- Cases of COVID-19 have peaked in China and situation looks contained within the province of Hubei. Economic activity is slowly resuming. However, news that the virus is spreading outside of China, notably in South Korea and Italy, caused a sharp equity selloff in recent days.
- Monetary and fiscal response already announced, but expecting more, notably from the Fed and BoC as soon as March or April. The next couple weeks will be critical to see if more cases are confirmed in Europe and North America. If drastic containment measures are employed, the impact on growth will be more significant.
- While we are closely monitoring the situation, we have not responded to recent virus developments as we continue to anticipate the negative drag on economic activity and profits will be short lived, followed by a strong rebound magnified by fiscal and monetary stimulus.
- We are maintaining our main portfolio tilts modestly favoring stocks to fixed-income, hedged with a small overweight to duration.
COVID-19 pandemic fear creates speed bumps for stocks
Investors were spooked this week with a surge in new cases of COVID-19 outside of China, most notably in South Korea and Italy, causing sharp a selloff in equity markets and a freefall in government bond yields. Meanwhile, the spreading of the virus in China appears to have peaked around February 5th (Figure 1), which is helping daily life and economic activity to gradually resume. The impact to global equity markets has been relatively even across regions following a strong negative reaction against EM stocks and commodity prices in late January. Warning from the U.S. CDC added to the anxiety, while firms are increasingly ringing the alarm bell over the impact of the disruption on their Q1 revenues and cutting guidance.
Figure 1: China new COVID-19 cases
Source: World Health Organization (WHO) COVID-19 Situation Reports.
We are closely monitoring live measures of economic activity in China, from home sales to coal consumption (Figure 2 and 3). Consensus expectation is for China’s economy to recover by end-March ex-Hubei Province, and a bit later for Hubei in late April.
Figure 2: China Home Sales
Source: CEIC, Wind, Barclays Research. Data as of February 21.
Figure 3: China Power Plant Coal Consumption (10k ton/d)
Source: CEIC, Wind, Barclays Research. Data as of February 21.
The next couple weeks will be critical to see if significantly more cases of the virus are confirmed in Europe, and to see how far the virus spreads in North America. If drastic containment measures such as mass confinement and quarantines are employed, which will have a magnified impact on confidence, the impact on growth could be more significant. Although it’s difficult to estimate the drag the virus will have on global economic growth and profits, we are optimistically expecting a sharp rebounding process starting in the spring and into the summer, assuming the planet does not plunge into self-quarantines.
What does it mean for investors?
Fear of pandemic is a highly unusual and uncertain risk event for investors to analyze. Kicking-off 2020, our positioning reflected a cautiously optimistic view of the world with a modest overweight to equities versus fixed-income, with a persistent preference for U.S. stocks, where growth and profits remain more robust. To hedge this moderately bullish view, we also have a small overweight to fixed-income duration as we believe the bar for central banks to remove their dovish bias is high.
Near term, we expect monetary policy to continue support financial conditions in a meaningful way. Fixed-income markets are increasingly pricing for additional rate cuts by the Fed, with a June cut fully priced in and another two cuts priced in over the next year. Rate cuts may be coming as soon as March or April if upcoming business and consumer confidence signal softer growth in coming months or markets extend their losses.
In response to new developments regarding the virus and its impact on the global economy and earnings, we are maintaining our main portfolio tilts as we think the recent market reaction is exaggerated when considered on a 3-to-6 month investment horizon. While the supply-chain disruption from the containment measures are clearly delaying our expectations of Chinese growth to pick following the Phase One deal, the upcoming fiscal and monetary response will help ensure the corona drag is short lived and followed by a strong V-shaped rebound.
Originally Posted in February 2020 – COVID-19 Pandemic Fear Creates Speed Bumps for Stocks
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