Coronavirus Update - 12 March 2020

The COVID-19 crisis is moving fast. There are lots of different variables to consider, and markets remain extremely volatile. We don’t believe this painful period is going to end anytime soon.

Our portfolios are in a good place – globally diversified, and with lots of defensive assets in place and doing their job. We’ve made some small defensive tweaks to our exposure over the last few weeks, but this is not the time to be taking big decisions in any asset class. We trust our Strategic Asset Allocation (SAA), and maintain our conviction in our tactical allocations such as healthcare stocks and alternatives.

• The World Health Organization (WHO) declared COVID-19 a pandemic last night. That acknowledgement doesn’t actually change anything – the WHO suggests measures such as border closures and school closures, but it is up to individual countries to take action.
• In the US, the White House has begun to accept that COVID-19 is not going to go away if they just ignore it. However, Mr Trump’s response is bizarre. Restricting flights from Europe achieves nothing, given that the virus is already on US soil. A concerted national response is needed, both to stop the spread of COVID-19 and to stimulate the economy – but there’s still no sign of that kind of response. US equity markets have plunged nearly 10% in two days, suggesting that investors agree.
• Yesterday, the UK announced measures to tackle the economic impact of COVID-19 (see our article for more info). Of course, no one knows exactly how much support is needed, but the proactive and coordinated responses by the Bank of England and the government were broadly met with approval from the financial markets. But the UK is only a small part of the world economy.
• Italy has stepped up its lockdown. Shops are closed except for those providing essentials like food and drugs. The Italian health service has announced that it is struggling for medical supplies – and so far, only China has responded.

Longer-term outlook

At the start of 2020, we were pretty optimistic about the global economy and couldn’t see any sign of global recession on the horizon. We believed there were three things that had the potential to change that positive view – a rise in bond yields, a commodity price shock or something idiosyncratic.

In the last few weeks, two of the three have become reality.

Coronavirus. The impact of COVID-19 is spreading through the developed world. The Italian government’s response has been severe and immediate – the entire country is now on lockdown. Such measures are likely to be positive for preserving human life, but set a template for a far longer and more difficult period of economic disruption if other Western nations follow suit.

Oil price shock. With Russia refusing to cut production to boost prices, Saudi Arabia’s decision to flood the world with oil has caused concerns about oversupply at a time where demand is the most uncertain it has been in five years. A 20% one-day fall in the oil price certainly counts as a commodity price shock.

These two factors materially increase the chances of a recession in the main economic regions. There is an important distinction to be made.

If the Chinese stitch-in-time responses can be replicated across the world, COVID-19 may simply cause temporary economic blips through periods of shutdown, then fiscal stimulus should restore the positive growth trend towards the end of the year. Equity markets might look through the short-term panic, perhaps even viewing the fall in the oil price as an added boost for consumers.

However, if countries are slow to react, then the eventual recessions could be much worse. If large parts of the developed world shut down for extended periods then fiscal responses will be aimed at providing basic goods and services, rather than economic stimulus. Monetary responses will be ineffective – nobody takes out new loans when they are worried about leaving their house.

Our portfolios have held up well.

• Our SAA is providing diversification, with fixed-income allocations protecting client assets as intended

• Our tactical positioning has added value over and above the SAA.

- Healthcare stocks have been sheltered compared to wider equity markets

- Our alternatives portfolios have been performing very strongly as markets have fallen – gaining in value when we most need them to.