Global Markets to 03 February 2020
- Global equity markets suffer the effects of the coronavirus as the epidemic spreads beyond China.
- The UK finally leaves the European Union. The task for London and Brussels now is to carve out a trade deal before the end of the transition period.
- Governor of the Bank of England Mark Carney makes his last official statement on UK interest rates before handing over to his successor Andrew Bailey (currently head of the FCA).
- The bond markets rally under the effects of the coronavirus and weakened economic data from the eurozone as investors seek safe-haven assets.
- In the commodity markets, gold remains a favoured asset class among global investors, drawn by the safe-haven appeal of the yellow metal. But concerns over weaker global oil demand hit the price of Brent Crude Oil.
- The unknown unknowns are always what prompt a pull-back in the financial markets. The coronavirus has arrived and created exactly that.
Global Market Summary
The spread of the coronavirus to countries beyond China – together with increased fatalities – has had a short-term effect on the financial markets.
History is peppered with tales of the calamitous effects of epidemics. The Antonine Plague of 165 AD (also known as the Plague of Galen) killed five million people and decimated the Roman army. The biotechnological expertise to which we now have access simply did not exist back then, and the disease raged for 15 years before eventually dying out.
At least a dozen biotechnology companies have informally or formally announced vaccine or drug development initiatives that will move into clinical testing within the next few weeks. These remarkable biotechnology companies are experienced in the rapid development of treatments and preventions for viruses, such as the coronavirus: during one of the recent Ebola outbreaks, a certain US biotechnology company developed and validated its therapeutic drug in only six months.
The financial markets had started the new year extremely optimistically: a phase one deal had been struck by the US and China, and Prime Minister Boris Johnson was committed to forging ahead with his “get Brexit done” plan. But those unknown unknowns are always lurking in the background: the coronavirus is one such unknown that has upset market sentiment and damaged investor confidence.
So far, the Asian markets have suffered the most, while the US markets have remained relatively unscathed. Airlines and luxury goods businesses are obviously among those companies which have the highest risk to the effects of the virus, as people anticipate reduced travel and less high-end discretionary spending. There will also be ramifications for the oil and commodity businesses, as investors evaluate the likely impact on the Chinese economy.
Meanwhile, the longer this viral contagion continues, the worse it will be for the global economy: since many of the tariffs announced over the course of the trade war had been withdrawn, a pick-up in global GDP had been predicted for this year. It had also been anticipated that the Federal Reserve Bank would make some changes to US monetary policy, reducing its balance sheet (which in any circumstances would be challenging for the markets). In light of recent events, there may be further interest rate cuts, which would support asset prices and lead to a melt-up in the stock market.
The Chinese have more options for expanding their economy: the authorities could lower interest rates, relax bank capital requirements, expand the budget deficit and bring forward more public sector borrowing, while offering a bigger boost to small businesses.
Further turbulence in the equity markets is expected as the coronavirus takes its toll. But with time, some level of normality should return and risk assets should be driven by encouraging fundamentals as the global economy gets back on track.
The UK has finally left the European Union, but the task for London and Brussels now is to negotiate a trade deal before the end of the transition period. However, Boris Johnson has already made it clear that he will not align with EU rules when the UK negotiates, which is likely to make carving out a deal more challenging.
The EU’s chief negotiator Michel Barnier has warned the UK that it still faces a potential Brexit cliff edge if trade talks are not fruitful. He has, however, pledged to work tirelessly to conclude a deal.
Last week, Mark Carney chaired the Bank of England’s Monetary Policy Committee for the last time in his capacity as its governor. The Committee decided to leave rates unchanged and wait for new governor Andrew Bailey to chair the next meeting in March. This will leave the new governor with enough time to digest what Chancellor of the Exchequer Sajid Javid says when he presents his first budget on 11 March 2020.
Although there were some suggestions that the current situation might lead to either a rate cut or to a rise in borrowing costs, the Bank indicated that interest rates would remain on hold for the rest of the year. In actual fact, much might depend on the three Bs: Brexit, Baily and the Budget.
In Europe, the latest Eurostat data shows that growth in the eurozone slowed towards the end of last year, with both the French and the Italian economies shrinking unexpectedly. This latest news is a clear disappointment for the European authorities – all the more so since the coronavirus epidemic will potentially lead to global activity shrinking further over the first quarter of the year. This will not bode well for the eurozone.
Some asset classes, however, have benefited from the current situation. The virus and disappointing economic growth data have helped to extend a rally in government bonds as investors de-risk their portfolios in favour of less risky asset classes. Also, gold has been a popular alternative to bonds: there is a total of US$13 trillion of negative-yielding debt throughout the world. Although gold has no yield, it does have the ability to deliver capital appreciation, especially when the environment is favourable for this precious metal. The central banks are also keen buyers – they purchased 650 tonnes last year, according to the industry body, the second-highest level of annual purchases for 50 years.
Given that interest rates and bond yields are likely to remain ultra-low for many years to come, gold could become the global investor’s asset class of choice in uncertain times: it is liquid, and if you hold gold-backed exchange-traded funds, then you do not have counterparty risk.
Finally, the unknown unknowns are always what prompt a nasty pull-back in the financial markets. As it happens, the coronavirus has come along and created exactly that. But the likely outcome is that biotechnological innovation will ultimately come up with a treatment and a cure.
We therefore very much believe that this pull-back in global equity markets has actually created another interesting buying opportunity. History has at least taught us that. And as far as the markets are concerned, the US has once again demonstrated its robustness in the face of unknown events.
As it happened, last week’s US corporate earnings announcements saw many companies report strong numbers – particularly Amazon, whose share price soared to a record high after reporting its fourth quarter’s results.
Asia and the world’s emerging markets have manifestly taken the biggest hits from the coronavirus. But we like these regions from a long-term perspective, particularly some of the consumer stories. The same applies to China, where people aspire to owning their own properties, travelling globally and buying luxury goods, all of which creates a huge consumer base.
We continue to like Japanese stocks on valuation grounds and robust balance sheets. Japan is also hosting the 2020 Olympic Games, which is set to be wonderful spectacle following last year’s highly successful Rugby World Cup.
Once again, both Europe and the UK offer investors interesting investment potential. But over the short term, they are likely to be hampered by ongoing Brexit issues and internal political and domestic complexities. Nonetheless, attractive valuations could see asset allocators increase their weightings towards these regions over the coming months.
While the beginning of 2020 has been a roller-coaster ride for global investors, we still feel fairly confident that the rest of the year will offer some good investment opportunities, whether it be regionally or thematically.
Peter Lowman is the Chief Investment Officer at Investment Quorum, a Director of the company and an integral member of our investment committee.
This article does not constitute specific advice and investors should bear in mind that capital invested is not guaranteed. Investment Quorum is authorised and regulated by the Financial Conduct Authority.
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