Navigating markets
The COVID-19 outbreak has created an 'overnight' global shutdown without precedent, and without much certainty as to its resolution.
Central banks and fiscal authorities have responded with an impressive range of tools to support business and individuals, laying the groundwork for an eventual recovery.
Key Webinar Takeaways
Key Webinar Takeaways
- The COVID-19 pandemic has triggered the most abrupt global economic shutdown of modern times, and we believe the downturn will be deeper and more global in nature than the Global Financial Crisis of 2008/2009.
- We believe the economy is in a better position to recover quickly once the health crisis subsides due to fast and creative monetary and fiscal support around the world, which has already gone beyond what we saw in 2008/2009.
- From here, the key for markets is what happens with healthcare. That includes ensuring hospitals are not overwhelmed, widespread testing and tracking, and most crucially, developing effective antiviral therapies.
- Over time, aggressive monetary and fiscal policy has the potential to create inflation, which would significantly change the dynamics for asset allocation.
- Post-pandemic, deglobalization, greater use of digital options and a new appreciation of sustainability will create new investment risks but also create opportunities.
Evan Brown, Head of Multi-Asset Strategy
Evan Brown, Head of Multi-Asset Strategy
The COVID-19 pandemic continues with the US and Europe (ex-Italy) generally following Italy's trajectory of new cases, although at a somewhat faster pace. The economic shock also continues to grow, with new unemployment claims in the US shooting up to 6.6 million the week ending March 28, double the 3.3 million the week before.
Monetary and fiscal policy has played an enormous role in preventing this health and economic shock from turning into a financial crisis. The response has been faster, more creative and far more comprehensive than during the Global Financial Crisis of 2008/2009.
In the meantime, global stimulus programs are providing necessary economic relief now, and 'laying foam on the runway' for an eventual rebound.
Stimulus will support an economic recovery once the pandemic is under control, but asset allocators are already assessing how it will change the investment landscape.
Our base case and negative scenario
Our base case - admittedly there's wide latitude around this - is a gradual re-opening, starting in mid-to late-May, with most mobility restrictions wrapping up by the end of June. The negative scenario has a longer shutdown or a second wave of infections later this year.
Fiscal stimulus will easily exceed the 2008-2009 response
While a vaccine is 12 to 18 months away, successful trials and ultimately widely available therapeutics would go a long way in restoring consumer and business confidence. We expect to have more information about such medications by the end of this month, which could prove an important market catalyst.
In the meantime, global stimulus programs are providing necessary economic relief now, and 'laying foam on the runway' for an eventual rebound.
The investment landscape will change as growth returns
At the moment, the global economy is experiencing a disinflationary shock. But when the economy recovers and considering new supply constraints and the degree of monetary and fiscal stimulus, investors should not rule out the return of inflation.
Historically, inflation above 2.5% was enough to shift the negative stock/bond correlation we've experienced over the last 20 years back to the historical norm of a positive stock/bond correlation. If central banks continue to keep rates low, we at the very least will move from a negative to flat stock/bond correlation over the medium term.
This presents a challenge to asset allocators looking to diversify equity exposure. This is a good time to consider alternatives for hedging different macroeconomic outcomes. Investors may consider liquid real assets, absolute return or risk control strategies.
Historically, inflation above 2.5% was enough to shift the negative stock/bond correlation we've experienced over the last 20 years back to the historical norm of a positive stock/bond correlation.
If central banks continue to keep rates low, we at the very least will move from a negative to flat stock/bond correlation over the medium term.
Massimiliano Castelli, Head of Strategy, Global Sovereign Markets
Massimiliano Castelli, Head of Strategy, Global Sovereign Markets
One way to understand the investment implications of the crisis is to look at sovereign institutions -- central banks and sovereign wealth funds around the world -- which are among the largest institutional investors.
These funds have different investment profiles, some require more liquidity while others are broadly invested in long-term alternative assets. Equity allocations have generally risen over the years for most of them because of equities' better expected long-term return given the low interest rate environment.
Sovereign funds' surprising reaction to the crisis
So far in 2020, losses for sovereigns have been around 12% to 15%. Equity markets are down around 25%, cash rates are around 0%, while long-term debt yield is an ongoing problem.
What are these funds doing?
Based on anecdotal evidence, we can say this:
- we haven't seen panic selling
- central banks' stimulus programs have improved the liquidity situation
- these funds traditionally are big on rebalancing, but...
- they are not rebalancing yet
The market sell off has significantly improved the five-year outlook for some key risk assets, while fixed income investing will remain a challenge.
We believe this is due to uncertainty about the markets and we believe many will wait until the environment is less uncertain. The market sell off has significantly improved the five-year outlook for some key risk assets, while fixed income investing will remain a challenge.
I believe some are increasing exposure to the US and Chinese equity markets, which continues a pre-pandemic trend.
The pandemic is accelerating long-term trends
We see several ongoing global trends that we believe are being accelerated by reaction to the COVID-19 pandemic. Three in particular have significant implications for investors.
The past two decades of asset returns, 2002-2019
Historical returns and standard deviation, 2002–2019
The most obvious is de-globalization. Value chains are shortening as the pandemic underscores the ongoing trend of bringing production within borders. One example: The ongoing US-China decoupling.
The pandemic will drive increasing use of technology and the digitization of many businesses, particularly in countries that lagged behind the leaders.
Sustainability has been a concern for investors for some time. We believe concern about sustainable economies will broaden generally once a rebound gets underway.
Q&A
Q&A
