Coronavirus (COVID-19) -Global Economic Impact Hard to Quantify
The financial markets have sold off quickly on fears the novel coronavirus will become a global pandemic and will result in a reduction in global economic growth and ultimately company earnings. Many S&P 500 companies have already warned that they won’t meet their sales and earnings targets in the first quarter of 2020. The COVID-19 virus could be preventing consumers both in China and across the globe from shopping and spending money. Complicating matters further China has imposed a lockdown in Wuhan and other cities in Hubei province for more than four weeks. This is one of the largest areas responsible for the global supply chain for many of the major technology companies.
The sell-off no longer looks tame and it is likely the coronavirus will result in slower global growth and may even push the global economy into a recession. The US markets wouldn’t be immune and that is why investors are selling stocks with vengeance, especially the technology names that have participated so nicely in the market advance.
The question becomes; if the virus spread cannot be stopped, how much will the spread impact economic growth and for how long?
Before jumping to conclusions, investors must understand how far U.S. financial markets have advanced from their December 2018 lows. Valuations were extended before the sell off and now after the sell-off stocks are less expensive, unless earnings truly do collapse then we think a Bear market cycle will be inevitable.
What causes a Bear Market? A recession is a good place to start. A recession is defined as two quarters of negative economic growth. While that is possible in this case, the big difference is the virus isn’t permanent. Demand will recover. And if the virus flames out over the next 6-12 weeks or if a vaccine becomes available in a reasonable amount of time, we think the U.S. financial markets can recover.
Also supporting the bullish case, is stocks do well generally during an election year. President Trump wants a strong stock market heading into his November re-election campaign. Plus, interest rates are low and going lower. The lower rates could also be sending a recession signal. The Federal Reserve is ready to help avoid a recession, but at this point, our concern is they may have run out of ways to use monetary policy to sooth market and investors recession fears.
We must add that the similarities between this sell off and the Great Recession are very low. The bond market is functioning normal and all of the US Money Center banks are well capitalized. Recall in 2018, the entire United States banking system was on the verge of collapse. Banks in the United States today are well capitalized, and their loan portfolios contain much better or more stable assets backed by stronger borrowers. In addition, the bond market has advanced during the sell off. During the Great Recession, returns declined 20-25% in the fixed income markets.
If you agree with the above premise that the spread of the coronavirus may lead to a global recession, then it may be time to reconsider your equity exposure. However, if you are more in the base case camp and think this too shall pass, then now is a good time to dip your toe back into the equity markets. This is where we stand and accordingly will be re-balancing accounts back to target allocations.
Please give Lars, Dan, Mike or me a call if you have questions about your portfolio. We are here to be of service and understand for many of our clients these types of market events are very scary and difficult to understand.
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