Investment markets on a rollercoaster

As I look back at the first four months of 2020, this year has certainly been a rollercoaster for investments. After a promising start to the year, equities around the world plunged in March with the UK market ranking among the worst, losing around 33% of its value in a single month. The global coronavirus pandemic caused investors to be gripped by fear, with dire forecasts for both loss of human life and economic catastrophe.

At the same time, the price of oil collapsed from around $70 a barrel at the start of the year to a low of $20 in April, a combination of a slump in demand from the lockdown, excessive supply and international disagreement between oil producing countries. Whilst the world is becoming less dependent on oil, it remains a good barometer for the general health of the world economy.

April witnessed a turnaround as enormous stimulus measures were announced by governments and central banks around the world, amounting to $14 trillion according to IMF estimates (this includes both quantitative easing programmes of buying bonds and government support initiatives). This unprecedented financial support provided markets with much needed stability and liquidity. In addition, in many countries, the peak rate of coronavirus infections appeared to have been reached following a period of strict lockdown.

Indeed, April resulted in one of the strongest market recoveries in living memory, with the US S&P 500 index up over 15% (although still down 5% since the start of the year), and the UK FTSE All-Share up over 7.5% (although still 22% lower since 1 January 2020). A strong rebound was also seen in China, emerging markets and continental Europe. As the market trauma receded, sterling regained some ground against the safe haven of the Swiss franc and euro, but year-to-date, sterling has depreciated significantly against most global currencies, most notably the Japanese yen (9%)and US dollar (7%).

With the month of May now underway, markets have corrected as investors assess the likely extent and duration of the both the economic recession and anticipated recovery. Currently, markets are priced for a ‘V’ shaped outlook, with a sharp drop in economic activity during the lockdown, broadly expected to last for a few months in total, followed by a strong recovery towards the end of the year and into 2021. The worry for investors is whether this thesis, as presented by Andrew Bailey, Governor of the Bank of England, is correct, or should be downgraded to a ‘U’ or ‘W’ outlook, which would suggest a longer deeper recession and more sluggish recovery in the case of a ‘U’ or a double-dip to reflect a second wave of coronavirus in the case of ‘W’.

The extreme volatility which has beset markets reflects the enormous uncertainty. It is impossible to predict the path of coronavirus, the likely success of governments in dealing with it, the risk of a second or third wave of infections or the timing or efficacy of a vaccine. Indeed, much is still unknown about the science, such as the level of immunity which is possible to acquire and whether an individual can be infected more than once. From an economic perspective, the fallout is also highly uncertain. This is not helped by the fact that many companies reporting quarter one earnings are not providing guidance in respect of the outlook for quarter two or beyond based on the high level of uncertainty.

Today, the Bank of England has warned of the deepest recession in 300 years since the South Sea Bubble with the UK economy shrinking 30% in the first half of this year and 14% for the whole year of 2020 and 9% unemployment; but with growth of 15% in 2021 with economic output potentially returning to pre-Covid19 levels by the end of 2021.

Yesterday, the European Commission forecast that the EU economy would contract by a record 7.5% in 2020 with unemployment at 9% and then a recovery to see economic growth of 6% in 2021.

From a global perspective, the respected International Monetary Fund has revised its global growth forecast of +3.3% for 2020 to a contraction of -3%. This drop is unprecedented and dwarfs the 1% contraction globally in the 2008-9 recession. The IMF’s grim forecasts, if correct, would make the current recession akin to the 1930s.

The US economy has stalled with GDP contracting at the sharpest rate since 2008 and unemployment now above 33 million. Quarter one US earnings for companies are on track to register a decline of 15% versus 2019 and 10% down for the full year of 2020, the biggest fall since 2009 and the financial crisis. Even China, which was first in and out of the current crisis, is forecast to see its growth rate cut from 6% last year to around 1%. Recent Chinese business surveys are patchy at best in terms of showing signs of economic recovery, partly as a result of the shockwaves from shrinking global demand.

Interest rates and inflation are expected to remain very low both this year and next year, with interest rates likely to remain close to zero and inflation 1-2% depending on the country and specific measure of inflation. Of course, huge levels of government debt have been built up from the crisis, with many countries witnessing the ratio of debt to GDP to exceed 100%. This raises important questions in respect of how the crisis will be paid for, ultimately requiring either strong economic growth to generate tax receipts, higher levels of taxation or a further round of austerity in respect of lower government spending on public services.

There are also political challenges which could emerge from the crisis with particular economic consequences. In particular, there are concerns that international co-operation could be undermined, global value chains and global trade could reduce and social and financial divergences between markets could lead to economic distortion. Unemployment and business failures could also damage both the social fabric of countries, as well as have long-lasting economic effects. There may also be a reset of psychology in many communities with regard to both work and patterns of spending. There is potentially uncertainty about the future viability of many businesses based on current operating models. Whilst undoubtedly there will be new exciting investment opportunities, there will also be challenges and it will take time for markets to digest the new paradigm.

In respect of our investment approach, our fundamental investment philosophy remains unchanged. We seek to invest in companies and assets with the potential to deliver growth over time, whilst minimising risks as far as possible via global and sectoral diversification. At the current time, our tactical view is cautious, so as to ensure we mitigate market volatility as much as possible and preserve capital from any possible second wave of covid-19 around the world and expected economic impact. This means that our focus is on both secure government bonds and global ‘blue-chip’ equities in defensive sectors of the economy. Our current defensive stance is working well against market benchmarks and straddles the possibility of both a further dip in markets or a market recovery, both scenarios which are possible over the coming weeks and months.

I am often asked why we do not favour gold as an investment. Whilst gold has attracted much media attention, the shares of gold miners are extremely volatile with large political and currency risks and so are unsuitable for private investors other than for speculation. Gold itself as a metal, whilst it has been a very good investment since the start of this year has also been volatile and largely disappointing in recent years, with the price even in the midst of the current crisis only back to 2012 levels; and of course, it costs money to hold and insure gold as an investment and it does not pay any dividends. As such, I prefer to avoid gold and use high quality liquid government bonds as defensive holdings in a portfolio.

As the year develops and the markets digest the poor economic news, investors will look to the recovery as markets bottom out. At this point, I expect we will be in a position to unwind some of the defensive positions and move to benefit from the recovery, targeting markets and sectors where growth is most likely. This is likely to focus on large global companies with a focus on the US and China and companies engaged in growth transformative markets with a technology bias. However, this is most likely still some months away. For now, a cautious approach remains right as the world adjusts to the new reality.

 

Please note, our Market Overview & Outlook is our view of markets and does not constitute investment advice. Past performance is not necessarily an indication of future returns; the value of investments and any income from them is not guaranteed and can fall as well as rise. Overseas investments are affected by currency movements and exchange rates. If you would like investment advice on your individual circumstances, please do not hesitate to get in touch – telephone 01392 875500 info@SeabrookClark.co.uk

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