While the S&P 500 Q4 earnings season was coming to an end, it quickly became apparent that while earnings were slightly ahead of expectations, the impending slowdown as a result of the COVID-19 outbreak would overshadow all else. It had become clear that the COVID virus transmission rate would mean a greater and wider economic impact than the previous SARS and MERS viruses. This fear translated into risk aversion trades taking place.
Plunges in commodity prices, in particular that of oil and steel were the result of these fears, as the spread of the virus shifted to Europe and the Middle East. In the latter part of February, the US stock market recorded its worst week since the Global Financial Crisis in 2008, dropping by 11% in the last week of February alone, bringing the return for the year to date to -8.6%.
Global markets suffered to a similar degree, but with their export linkages to China, emerging markets (EM’s) suffered even more with the FTSE Emerging Markets Index down 9.5% year-to-date. Added to this EM weakness, their currencies also suffered badly with the Turkish Lira losing almost 5%, Mexican Peso losing 4.3% and the South Korean won losing 2%.
Gold on the other hand, hit a seven year high, as safe havens outperformed all else, with US Treasuries being the chief target. US ten year bond yields declined rapidly, almost hitting 1% by month end. EMBI spreads already trading at multi-year lows, were also hard hit, with the EMBI global spread rising by 60 b.p.s to end the month on a negative track. It would be expected that, as the virus contagion spreads globally, and certainly this would be expected, further risk aversion is likely to be seen.
We remained slightly underweight overall in our equity positioning, and given the negative moves, we considered rebalancing back to targets, but with the levels of uncertainty abounding, we did not commit to a specific move yet. Whilst markets are certainly cheaper than before, they are not yet cheap in absolute terms.
In terms of overall strategy, with outcomes and timing completely uncertain, we have analysed a number of scenarios. Two broad scenarios seem most appropriate or possible, firstly, things become increasingly worse with the COVID-19 virus reaching WHO official pandemic proportions which would be an almost worst case scenario, and further de-risking of funds would be desired. A second scenario is a more moderate one, tied to a shift in the rate of new infections due to successful containment strategies as well as hope in the form of medical treatments and vaccine development. The second scenario points towards a more contained economic slowdown, which would most likely be a first half of 2020 effect, with a recovery in the second half which would point us towards an increasing risk appetite going into market corrections.
We have been overweight in cash for some time, and certainly for us the question is more about the timing of the deployment of this cash into the market.
A negative month all round, with the Global Growth Fund down 4.75% although seen in the context of global equity indices being down in the region of 8%, this is not too extreme. The more defensive funds although also being down, had a more muted negative return, with the Global Defensive Fund down by 0.9% and the Sterling Asset Management fund delivering a return of -2.4%.