Rising market risks from the coronavirus outbreak | April 2020



Global equities have fallen at a rapid pace since peaking in mid-February. It took just 19 days (on 12 March 2020) for the US S&P 500 index to enter an equity bear market (defined as a drawdown of more than 20%). This is the fastest on record from data going back over 100 years. We are in the midst of an unprecedented event for society and markets. This makes it difficult to give any short-term predictions with any certainty. These are difficult times, but we are encouraged by the scale of response by policymakers.

[0.27] These have certainly been extraordinary times in financial markets, can you talk us through what has happened so far

  • We have seen the fastest bear market on record, within 21 days, the US S&P 500 entered a bear market, that's usually defined
  • as a drawdown of more than 20% it fell over 30% towards its low
  • it has come very quickly and has been quite a shock to markets

[1.09] How does it compare to previous crises, the global financial crisis for example?

  • if you went back to the global financial crisis in 2008, what we experienced then was a liquidity crunch in the financial system
  • the banking sector and counterparty risk following the collapse of Lehman Brothers
  • this correction is different, it was precipitated by healthcare shock and that’s lead to a liquidity crisis in financial markets
  • this could potentially be extended into a global financial crisis if governments continue with their lockdowns for a long period time
  • at the moment I would say we're currently in a liquidity crisis and the reason why that's happened, you have to go back all the way to 2008
  • after 2008 we introduced a raft of regulations that basically involved reducing a number of market makers in the market
  • what we also saw over these periods since 2008, very low interest rate
  • a lot of investors took up a lot more risk than they probably should have done
  • when we fast forward to today, we find that because of these regulations that reduce the amount of available the liquidity out there in terms of being able to trade, also the fact that this is a take on a lot more risk, everybody who's been heading out for the door at the same time
  • what we're finding is that markets can't cope and this is why we put liquidity crisis more than anything else

[3.16] Presumably there will be an impact on the global economy as well, do you have a sense of how severe that will be?

  • this is always guess work
  • this has turned from an epidemic to pandemics, the coronavirus has spread to other advanced economies and governments, the world responded by locking down the economy, we just experienced that the UK along with France, Spain and Italy, inevitably that's going to lead to much lower demand
  • to give us a sense of what GDP is going to be, some investment houses like Morgan Stanley expects the second quarter for the US, for GDP to contract something like 30% which is more than any quarter that we've seen
  • even during the depression, there's a wider dispersion, Barclay’s recommend GDP will contract by nearly 3.5%
  • in the March Fund Manager Survey, Bank of America noted that fund managers reduced their global growth expectations by the biggest monthly amount from available data going back to 1994
  • we're expecting a very sharp decline in global growth, at least that first half of the year

[4.54] To what extent will monetary stimulus packages help?

  • they have helped in terms of stabilising markets
  • The Fed restarted its quantitative easing programme to initially buy $700bn worth of treasury and mortgage-backed securities, but soon scrapped the target and left it unlimited
  • the ECB is following up with a new E750 billion Pandemic Emergency Purchase Program to alleviate “serious risks”
  • in terms of size it is very sizeable, the problem is looking at the financial plumbing where there are bottle necks, which are around the corporate sector
  • because we are going to have slowdown in growth, some companies will not have capital or be able to turn to loans to see them through this period
  • The Fed’s commercial paper facility should also alleviate the need for companies to run down cash assets, which unless prevented could help spread contagion through US (and global) financial markets
  • they've also included two new facilities to help the corporate bond market as well
  • the one sticking point is the fact that as I explained, there is very few market makers at the moment, so there is this bottle neck it will take years to resolve

[6.42] Governments appear to be doing a lot to support the economy. I guess the bounce back will depend on whether people have kept their jobs and there is some sort of pent up spending there. Do you think it’s going to be effective what they are doing?

  • there is only so much the government can do, they can put on a sticky plaster that's all it is, it's not really so much as a stimulus just to keep things going and of course that's all dependent on how long the coronavirus lasts
  • we've got this unprecedented £350 billion rescue package from Chancellor Mr Sunak to keep Britain’s businesses and workers afloat through the coronavirus crisis
  • the Trump administration has proposed a $2 trillion-plus fiscal package to backstop the US economy
  • European governments (including fiscally conservative Germany) have also increased fiscal support for their respective economies
  • the government are fighting back with lots of stimulus, as I said this is just a sticky plaster, it’s not going to stop GDP contracting quite sharply in the first and second quarter of this year

[8.05] Do you have a sense of what would really make the difference for markets? The Feds move made a bit of a difference and the $2 trillion stimulus package from the US government made a difference, but what would really put markets on the better footing?

  • the number on things markets are looking at the moment is infection rates from the coronavirus
  • markets are looking at coronavirus new cases, particularly in the Western economies
  • one positive we can take is in China, new coronavirus cases has plateaued, the recovery rate has risen to 85%, but markets are really care about the daily change
  • we have seen that that quarantine has worked
  • after six weeks of containment, we seen some of the five frequency stats like coal consumption starting to improve in China
  • it does give light at the end of tunnel, but we really need to start to see those daily changes decline and thus the peak in western economies

[9.25] Looking a bit further ahead, is there any kind of positive news, will there comes a buying opportunity in the next few months?

  • if we look at where markets are at the moment, there are fixated with these credit issues that I discussed, the coronavirus and the uncertainty about the economic growth
  • those are the big three really concerning markets
  • on the positive side, we can see that markets are very oversold at this juncture, valuations have come right down, we have seen an unprecedented fiscal and monetary response
  • if we start to see some sort of improvement in those three concerns, then we could start to see marks recover in the second half this year
  • on a 12-month view and these oversold positions could look a little more optimistic


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This episode was recorded on  30/03/2020

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Podcast information:

The Pulse from Smith & Williamson

Investment Show: Rising market risks from the coronavirus April 2020

Episode 8

Broadcast on Smith & Williamson at 09:00, 30th of MARCH 2020

Available online from 10:00 on the same day .

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