January often sets a precedent for the year ahead, and the first five days in the year even more so. Using data going back to 1950, the US stock market has been positive over 80% of the time for the year, when the first five days have been positive. So, on that metric, equities have a constructive tailwind for 2020. However, it was a tale of two halves for January – the bullish tones from early in the month came to an abrupt end, as global stocks gave up their gains for the year. The catalyst – Coronavirus (2019-nCoV).
Coronavirus is dominating headlines, as investors grapple with trying to understand the nature, characteristics and impact of the “pandemic”. At this stage, we are not trying to predict these variables – if some of the greatest doctors and scientists in the world are struggling to assess the scale of what is unfolding, we are not in a position to form a better judgement than them. What we can do is assess the impact of “pandemics” both in our lifetime and beyond. The most recent and closest match is the SARS virus, in 2003. SARS also originated in China, so, unsurprisingly Emerging Market (EM) assets were hardest hit. Coronavirus is no different in that regard, with EM equities trending down since the outbreak was first reported.
Regarding the impact of such outbreaks or pandemics on stocks – we think what is important to understand is the base from where we started. Equities had an excellent year in 2019, and had reached a level that was rich (on valuation terms), so a natural correction seemed likely – markets just need a catalyst, and Coronavirus is it. Interestingly, in 2003, when SARS was growing, developed equity markets actually rose. This was coming out of the recession of the early 2000’s, during a period where equities had been weak, therefore investors’ appetite for risk assets outweighed concerns of a widescale pandemic.
For Coronavirus (2019-nCoV), our base case is that a 5% – 10% correction in equities could be merited should the situation continue to deteriorate. This is based on the short term growth impact of the virus coupled with already inflated equity prices due a retracement. At the end of January, the correction in global equities stood at 3% from their peak.
With regard to Coronavirus and how we can monitor it, we believe it is best to observe the shape of the curve of total confirmed cases – and look for that to begin rolling over/flattening, in order to become positive on risk assets again. As at 31st Jan, the growth rate had been linear for six days, but has since picked up. We will reassess the situation when such a time (of curve flattening) does occur. An overweight position to EM assets, following this event, is likely. We would also use the wider correction in risk assets to add to our conviction in domestic UK assets.
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