In this week’s edition of the economic update we would like to focus on the most topical headline within the news, the Coronavirus. We have recently produced some video content on market reactions to the virus, the first being our morning market update from Jeff Cason, and the second our newly released podcast series. Given that a lot of information about the virus has already been detailed in these two videos, we thought this piece should approach the situation from a slightly different angle.
For those who are yet to watch these two videos, links for them can be found in the below:
Putting Coronavirus Into Context | Morning Markets
Do More With Your Money Podcast #6 | Clients & Coronavirus: Your Questions Answered
Coronavirus
Professional investors describe low probability, difficult to forecast events as being ‘left tail’. Covid-19, the now formalised name for the Coronavirus is being viewed as one such event. The origin of the virus is from the city of Wuhan in China and the virus is believed to have been passed to human via bats.
The virus has been disruptive for both people and businesses alike. In the lead up to Lunar New Year, the Chinese government-imposed quarantine on more than a dozen cities in the Wuhan area, covering 50 million people to slow the spread of the virus.
For businesses, quarantine has caused temporary issues. Supply from Chinese factories has slowed, or in some cases halted, as quarantine and an enforced extension of the New Year Holiday period has kept workers at home. This has impacted on global supply chains reliant China for key stages of production. However, as supply from China has halted, other regions within Asia and, indeed further afield, have benefitted. Firms are now looking to diversify supply as a means of protecting themselves against large scale disruption in one region or country.
Source: Bloomberg, data as of February 2020
At the time of writing, the confirmed number of cases is 83,727 with number of deaths amounting to 2,859. This gives the virus a low mortality rate of 3.4%. It is also worth bearing in mind that 36,723 of those 83,636 confirmed cases have recovered, meaning the number patients currently infected is 44,136; a lot lower than headlines would suggest. Furthermore, the vast majority of currently infected patients have symptoms that are characterised as ‘mild’ by health authorities.
We have seen reactions from both central banks and governments in recent days, centred on People’s Bank of China (PBOC) and Hong Kong. The PBoC have cut interest rates to support the economy and in Hong Kong the Government has offered residents $10bn (which works out at $1,280 per resident) to help support economic growth.
Volatility
The virus has had a noticeable impact on asset markets. The chart below shows the Chicago Board Options Exchange Volatility Index (VIX) which measures the volatility of S&P 500 but can also be used to look at the volatility within broader equity markets.
Since the outbreak of the virus (highlighted red) a noticeable pick in volatility within equity markets can be witnessed caused by the initial spreading of the virus in mainland China and the reports of the virus spreading to Europe, most notably within Italy.
Source: Bloomberg, data as of February 2020
However, market volatility can provide opportunities, allowing assets to be purchased at cheaper prices. Within the True Potential Portfolio range, this is exactly what several of our underlying managers have been doing.
Although volatility has picked up recently due to the virus, it is also important to put this into context. If we look at the volatility of the market pre-financial crisis, the level of volatility witnessed from the virus is no different to that of normal market conditions.
Diversification: Asset Market Performance
In turbulent market environments, portfolio diversification is of paramount importance. The following graph helps to show the benefits of holding a diversified exposure, depicting the performance of several asset classes since the start of the year.
What can be seen is the disruptions described above have been reflected in equity markets. The performance of equity markets is the result of changes made to companies’ short-term earnings forecasts, which will have fallen from their initial estimates.
However, not all asset classes held in our True Potential Portfolios have reacted negatively and they are explored below.
Fixed Income
Government and corporate bonds are amongst those asset classes that have delivered positive performance during the outbreak. The performance of corporate debt is interesting and is indicative of the market’s view that companies will be able to service their debt during this period of turbulence.
Government bonds have also provided strong returns over the period as well, as investors turn to state backed issuers.
Safe Havens
Other safe haven assets have also performed well, gold being an example. We have gold and other precious metal exposure in the True Potential Portfolios.
Source: Bloomberg, data as of February 2020.Performance figures quoted in local currency terms.
Concluding Remarks
The true economic impact from measures taken to stop the spread of Covid-19 is difficult to forecast. The more the virus spreads the greater its impact, but long-term investors will be able to navigate through choppy conditions if they bear in mind two important lessons.
Lesson 1 is ‘this too will pass’ and lesson 2 is ‘diversification matters’. Armed with this knowledge investors avoid selling at inopportune times. They can be assured that our managers will be on the look-out for new opportunities.
As the saying goes, the best investment opportunities often occur at the worst of times.
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