- An extraordinary economic and health crisis: The economy faces a recession that is likely to be more severe than in 2008-2009
- The authorities took unprecedented monetary and fiscal measures to avoid a liquidity crisis, support the distribution of credit and mitigate as much as possible the effects of the collapse in economic activity
- Even if it is difficult to draft a scenario, one must hope
Bad news, bad memories
While the number of cases has stabilised and begun to decline in China, the epidemic has quickly moved from east to west, hitting Europe hard (particularly and tragically in Italy), then progressing to the US and subsequently to every other continent. For the record, it was on 11 March that the World Health Organization declared the Covid-19 epidemic a pandemic.
Between 12 February and 12 March, global equities (MSCI AC World, in USD terms) lost 26%. This brutal decline, which threatened a liquidity crisis in many financial markets, led authorities to announce emergency measures.
Exhibit 1: Hard times for risky assets (Monthly total return in March 2020 in %, local currency, as of 31/03/2020)
Central banks were in the front line, taking exceptional measures and then ratcheting up them and announcing massive purchases of public and private securities. By 16 March, the quantitative easing programmes set up during the Great Financial Crisis of 2008 were reactivated with a greater scope and new instruments were being considered.
Immediately, governments announced plans to provide fiscal support to businesses and consumers, including the distribution of cash to households, to limit the effects of the loss of economic activity as whole populations were confined to their homes.
Despite the scale of the measures deployed, there has not really been a ‘whatever it takes’ effect, echoing ECB President Mario Draghi's comment in July 2012 during the heat of the sovereign debt crisis. That remark had been decisive in restoring investor confidence in the eurozone. This time, the rally in the main equity indices has remained hesitant. Markets gained a small foothold from 24 March, when the fiscal stimulus announcements took over from the central banks' communications.
Global equities were down by 25% from the end of February on 23 March, marking their lowest since mid-2016. They ended the month with a 13.7% decline. Emerging market equities (MSCI Emerging index, in USD) lost 15.6%, with the indices – particularly in Latin America – suffering large capital outflows.
In assessing the financial markets, investors should take stock of the new situation: the global economic recession is provoking unprecedented policy responses to extreme health risks.
As trading continued, the unrelenting bad news on the pandemic led to declines on the equity markets despite the monetary and fiscal ‘cushion’ provided by the authorities. This helped mitigate market stress.
As an example, implied volatility, which at over 80 had risen to the levels of the Great Financial Crisis, ebbed at the end of the month, but was still high (at 55 for the VIX index against 14 at the beginning of 2020).
Against this background, the fall in equities in March was widespread. Within developed markets, the Nikkei 225 lost 10.5%, the S&P 500 lost 12.5% and the EuroSTOXX 50 16.3%. There was some divergence between local markets, with Italy and Spain, both dramatically affected by the virus, falling by more than 20%.
Exhibit 2: Oil prices plummeted (West Texas Intermediate, USD per barrel, from 03/06/2016 to 31/03/2020)
The steep drop in oil prices (-54.2% for WTI, down at USD 20 a barrel), as global demand fell and amid tensions between oil-producing countries, weighed heavily on the energy sector. Financials suffered from the fall in short and long-term rates as a result of both the monetary policy announcements and the stress in financial markets.
Conversely, healthcare and consumer staples outperformed. Technology also did well, benefiting from the consequences of the containment measures. It also drew support from hopes of a recovery in activity in Asia.
Performance driven by the coronavirus
This situation is likely to continue over the next few months as the pandemic spreads and uncertainty remains about its possible trajectory.
While of course concerned about human losses, markets are also worried about the length of the containment and interruption measures for non-essential activities. These have only just begun in many countries. Updates on the measures will be essential to assessing their economic impact. This will make any consensus on the outlook hard to establish.
However, given the far-reaching measures taken by central banks to prevent a liquidity crisis, on the one hand, and to ensure the transmission of their very accommodative monetary policies on the other, investors should not give up hope despite the severity of the global recession that is looming.
Fiscal packages, even though they have sometimes taken a while to implement, reflect the determination of the authorities to address the economic issues. Fiscal policy, targeted to support demand and help vulnerable households and businesses, can be decisive in avoiding multiple bankruptcies.
After the rout in financial markets unleashed by the sudden realisation of the potential economic and social consequences of the pandemic, some stress indicators have eased slightly on the back of the central banks’ actions.
Against this background, with a medium-term investment horizon in mind, and while some assets have dropped to levels reflecting an extremely unfavourable scenario, we believe it could be appropriate to prudently and selectively make the most of the opportunities that arise.
The approach must remain reactive and flexible. As well as monitoring fundamental factors and market sentiment indicators, investors should keep a close eye on the scientific progress in the fight against the disease. Of course, credible announcements of a treatment or vaccine, or the generalised availability and use of tests, would be a game changer.
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. Past performance is no guarantee for future returns.
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.