That escalated quickly. After several weeks of concerning action in the bond and commodity markets, equities finally decided to take notice in the last week of February. Markets had been too complacent, content to watch manias around Tesla and Virgin Galactic while missing the bigger picture. That ended with a bang as many markets finished the month down somewhere between 6% and 8%.
It’s becoming clear that no matter how big of a health threat the coronavirus is, the impact on the economy is real. Drastic actions to contain the spread have caused factories and supply chains to be shut across China and now the concern is the same will be true across the globe. In a world of “just-in-time” inventories and complex manufacturing, this is a disaster. It’s too soon to tell how much of an impact this will have on earnings, but it won’t be nothing.
A few short weeks ago, as we started the year, the expectations were for a recovery in earnings and a period without any central bank activity. We are now faced with the reality that global growth expectations will be revised much lower and the benefits from the long-negotiated US-China trade deal won’t materialize in any quick fashion. This was supposed to be the year of earnings growth. Now, it looks more like an earnings recession.
The global slowdown has been most impactful on the bond market. Global yields have collapsed, with the US 10-year Treasury falling from 2% to start the year on the expectation the Federal Reserve will have to cut rates two or more times. Mounting fears and an emergency rate cut of 50 basis points on March 3 pushed the yield to fresh lows, below 1.00%.
What rates cuts will do to help stop a virus spreading is an interesting debate, but it’s an attempt to restore investor and consumer confidence. The timing of these cuts is key. Central banks never really normalized rates after the last crisis and, with few bullets left, they can't miss their shot. This is no longer a year for central banks to sit on the sidelines.
The speed of the collapse in equities has been stunning. Many markets went from all-time highs to a 10% correction in under 10 days. There hasn’t been anywhere to hide from the selling, as even defensive areas such as gold were hit.
It’s painfully obvious now that we are in a different market environment than last year. Investors have become so skittish that almost every Friday this year has been negative, as holding positions over the weekend has become a daunting task. The saying that “stocks go up an escalator and down and elevator” has never been truer.
The VIX, an indicator of investor concern, hit 50 – something that has only happened a few times in history. Many had been calling for increased volatility this year and that has certainly the case so far. Most had been expecting the cause to be the US election and that still may be the case as the year progresses. Regardless, we are getting closer to the end of the economic cycle. Investors are nervous and that has quickly been reflected in quotes.
So, what to do next? We can expect every company to warn on earnings expectations due to the concerns around both supply and demand. It’s also going to be the base case that we are entering a recession, be it global or regional. Earnings will have to be revised lower, the trick is to figure out what has been priced in already and what is new.
What is certain is we are going to remain in a period of low rates and yields. Central banks have cut rates (the Bank of Canada followed the Fed’s lead with its own 50bps cut), keeping yields lower with the prospect for further action. This will likely continue to be a great environment for safe, dividend growth stocks.
Baring a complete collapse of the economy, it’s probably too late to sell now. The extreme collapse has begun to price in the worst-case scenario. Volatility will increase around the headlines (both related to the virus and politics). We’ve already seen initial signs of the bounce. In an absence of fundamentals, people will rely on technical indicators.
It’s way too soon to tell if the bounce is temporary and we start hitting new lows again or if we’ve already hit the low. But it’s also important to take the long-term view and remember times like these have been great opportunities to adjust your portfolio and invest in areas that had been seen as too expensive weeks prior.
Purpose Gold Bullion Fund (KILO)
Gold is returning to its traditional role as a safe-haven asset, providing fairly consistent protection against the recent market panic. If you’re still considering adding some insurance or protection against further turbulence, KILO is the lowest-cost way to access physical gold. Plus, you get the satisfaction of knowing your gold is being held on a fully allocated basis in the vaults of the Royal Canadian Mint.
If you’re still unsure of the value of gold but want to be more defensive in your positioning, RTA is a great way to nimbly adjust to the markets, essentially in real-time. The Fund’s equity exposure quickly fell to just 30% during the height of the late-February correction, helping protect investors’ money. When used as a tactical, complementary allocation in a broader portfolio, RTA continues to prove its value as a simple and smart way to reduce risk.
— Greg Taylor, CFA is the Chief Investment Officer of Purpose Investments
All data sourced from Bloomberg unless otherwise noted.
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