Another volatile week for markets
The next Alliance Bernstein will talk about the current coronavirus market impact as of 6th of April. Global equity markets remained volatile last week, with the MSCI ACWI declining by 2.5%. Bond markets were relatively stable vs. previous weeks: the Bloomberg Barclays Global Aggregate Bond Index (US$ Hedged) returned 0.3%. Interest rates declined, with the US 10-year Treasury yield falling to just 0.59%. The yield on the two-year Treasury, reached its lowest point since May 2, 2013, at 0.21%. Oil posted a big bounce, with WTI crude up 32% on hopes of progress in the Saudi Arabia and Russia price war.
As data begins to reveal just how deep the economic blow from coronavirus (officially COVID-19) will be, massive fiscal and monetary stimulus efforts will continue until this pandemic is over. Progress along three channels collectively define the response to this crisis and—eventually—the recovery:
1. Public health policy. Unless and until the public-health crisis eases, the global economy can’t restart. Some parts of the world are seeing progress, but we’re still far from the global peak. US lockdowns won’t likely be as effective as they seem to have been in China, because the relationship between the government and the people is so different. However, it’s encouraging to see policymakers at every level taking the recommendations seriously. The tighter the lockdowns are, the bigger the near-term growth hit but the better the chance the crisis passes in a reasonable time.
2. Monetary/liquidity policy. For the economy to recover once the worst of the virus is past, the global financial system needs to function. Global central banks have slashed interest rates and stepped in more quickly than in the GFC, fighting to keep different parts of the financial system functional. For example, the People’s Bank of China (PBOC) announced targeted reserve requirement ratio (RRR) cuts of 100 basis points for small and medium-sized enterprises (50 bp on both April 15 and May 15). The RRR for financial institutions will be cut from 0.72% to 0.35%. In our view, the PBOC has the room for this move and will deliver more as needed. None of the central bank moves alone will prevent the damage to the global economy, but if the financial system freezes up, the economy can’t recover.
3. Fiscal policy. For the eventual economic expansion to gain traction, government spending must cushion the blow from the shutdown and keep as many households and businesses as possible solvent. We’ve seen unprecedented global fiscal stimulus passed on an unusually rapid timetable. As with monetary and liquidity policy, fiscal stimulus can’t prevent a recession that’s already underway. But it can cushion the blow, helping households keep the lights on and food on the table and helping businesses to avoid having to shut down permanently. It’s easier to reopen an existing business with existing staff than to start over from scratch.
The containment battle continues
The spread of the virus remains unpredictable—and so does the duration of the global recession. No one can predict how the next few weeks will play out—everyone must adapt and respond to a rapidly evolving situation. In this type of environment, it isn’t the details of the programs already passed that matter most—it’s the sense of urgency and willingness to be flexible. There’s a long way to go, but it’s encouraging that policymakers have demonstrated both so far.
Looking toward an eventual recovery
As the public health situation eventually improves, the world economy can begin to restart. This could happen in the second half of the year, though the timing is uncertain. Our base case for the global economy is a sharp contraction in the first half of the year followed by a recovery in the second half that regains the previous growth trend of gross domestic product but at a lower level. As with the GFC, we expect a permanent loss of activity, with the economy not returning to where it would have been had this recession not happened. The rapid policy response should make it easier for the economy to rebound once the coronavirus crisis eases, but until the public health situation stabilizes, macro data is likely to continue deteriorating and it will be impossible to restart the economy. There’s no doubt the virus will exact a heavy toll on the economy and corporate profits, but over time stocks are valued on long-term earnings and cash flow. History makes it clear that this relationship will eventually return—no matter how long and deep the dislocation may be. History has also shown that trying to time markets hurts longterm returns. Of course, investors should be appropriately cautious and ensure that portfolios reflect their risk tolerance and time horizon. However, we believe investors that stay the course and take a long-term view will ultimately be rewarded.
What are we doing in our portfolios?
In our equity portfolios, we’re actively seeking newly created opportunities in companies with attractive long-term prospects but discounted valuations. We’re rigorously stress testing all our holdings to ensure they have the financial strength to weather the storm. In some cases, we’ve sold stocks that are most exposed to demand destruction. Our investment teams are working diligently to ensure that our portfolios are well positioned for the near-term uncertainty, but also poised to capitalize on the long-term opportunity. In our fixed-income portfolios, the focus has turned to fundamentals post-March’s lows. Flows have been more two-sided, but spread sectors remain under pressure. Fundamental impairments remain from COVID-19’s disruption of the global economy, but the added pressure of tighter funding markets in previous weeks has slowly eased. Dislocations remain, which we see as longer-term opportunities. That’s why we’ve increased our exposure to high-yield and investment-grade corporate bonds, emerging market debt and securitized assets. In our multi-asset strategies, we’re maintaining significant underweights to risk assets because we expect continued high levels of volatility, with the degree of the underweight depending on the strategy objective. Should the situation deteriorate, we are prepared to utilize our flexibility to move positioning yet further defensive. Conversely, should there be an uptick in certainty about the full economic impact of the virus, or meaningful evidence of faster recovery, we are prepared to act quickly to further participate in market upside. As always, our investment teams are closely monitoring this rapidly evolving situation and will continue to work to strike the right balance between near-term risk and long-term opportunity in client portfolios.
