Going into the weekend and given recent market movements, here’s an update on the global economy, where we are and what next!
What is happening globally?
As it currently stands, we continue to see an escalation in active COVID 19 cases, and we are now seeing disruption in global travel, consumer and corporate activity, supply chains, and labour productivity due to illness / self-isolation. On Wednesday evening, the US cancelled all travel to the US from Europe bar Ireland and the UK, and yesterday the UK moved to delay phase to try and slow the escalation of new cases, asking those with a cough or a temperature to self-isolate for 7 days. School closures and other containment measures will come, however the UK government is likely to implement these as close to Easter as possible and extend the break either side to try and prevent as much disruption as possible. Other parts of the world are starting to take action, with many closing schools and ceasing large gatherings of people, and we expect based on our analysis for the global economy to move to scenario 3 (as described in yesterday’s market commentary) in the coming days, resulting in two thirds of global GDP being wiped off. That will mean locking down schools, stopping large gatherings and essentially trying to stop contagion by isolation of whole countries and within those countries by restricting travel outside of areas where there are highly concentrated infection rates.
As the world economy is powering down, the chances of a global recession have increased significantly due to a collapse in global demand as consumers stop spending. As a result, no one has any clarity of what the earnings side of the price equation will be for equities. What I mean by that is markets move up and down based on how much profit and dividends (earnings) companies make. If they are not making any profit and dividends are reduced significantly, then the price of the share in the stock market will reprice down accordingly. As no one has any idea how much the drop in consumer or corporate demand is going to be, then we have to assume it is significant. On that basis, even at today’s levels equities are still expensive, and we need to see evidence of how far off the cliff we have fallen when it comes to consumer and corporate demand.
Overall, it is good to remember that since the high in May 2018 of 7778, the FTSE 100 is now at 5578. This is a drop of 28% in less than two years, but for the FTSE 100 to get back to that level it has to grow by 39%. When we buy back in therefore, as long as we buy at a lower point than we sold and the long term trend of growth continues and we again reach the historic highs, over time and in the future, patience and capital preservation always make sense. Remember these are extreme times and extreme action is required, unless you have the stomach to put capital at risk.
Where are we positioned today?
As it stands, we are positioned very defensively with all Multi Asset (tier1) and directional equity (Tier 2) positions removed from the portfolios bar two small positions in the higher risk portfolios that we retained due to volatile market movements. Based on price movements and increasing downside risk on debt, we are also selling down our corporate bond and strategic bond positions over today and Monday (taking advantage of a brief respite in selling), so by next Tuesday, all we will hold for the majority of clients, will be cash and the long hold long lease core positions in property. Our reasons for now also selling down the corporate debt is that the volatility of these assets is starting to rise and with cashflow fast becoming a problem within corporates, with so many unknowns over the coming weeks, we see significant risk of default and re-rating to junk ahead as the situation worsens.
We are therefore positioned with portfolios in very high levels cash, which we are comfortable with as long as the financial situation does not start to cause issues with banks as it did in 2008. If that happens, we will buy short dated government debt despite its price movements to ensure we do not see risk of default.
When will we start investing again?
Despite the markets rising today, they are still significantly down over the week and risks are rising not abating. It is expected when markets fall so much that you get a few days of optimism due to the long hold investor mentality buying the dips, but after the dead cat bounce, selling is likely to resume. The only thing that will stop this happening is for the data and news flow to change, and no one can see that happening in the coming weeks. Although assets are better priced now than they were a week ago or even two weeks ago, there are still so many unknowns and no one knows how bad this will get before it starts to get better.
Buying equities today would therefore be a blind purchase based on the fact that you would hope in 12 months any short-term losses would be recouped. We do not disagree with any analysts that says the chances of the second half of 2020 being good are high, however until we see some form of clarity based on our detail below, we will remain defensive. At some point over the coming weeks and months, we will likely start to invest normally again and it is important that clients accept that when we will do, we will be again be subjecting their assets to risk and asking clients to accept short term price volatility.
When will we consider reinvesting and investing again as normal?
- We need to see the active cases in China continue to abate and not show signs of free movement causing reinfection and rising infection rates again.
- We need to see the active cases globally start to decline again.
- We need to see economic data to reflect how bad the slowdown in consumer and corporate demand is to reflect an understand of the rate of change and potential damage to corporate cashflows and therefore the ability of corporates to service their debt and sustain dividends.
- We need to see manufacturing and services PMI data for March globally to see how bad the potential reduction in activity is, so as to try and ascertain the fallout in both employment and again earnings and cashflow.
Once we have some sight of the above and the extent of the government intervention globally, we will then have an idea when to start investing normally again.
Portfolio & Indices Movements
Global indices continued their downward moves in recent days as coronavirus fears feed through into economic and company forecasts. The portfolios have declined against this backdrop in recent weeks, however following our defensive move, performance remains relatively static while the benchmarks move significantly. It should be noted that the benchmark performances (AFI Cautious and AFI Balanced) in the below chart do not yet reflect yesterday’s decline, while portfolio performance includes performance to close of business yesterday.
In the meantime, have a lovely weekend and stay safe. As regards to OCM we already have staff self-isolating and we have family members that are unwell, so if we are an example of what is happening to the workforce then let’s just look after each other and hope we all get through this. As always, if anyone would prefer to be invested in the long hold portfolio and ride this rollercoaster, just let us know.
Jason & Gina