i-Wire: Market Update 30th March

  • The Covid-19 virus continues to spread with tragic effect and the UK and US are at the point of the curve where the pandemic is set to escalate.
  • The markets are discounting that we face a massive fall in growth over the next two quarters but have been heartened by the huge monetary and fiscal response by the authorities.
  • This led to a strong bounce in equity markets last week but we see this as part of a ‘floor finding’ mechanism, not a sign that the markets have turned any sort of corner.
  • The markets will be driven by daily newsflow and we fear that the fragmented and delayed response to the pandemic in the US is a particular concern.
  • We continue to believe that long term investors should not ‘cash out’ of their portfolios however difficult it feels in the eye of the storm. History shows that markets recover and then go on to produce returns that are well ahead of inflation.
  • As we have said before, our first concern in managing your portfolios is to avoid making short-term ‘own goal’ errors. We need to make considered changes when the market is less volatile to make sure we get it right for the ‘new’ and very different long term.
  • Our first move on re-entering the market is on portfolios with high cash balances where we are adding a high quality investment grade corporate bond fund where we think the extreme widening in spreads offers a good entry point given the lack of default risk in the underlying portfolio holdings.

 

Last week the sun shone, making our ‘lockdown’ more bearable, whilst the clocks turning forwards heralds the onset of spring. The stock markets went up as the weekly returns for the major indices in their own currencies shows

As last week, I’ve re-run these charts translated into sterling as they are for UK fund holders

As I write these words on a Sunday afternoon though there is actually a flurry of snow outside and yes, I am ‘locked down’ in Sussex not Greenland. The weather though is a useful metaphor for the markets, one swallow does not a summer make and we see last week’s behaviour as typical of stock markets trying to find a floor after a huge fall, not a sign that the worst has been passed.

In the short-term the balance is between how the market perceives the scale and likely effectiveness of the policy response versus the spread and severity of the pandemic. The markets responded positively to the scale of the unprecedented monetary and fiscal response policy from Central Banks and Governments with double digit bounces but ultimately it will be the daily path of the pandemic that is driving financial markets. The market won’t think ahead about the policy response if the medical bulletins worsen more than the already awful expectations. While the spread of the virus is escalating, especially in the US where the medical response has been delayed and fragmented, then sentiment will continue to be negative; if though there is a sense that the peak of the curve has been passed and that the policy response cavalry will save the day then the rebound could turn quite rapidly into a full recovery.

 

 

 

 

As you know, I like to use the sector average returns as the best shorthand of what has happened year to date and here they are up to the end of last week, though they do not reflect the large fall in the US market on Friday.

 

IA Sector Average

 

Q1 2020 (%)

UK All Companies -28.4
UK Equity Income -28.8
Europe ex-UK -19.2
North America -14.3
Japan -11.6
Asia Pacific ex-Japan -16.2
Global Emerging Markets -19.8
UK Gilts 7.3
UK Index-Linked Gilts 5.4
Sterling Corporate Bonds -4.9
Sterling Strategic Bond -6.2
UK Direct Property -0.3

Figures from Financial Express Analytics

The returns from the equity sectors are at least a touch better than last week after the bounce in markets last week and corporate/strategic bond funds also showed some improvement as credit spreads have narrowed a touch. The UK Property sector return gives a false sense of safety with all the ‘bricks and mortar’ funds now closed to redemptions and facing significant write-downs when the commercial surveyors are again in a position to make valuations.

Binary nature of markets

What is hidden within these single-number market returns is their ‘shape’ which currently is a very binary ‘risk on/risk off’ pattern. Over the last six weeks, ‘risk off’ has been as strong a driver as it has historically ever been, across all asset classes.

  • Quality growth equities (technology, healthcare, consumer staples) outperforming cyclical and recovery value stocks (energy, industrials, financials, consumer discretionary).
  • Government bonds have outperformed corporate bonds as credit spreads (measure of risk) have widened exponentially.
  • Gold has outperformed oil and copper.
  • The safe haven currencies such as the US dollar and Japanese yen are outperforming the weaklings, notably sterling. This is the major contributor to the better performance of overseas fund when compared to UK funds.

In keeping with this ‘binary’ approach, last week’s short lived bounce had a very ‘risk on’ feel to it so the big energy companies for instance bounced strongly after weeks of being pummelled, credit spreads narrowed so a better few days for corporate bond funds and sterling gained 5% against the dollar, yen and euro.

Next week we shall be digitally distributing the quarterly newsletter which will have a different format to usual given the circumstances and will be an extended and more detailed version of our weekly notes. In the meantime, as we approach the worst weeks ahead of us,  we wish you and your families the sincerest of good health.

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