Last week’s drop in the S&P500 index may appear precipitous, but a look at the chart shows that the decline so far has not been by as much as in past plunges by the US equity market benchmark when global epidemics have hit investor sentiment.
While the recent fall has been much swifter than on other occasions, when the Asian and Hong Kong influenza and SARS struck, we believe there is potential for yet further declines.
Source: FactSet, BNP Paribas Asset Management
This stems from a number of factors. With the US economy growing at around only 2% year-on-year, it would take a relatively small drop in the output of goods and services to fan recession concerns. Accordingly, we now see a non-trivial risk of recession in the world’s largest economy. The latest purchasing managers’ indices have dropped sharply.
The mortality rate of the coronavirus is relatively high, confronting the US economy and its healthcare system with an unprecedented challenge.
Before the outbreak, estimates were calling for an increase by about 8% in earnings per share for US companies, 6% for European companies and 10% in China.
The effect of the virus on trade, tourism, transport, energy, retailing and other business could mean these expected earnings growth rates will be halved. That would imply a decline in the equity market indices by 2-4%. Were growth to fall to zero year-on-year, prices should adjust by 6-7%.
Equity valuations would have to be adjusted. And in the US, those valuations are still at levels that are not truly cheap, although perhaps reasonable, but in particular not for the technology sector. Elsewhere, valuations are nearer historical averages.
Finally, a crisis over the coronavirus outbreak could represent a political risk in that a downturn might undermine president Trump’s re-election claim that his administration has managed the economy successfully.
Any strains on the healthcare system might lift the odds in favour of the opposition Democrats who have promised improvements and criticised the partial repeal of Obama care.
Any views expressed here are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may hold different views and may take different investment decisions for different clients.
The value of investments and the income they generate may go down as well as up and it is possible that investors will not recover their initial outlay.
Investing in emerging markets, or specialised or restricted sectors is likely to be subject to a higher-than-average volatility due to a high degree of concentration, greater uncertainty because less information is available, there is less liquidity or due to greater sensitivity to changes in market conditions (social, political and economic conditions).
Some emerging markets offer less security than the majority of international developed markets. For this reason, services for portfolio transactions, liquidation and conservation on behalf of funds invested in emerging markets may carry greater risk.