Richard Potts, Chief Investment Officer, IM Asset Management Ltd
We’re now entering the fourth week of our shutdown with few, if any, signs of the virus slowing in the UK. There do, however, appear to be positive developments in other parts of the World, including the US.
Is the worst behind us?
For the time being, financial markets are assuming that the worst news flow, at the aggregate rather than personal level, is behind us. I somewhat doubt that as we are moving into the period where the real cost of the global shut down is beginning to emerge.
This week we see the real start of US companies reporting for activity in Q1 2020 and outlook for Q2. It won’t be pretty – there’s little incentive for companies to paint an optimistic picture of the short run - but there will be plenty of talk about their franchise value and opportunities being thrown up.
Not all of this is mere platitude, which is why we’ve been buying into those companies with strong balance sheets, solid franchises and essential activities. Demand for housing and energy, for example, is going to remain whatever the medium-term consequences of covid-19 are. What’s more uncertain is how much we will travel or engage in communal activities until there is an effective vaccine.
Has the low been made?
Markets continue to trace out a bottoming pattern, albeit one with a degree of volatility, although nothing like we saw three weeks ago. Has the low been made? We don’t know but at the moment we are assuming it has.
It would be nice to have more positive news on the progress of the virus, which everyone identifies as being the sign that the bottom has been made. Given that this represents consensus opinion, it’s probably going to be wrong and the bottom has been made based on the precipitous actions of the authorities in backstopping economies and markets.
Last week the US saw markets rise by the most since either 1974 or 1938 depending on how you calculate it. We saw more of this support on Thursday and Friday of last week:
- The US announced another $2.3trn loan package which will see them buy non-investment grade bonds and bonds that have been recently downgraded. This represents a further widening of the net but still sees a large pool of non-investment grade debt with no support and consequently widening spreads. This is where the problems are going to emerge in the coming months and will be a potential source for additional volatility.
- At the same time the US Federal Reserve made it clear that they are not done yet and they have ample scope to provide further support.
- Europe, while still slow compared to the US, announced as 500bn euro rescue package. While there was (and remains) some squabbling, France and Germany came together and pushed it through. Talk of euro-wide coronabonds remains which would represent a massive boost to Europe and market sentiment if it happened.
- There’s an unprecedented agreement across the US and all G20 countries to back OPEC and Russia in limiting oil production and to buy up excess production. This includes a commitment to do whatever it takes both individually and collectively to ensure the energy sector makes a recovery. The US President backing a move to interfere with the free market and push up prices to US consumers is startling but prudent. By our calculation, the fall in oil prices and knock-on impact on oil company share prices accounted for 5% of the markets overall fall. Reversing this should be another leg in restoring stability.
Lessons have been learnt from the 2008-09 crisis and have probably, so far, prevented a much larger decline.
Almost globally we have seen:
- A quick response to get ahead of expectations
- Global co-ordination between Financial Authorities with swap lines put in place: you need US dollars to protect a selloff in your currency, the US will give you all you need thereby preventing a liquidity squeeze
- Quantitative Easing (QE) was reintroduced
- Money markets were flooded with liquidity so no strains emerged
- Short-term funding for businesses was provided in the Commercial Paper market
- Politicians forgot all their qualms about debt and borrowing.
Having spent the last 10 years promoting austerity as a policy, it’s quite remarkable how much debt -has been agreed. The numbers are eye-watering and there is going to be a consequence down the road but that’s for another time. It could be more austerity or it could be Monetary Financing (if anyone can agree what that means), or it could be what happened after the wars.
Only time will tell, but more is possible. As it stands, the Fed and ECB’s balance sheets are 40% of GDP. but Japan’s central bank stands at 100%.
Money isn’t going to resolve this crisis; reducing infections is what will. Money can and is dealing with the fallout and there is plenty of that still to be called on if necessary. Down the road, questions are going to be asked about the merits of austerity.
The information and opinions expressed here are not investment advice and are subject to change. Past performance is not a guide to future returns. The price of shares and any income from them may go down as well as up and you may get back less than you invested. Whilst every effort has been made to ensure the accuracy of the information contained within this document, we regret that we cannot accept responsibility for any omissions or errors. All data is sourced by IM Asset Management Limited unless otherwise stated.
All financial and wealth management services are provided by IM Asset Management Limited which is authorised and regulated by the Financial Conduct Authority, FCA Firm Reference Number 402770 and registered in England and Wales under Company No. 05016348 Registered Office: Riverside East, 2 Millsands, Sheffield, S3 8DT Vat registration no: GB 945 758768.
Back to coronavirus hub page