to function, and committing to buy trillions of dollars’ worth of bonds to keep yields super low. This will allow governments to borrow the necessary funds to unleash the largest fiscal stimulus in history. The spending will be targeted directly at households and businesses to help them get through the sudden economic stop.
Unfortunately jobs are already being lost and consumer spending, the largest part of most economies, is constrained to the bare basics. Adding up the opposing extremes of the virus impact and the policy response, we note that the corona virus could cause one of the largest global growth shocks we have seen, but also potentially the briefest.
Our investment view
Depending on the news flow, every day seems to bring either a big bounce or another drop. We expect this volatility to continue, as the virus count will continue to increase and the economic data will continue to get worse. As for when the market might bottom, this tends to happen a few months before the economic trough. By most estimates, the economy will trough in Q2, with a risk that it drags on further if containment policies fail.
As outlined in last week’s note, we try to take the longer term view in our centrally managed portfolios, and on this basis, we are taking opportunity of this extreme situation to temporarily add more equities. No one sector or company in particular, just the broad global index for now. The market could of course fall further as the virus and economic data gets worse, so we are making our additions in stages. For advisory clients, potential portfolio adjustments are discussed between the adviser and the client with relevant proposed changes in the context of the clients individual circumstances.
WARNING: Past performance is not a reliable guide to future returns and future returns are not guaranteed. The value of investments and of any income derived from them may go down as well as up. You may not get back all of your original investment. Returns on investments may increase or decrease as a result of currency fluctuations.
Warning: Forecasts are not a reliable indicator of future performance.
This document provides investment analysis from the Davy Investment Committee for discussion and information purposes only. It is not investment advice and is not intended to constitute an offer or solicitation for the purchase or sale of any financial instruments, trading strategy, product or service and does not take into account the investment objectives, knowledge and experience or financial situation of any particular person. The Investment Committee makes recommendations for Investment Advisers to consider for each of their client portfolios. Advisers conduct suitability reviews to determine whether or not to apply the Investment Committee’s recommendations to their clients’ portfolios. This decision is at the discretion of the Advisers. You may contact your Advisers to discuss further any of the content of this document. You should obtain advice based on your own individual circumstances from your own tax, financial, legal and other advisors before making an investment decision and only make such decisions on the basis of your own objectives, experience and resources.
Individual shares and stock markets can be volatile, especially in the short-term. Some shares are likely to be more volatile than others. Potential investors should be familiar with any company they plan to invest in. The liquidity of shares is a critical factor, this refers to your ability to realise shares when you so wish. Shares in companies that are not traded frequently can be very difficult to sell. Many shares that are traded on Stock Exchanges are bought and sold infrequently and finding a buyer may not always be easy. The value of shares may fall as well as rise, when investing in shares there is a risk that you may lose some or all of your original investment.
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