April 20, 2020
April 20, 2020 | Adviser News
Economic Update: COVID-19
Charles Stodart, Investment Specialist at Zurich Investments
Light at the end of tunnel?
Another positive week for equity markets, despite a deluge of very weak economic data, shows how much bad news had already been discounted by investors. But near-term economic data is not the primary concern – after all, we already know that the containment measures that are in place will make for grim reading on current activity. Rather the shape of the COVID-19 pandemic is more front of mind and here the news is somewhat encouraging (or at least not as dire as originally projected).
Social distancing has appeared to be effective in both ‘flattening the curve’ and pulling forward the peak of the pandemic. The worst-case projections now seem less likely, notwithstanding the threat of a resurgence in new cases if the dismantling of the containment measures is clumsily handled.
This is important as it allows investors to reassess the duration of the economic disruption caused by COVID-19 and the pace of the economic recovery ‘on the other side’, both domestically and globally, though precision on this remains frustratingly unclear. Clearly, the aggressive fiscal and monetary policy put in place have also played their part in reducing the likelihood of worst-case outcomes materialising.
So how has this been reflected in equity markets? As well as the sharp rally off their March lows (for example, the S&P500 in the US has rallied some 28% since 23 March and is ‘only’ 15% below its February peak), another encouraging sign has been an easing back in volatility, with a possibly telling milestone in the US on Thursday last week.
This was the first trading day in 40 (since February 19) during which the S&P500 moved less than 1%. The volatility that has been on show in the last 6 weeks has been remarkable – since the end of February, more than 24 days have seen moves of over 2%. Volatility hasn’t gone away – the so-called fear index remains at relatively high levels – but we are seeing less of those huge intra-day moves.
Investors will have to stomach some grim reading on the current state of economic activity as the depth of the economic slowdown becomes apparent and we have already seen an alarming pace of deterioration. China has reported that first quarter GDP contracted 6.8% vs the year ago period, the weakest such figure since 1976. In the US, the plunge in industrial production was the most since January 1946 and jobless claims have accumulated to over 22 million in the last 4 weeks. Not surprisingly, forecasts for global GDP have been revised into negative territory for 2020.
We should expect more data along these lines over the next few weeks, maybe months as the impact of the containment measures are laid bare. A further factor will be corporate earnings, with the US first quarter earnings season having already kicked off. Expect little in the way of forecasts as corporates step back from what they can promise in the current environment. In this regard, 2021 provides a more reasonable basis for those looking for more fundamental support to market valuations, but even here the range of expectations will be wide.
Initial steps are being tabled by governments for an easing back in the containment measures. In Australia, Scott Morrison has said that for restrictions to be eased in a meaningful way there needs to be increased testing, better contact tracing and greater local response capabilities. Talk of a roadmap out of containment is a promising and welcome development (though there are challenges here too). However, the pace of the pick-up in economic activity remains hard to judge.
While it is clear that the worst-case scenarios that were being tabled a few weeks ago now look less likely, there is still a long way to go before economic activity fully resumes. The willingness of markets to look through the coming gloom is commendable. Investors should be sure, though, that it is indeed the end of the tunnel that they are looking at.
Sources: Goldman Sachs, Yahoo Finance
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