Keep Calm – Coronavirus Contagion Weighs on Markets, Issue 343, March 2020

By Brian Butchart, Managing Director and Key Individual, Brenthurst Wealth Management

Global markets suffered the worst fall last week since the 2008 financial crisis, amidst concerns that the Covid-19 virus is spreading rapidly and may result in a global recession.

The S&P 500 and other global markets were down just over 10% but less than 20%; defined as a technical correction. The weaker rand followed suit with most other emerging market currencies, buffering short-term US Dollar vola-tility for SA investors.

The fear factor for investors is driven by uncertainty and the impact on global growth as airports are shut down and global trade halted, as authorities attempt to contain infection.
Economists were forecasting a V-shaped recovery in global growth as the China infection rate continues to drop.

However, the rapid increase in cases in the rest of world, particularly in Italy, Iran, South Korea and Japan, spooked markets. Gold reached a seven-year high as concern over the economic impact of the coronavirus boosted demand while yields fell below 1% on US treasuries as money poured into traditional safe-haven assets. The Yen, another traditional safe-haven destination, collapsed due to Japan’s reported escalating Covid-19 cases and there is now talk of the Tokyo Olympics being cancelled.

Well respected global financial analysts, Morningstar, monitors more than 250+ markets to assess fundamental risks and search for contrarian oppor-tunities. After assessing nine outbreaks since 2003, including SARS, Ebola, Zika, Swine flu and others, their view; there is very little evidence linking global epidemics with long-term investment fundamentals.

Optimum Investment Group seem to agree, “During the last few years, the world has seen several epidemics. Looking back at these events helps investors to understand the impact on financial markets. The data below shows the global equity market returns following several epidemics. It is clear, that mar-ket participants react to such unforeseen outbreaks initially, but markets tend to recover by the six-month mark. This suggests that sentiment drives early losses, but sustained economic impacts are less than perhaps investors feared at the onset.”

In reaction to last week’s tumble, the US fed announced on Friday that they are closely monitoring the impact of the Coronavirus and open to cutting interest rates on evolving risks to sustain the country’s longest ever expansion as the fundamentals of the US economy remain strong according to Fed chair, Jerome Powell. This seemed to alleviate some concern; with US markets moving upwards towards the end of the closing session on Friday, and Asian and US markets closing strongly in the green on Monday.

Global growth to slow

The most pressing question is about growth and to what extent global businesses will be forced to shut down, as happened in China, to contain the virus. The crisis is not the most lethal of the past 20 years (Covid-19’s mortality rate is about 2% – compared to 90% for Ebola, 30% for MERS and 10% for SARS), but it could prove the most economically disruptive. The good news is that new cases are at a month low in China and recoveries continue to accelerate. President Xi Jinping has also urged businesses to get back to work and factories to re-open. The World Health Organization has stated on more than one occasion that it is too early to declare Covid-19 a pandemic, although it has the potential to become one and this is the time to prepare.

A global recession is defined by the IMF as growth lower than 2.5%, not zero; growth was 3% last year and was forecast at 3.4% this year, but given Covid-19’s impact, global growth is likely to be back to 3.0% – or slightly lower.

So the question is – Does Covid-19 trigger a change in strategy?

Brenthurst has for several years now created multi asset strategies with a bias towards income funds locally in SA, with little to no local equity exposure and a higher diversified offshore allocation.
Income instruments invested both locally and abroad, built into our current portfolios will provide protection and stability, while global equities should recover over the next few months as long as the current risk subsides, as we expect it will.

Although we remain vigilant and continue to follow the impact of COVID-19 we do not advise any imme-diate knee-jerk reactions which could incur unnecessary capital gains tax. We are confident most governments are committed to mitigating and containing any outbreaks and it seems China’s new cases are already in decline.

A short-term correction, considering how well international markets have done over the past few years was perhaps necessary and welcomed as valuations continued to escalate. We are closely following the impact on markets, and are currently implementing some changes to the Brenthurst fund of funds, where there is no capital gains tax implications to further protect clients invested in these solutions, which we will report on in a follow up newsletter.

Despite the sell-off in international markets last week, we want to encourage our clients not to panic, as Brenthurst remains cautiously optimistic for a positive year in global equities, despite the current fear.