February’s Newsletter noted that the Virus had reached the financial markets. Since then the reactions and implications have been swift and things really started feeling serious here in Australia late last week. Here’s a summary of events to date and where we are now: 

Equities hit by global growth shocks

• Overvalued equity markets have been hit by two big shocks in short order:
                • Covid-19
                • Oil price collapse
• Either of these would have been bad enough, but all at once they have triggered one of the fastest equity market corrections in history – volatility in equity and bond markets has been extraordinary
• Investors have downgraded global growth and interest rate expectations and rushed to exit risk assets
• This has raised the spectre of the GFC, but we consider this not to be a repeat of the GFC.  This is an event, a health crisis rather than a financial sector failure

Where are we at with Covid-19?

• Just about everywhere – around 120 countries affected and 125,000 + people infected
• WHO says Europe is now the epicentre of a global pandemic – one after the other, European countries are shutting down daily activities to try to contain the spread.  The US is yet to feel the full impact the way other countries already have
• Reports now suggest people with the virus may remain contagious for nearly three times as long as previously thought – implies that quarantining will have to last longer
• Testing processes are improving in a number of countries, but a vaccine still looks a while away
• It is not possible yet see the peak in the timeline of Covid-19 around the world – China is three months into it and claiming success, which would imply another 3 months for the rest of the world (especially USA), which could take us to mid-June

Economics and Markets

• There are two key timelines –  one is the path of Covid-19, the other is the path of the economic data
                • We are only just beginning to see the impact on economic data both in China and elsewhere – the figures will get worse before they get better
                • Markets are thinking recession again but this remains to be seen.  At the moment it looks like Japan and Europe are more likely to have recessions than are Australia and the US, where we expect negative growth in Q2 2020.  Note though that many commentators expect Australia also to enter an official recession.
• The US is key, especially their unemployment rate – if that starts moving up then recession odds rise significantly.  They too have launched substantial economic support packages and have more at their disposal if required.  Coordination and implementation may be their big hurdle.
• While China’s production may be coming back online, that alone is not enough – we need the rest of the world to be ready to buy from China

When will the market turmoil end?  Any good news?

• Volatility will continue until the market sees a believable end point to the growth shock, namely:
                • Covid-19 peaking around the world, especially in the US
                • Economic data starting to improve – which needs Covid-19 to have  peaked
• Authorities providing support to offset the growth shock even if the Covid-19 & economic data timelines have not  peaked
• In reality, markets will want to see all of the above:
• The first two will take a while, as noted above
• The good news is that this is an event and it will end.  The obvious uncertainty is around the timeframe, and what damage could be done in the meantime. 
• The other good news is the fiscal policy responses we are already seeing:  lower cash rates, tax concessions and assistance for business to keep employees on, more liquidity support, bans on short selling, and other new fiscal programs to boost spending and sentiment.  While most agree that monetary policy is almost done with rates at 0.0% to 0.25%, there is still substantial fiscal firepower available.  And it will need to be deployed.  See today’s RBA announcement later in this Newsletter, and also here.   

Sources: RBA, Quilla Consulting, MorningStar, AMP Capital Investors.