Financial Keys Market Update - 17 April 2020

We hope you and your families are staying safe and well during this time and have successfully made the adjustment, as we have, to spending most of our days at home.

Investment markets have experienced a roller-coaster ride over the last couple of months including a recent rebound.

The US equity market fell more than 34% from peak to trough this year, before rebounding more than 27%. In Australian dollar terms, the fall was only 25%, given movements in the Australian dollar. Therefore, being unhedged on currency for US equity investments, as Financial Keys clients predominantly are, assisted materially. The Australian equity market fell more than 36% before rebounding more than 20% more recently.

Why did the fall occur?

The sharp falls took place over a very short four week period. Initially, there was a supply shock with China being offline, before a demand shock with virus containment policies resulting in the closure of many businesses and industries, with almost half of the world’s population now in lockdown. Added to that, there was an oil supply shock following the disagreement between the Saudis and the Russians, which has resulted in the oil price more than halving.

Concerns regarding the trajectory of the virus and the length of time containment policies may be in place caused many non-advised and self-directed investors to panic and sell any investments they could get their hands on. Those that sold, then missed out on the rebound mentioned earlier.

Equity markets continued to sell-off into late March largely because many investors were flying blind when it came to ‘guessing’ the real level of company earnings given most companies had removed earnings guidance and a number had removed or deferred their dividends. Additionally, most company management and boards went into ‘lockdown’ mode themselves as they worked around the clock to assess whether they needed support, what support they needed, who would provide it, and how long that support would last depending on a range of lockdown scenarios.

Alongside this scenario, all are similarly flying blind from an economic perspective in terms of the potential fall in GDP growth (economic growth), the potential rise in unemployment, and how much of both are likely to be temporary rather than permanent. 

Why did the rebound occur?

It is hard to answer this question with conviction but in our view, it largely boils down to five main points of ‘optimism’:

1. Being at ‘peak’ virus cases or approaching ‘peak’ virus cases in most countries around the world i.e. the closer we are to the peak, the closer we are to the potential relaxation of lockdown measures.
2. Proof that most virus contraction and mortality modelling was actually spot on i.e. governments went from using assumptions in late February and through most of March, to now having modelling and data points that provide some element of certainty.
3. The extraordinary amount of stimulus that has already been provided by governments and central banks globally. We need to find a new term for ‘bazooka’ because that doesn’t do it justice, and there’s potentially more stimulus to come.
4. Equity raisings have largely been well received and well supported as many companies have gone early, in contrast to the GFC when many left it too late. Also, most equity raisings are structured so that fund managers and other large investors need to be on the share register to obtain an allocation which means these large investors need to buy into a company or buy more of the company to get the largest allocation at the lowest price.
5. This point is more contentious and we do not comment on any personal viewpoints here, but we are starting to see the rhetoric swing back in favour of economics versus health i.e. we’re closer to maximum economic pain and closer to that economic pain becoming more permanent rather than temporary. When that happens there is the potential for general agreement by governments on the ‘acceptable rates of contraction’ and the ‘acceptable number of additional deaths’ i.e. considering the potential outcome of saving people from a health perspective to see on the other hand a whole generation of people financially crippled.

What’s next?

At this point, this is really a guessing game as we are barely witnessing any kind of unity in the view and approach of leadership in a given country. Uncertainty remains given: 

1. It is not known when containment policies will be completely lifted.
2. It is not known how governments will react regarding ‘acceptable rates of contraction’ i.e. will they reverse the softening of lockdown measures and once again batten down the hatches if contraction rates or number of new deaths become ‘unacceptable’.
3. It is not known what corporate earnings are likely to be in the second and third quarter of this calendar year. Are earnings cuts temporary or more permanent? The answer to this will depend largely on the outcomes of the above two points.
4. It is not known how poor economic data will become and how long before we see a recovery in that data. 

There is a balance between the likely cause for optimism that has resulted in markets rebounding (see the five points listed further above) versus the four relatively unknowns (listed immediately above) that markets are still grappling with. 

What does that mean for portfolios? 

 We still believe in the following: 

1. Stay the course – going to cash still does not make sense.
2. If investing excess cash, consider doing this periodically, averaging into the market over time.
3. Maintain a diversified portfolio across a range of asset classes, fund managers, geographies and holdings as our clients do.
4. Incorporate active fund managers who are working to take advantage of lower prices, as our clients do.  

Please contact us if you would like to discuss your financial strategy and investments.