Market Briefing 2nd February 2020 - Equilibrium

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Market Briefing 2nd February 2020

One of the mains themes of last month’s newsletter was the unpredictability of markets and economies.

Managing investments is always about managing risk and this means we need to learn new things all the time! Over the past few years, we’ve had to become ‘experts’ in global trade as a result of Brexit and Trump’s trade war with China. We’ve had to learn about obscure and complex workings of the banking systems, amongst many other things.

Now, it looks like we will have to become experts on viruses.

The new Coronavirus in China is of course worrying. At present we do not know how widely it will spread and are only just learning about how contagious it is and how deadly. So far, the deaths appear to have been confined to those who had previous underlying health conditions. 

The loss of life is of course tragic but, setting aside the human aspects, there is also a clear risk to global economic growth. China is the biggest contributor to global growth and Wuhan alone (where the virus started) has around 11 million people and a reported GDP comparable to that of Vietnam or Portugal. 

Stockmarkets have fallen sharply as a result of these concerns, notably in China where equities fell 10.9% from 13 to 31 January 2020 (MSCI China index). Global emerging markets also fell, with the MSCI Emerging Markets Index down 8.5over the same period. It is worth pointing out that these markets had done very well earlier in Januaryafter trade concerns eased, so both indices are still above where they were at the beginning of December. 

The UK was not immune, with the FTSE 100 dropping back below the 7,300 mark at the end of the month, having reached almost 7,700 earlier in January. 

In terms of theEquilibrium portfolios, as of 31 January the Adventurous Portfolio has fallen 1.8% from its peak with Balanced down 1.09% and Cautious down 0.91%. Both Cautious and Balanced are still in positive territory for 2020 so far. Adventurous, which has more equities and more emerging markets, is down 0.27% so far this year. 

(Source for all performance numbers: FE Analytics). 

What next? 

Here is what we know so far about the virus and the possible impact on the Chinese economy: 

  • This is not officially a pandemic, although the World Health Organisation say it could become one. 
  • So far around 17,000 people have contracted the virus, all but around 150 inside China. 
  • There have been more deaths in mainland China (now approaching 500than during the SARS outbreak in 2003. There has only been one death outside of China. 
  • The mortality rate appears to be much lower than SARS, killing around 2% of those infected compared to around 10% for SARS. It does however appear to be more easily transmitted than SARS was. 
  • China extended their usual lunar holiday to more than a week in an effort to contain the spread. This alone will have an impact on Chinese growth this quarter. 
  • Current estimates are that Chinese GDP could be around 0.4% to 0.5% lower as a result of the virus, but of course the impact could be much more or less. 
  • By comparison, SARS reduced growth by 1% in 2003. However, the Chinese economy is much bigger now and much more significant to global growth. 
  • The Chinese central bank has pumped billions in cash into the economy to provide stimulus, which appears to have stabilized financial markets for now. 

What are we doing about this? 

Our usual response to unpredictable events is not to try and forecast them. We try tolook through them and concentrate on the fundamentals 

As usual, we’ll take an 18month view on potential asset class returns. When an asset class falls, we’ll usually top it up back to our target weight. When it goes up, we’ll bank some gains. 

Volatilty in equities therefore usually equates opportunity. Whilst we’ll continually re-assess the situation, for now we believe the current market volatility should be treated in the same way we usually do. 

We have already used this as an opportunity to strike a new defined returns product within most portfolios. Having had a Citigroup product kick out earlier in the month, we reinvested the proceeds on 31 January with BNP Paribas. This product has a strike level of 7,286 and will provide a return of 11.05% provided the FTSE is above this level on 1 February 2021. 

If markets continue to fall to our target level of 7,150 we’ll carry out one of our usual volatility trades. This is where we switch a small amount from lower risk assets into equities at a market low, and then sell again when the market recovers. 

Aside from the virus, there have been some very positive signs about the global economy, with surveys pointing to improved growth in most regions. The UK has seen a particular pickup in activity, which has meant that UK small and mid-cap stocks do very well. They have also fallen less than more international stocks in the recent sell off. 

We also have some lower risk asset classes which remain unaffected by the recent market moves. 

Whilst we will continue to watch carefully, from an investment point of view we believe there is no need for alarm and sticking to strategy is the best way to manage our way through it. 

Risk warning: The content of this email represents the collective views of Equilibrium Investment Management and in no way constitutes a solicitation of investment advice. It should not be relied upon in making investment decisions. Past performance is not a guide to future returns. The value of your investments can fall as well as rise and are not guaranteed. Investors may not get back the amount originally invested. 

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