Multi Asset Boutique
Like an unexpected disease befalling Venice in Thomas Mann’s famous novella1, a hitherto unknown coronavirus has engulfed Europe seemingly out of the blue. What could illustrate our fears better than the Adriatic town’s cancellation of part of its cherished Carnevale? Or, to take a broader view, Italy’s closure of some of its football stadiums? As the virus is spreading, things could deteriorate further. While we expect a significant drop in global economic growth, we still see a recovery towards the summer.
While “Covid-19” is not yet a pandemic, it looks set to be classified as such given the rising number of confirmed cases around the world, also increasingly outside of China (see chart 1). In Europe, Italy seems particularly hard hit. While it is too early to gauge the impact on Europe’s third-largest economy, it is worth noting that most cases occurred in the economically strongest Italian region of Lombardy – it accounts for 25% of the country’s GDP – with Italy’s financial capital Milan also affected.
The number of affected countries seems to be growing by the day. These include Japan and South Korea, whose economies are hard-wired into China’s and depend on Chinese tourists (also see Macro Highlights section on page 6 and our recent market update “Coronavirus spread points to increased volatility”). The proximity of Asian markets to China makes it the region most exposed to the virus outbreak. We have lowered our forecasts for most markets outside of Asia as well (see chart 2).
Before the Covid-19 outbreak, the economy was doing fine. Global and regional purchasing managers’ indices (PMIs) started showing a recovery in manufacturing and services PMIs never really caught the flu. Yet there are subcomponents of the PMIs indicating stress levels in supply chains.
Labor markets are generally going strong in the US and Europe. Inflation is under control, which leaves room for supportive monetary policies. The People’s Bank of China’s quick liquidity response, which helps to contain the fallout from the health crisis, is likely to feed through into the economy. We expect the US Federal Reserve, which cut the key rate by 50 basis points on March 3 in an emergency move, to cut one more time over the next 12 months. In our opinion, the European Central Bank will follow suit in lowering their key rates while additionally providing liquidity through other measures. We believe the Swiss National Bank for its part will most likely cut benchmark rates, too.
As far as financial markets are concerned, Donald Trump’s approval ratings, remarkably closely correlated to the broad S&P500 index’s moves, are on the up again. It will be interesting to watch who among the Democratic Party hopefuls will emerge as the incumbent’s challenger in the November presidential elections. Currently, Vermont Senator Bernie Sanders seems to be ahead. Were he to win, America could face a socialist-tinged government program. The probable further spread of the coronavirus in the US might give the Sanders campaign another boost as he supports a strong public healthcare system.
While the virus volley to the global economy will hit first-quarter performance and also weaken the second quarter, our prediction of “sluggish growth” for 2020 remains valid. However, we are getting closer to a “sharp slowdown” scenario. Still, we are reaffirming a neutral stance on equities, bonds, and commodities. Within equities, we prefer the UK for its post-Brexit catch-up potential, to virus-hit Japan. Within the bond segment, we have a relative preference for US Treasuries versus European government bonds, as the pressure on the Fed to ease is increasing. Emerging-market local debt – we are slightly overweight here – may see further weakness in the near term, but could also rise on hopes for a significant economic recovery from the second quarter onwards. The Swiss franc is an appropriate portfolio hedge, in our opinion.
While the outbreak of an unknown disease has brought suffering to thousands of people, it is worth noting that the common flu claims tens of thousands of lives each year. Likewise, it is probably safe to say that Covid-19 won’t be the last nor the most lethal coronavirus to plague humankind. However, as a rule, the shock waves that global health crises send around world are temporary. If the past is any guide, buying opportunities should emerge.
1. Death in Venice, published in 1912