What shape the recovery?
A whole alphabet soup of possible economic and market ‘what next’ scenarios has emerged in recent weeks as investors attempt to rationalise the remarkable rise in asset prices since the middle of March. Some look more plausible than others. We’ve clearly had a V-shaped market recovery, but this is unlikely to be the shape of the economic bounce. For that to happen, we would need a vaccine, a rapid return to work, and a sustainable pick up in consumption and travel. None of these looks likely.
The bath-tub or U-shaped recovery looks more probable - a long and shallow recovery before the economy gets back to trend in due course. Fidelity’s economists have this as their base case, with a 60% probability versus just 10% for the V. Not the base case but a reasonable tail risk is the so-called L-shaped non-recovery which sees the economy return to previous levels of growth but from a lower starting point. In other words, there is a permanent loss of output that is never recovered.
I think the most likely outcome will resemble a W or its swoosh or Z-shaped variants. A rapid initial recovery as shops and restaurants re-open, flights resume, and we get back to work will run out of steam and there will be one or more relapses before a proper recovery eventually takes hold. There could be several reasons for this - stimulus is removed too quickly, infections surge again, or precautionary saving is triggered by rising unemployment. We can write off 2020. The key question is what 2021 looks like.
What shape the recovery?
Source: Financial Times, Brooking Institution, May 2020
Permanent change or just a blip?
The shape of the recovery is important, but investors also need to assess how deep the slump will be, how big the bounce and how long it will take. Only by putting all of these together can we judge whether the stock market has moved too far and too fast, as now looks possible.
Every month, we now ask our analysts around the world what they are hearing from the companies they follow. This regular temperature check is a useful real-time guide to what’s happening on the front line. The bottom-up view helps validate the top-down economic assessment.
Our latest survey was surprisingly optimistic, especially in the parts of the world which were first in and first out of the pandemic. China’s economy is expected to stabilise within six months or so, well ahead of regions like Latin America which are still in the thick of their crises and more than a year away from normality.
As for what the new normal looks like, it’s also a mixed bag. Some sectors, such as IT, consumer staples and healthcare, should stabilise at levels of activity higher than last year’s. Others, notably consumer discretionary, will shrink and take much longer to return to their previous scale.
A key influence on this might be a negative feedback loop from rising unemployment. Even if people do not lose their jobs, the fear of redundancy will encourage less spending and more saving. As President Roosevelt said, perhaps the biggest thing for us to fear is fear itself.
Some things are unlikely to return to the status quo ante. Perhaps the most obvious of these are how we work and how we shop. For many of us, a return to the office is a distant prospect. Even when we do, working from home has been normalised (and shown to be effective). Shopping will become an ever more online activity until fears about crowded spaces abate. Travel and eating out will take some time to get back to normal, despite the Chancellor’s best efforts to boost these sectors. That sad, as the chart below shows, even big ‘everything’s changed’ moments like 9/11 can actually turn out to be no more than a blip.
US passenger numbers on domestic flights
Source: Refinitiv, 30.6.20.
Sustainable investing and the pandemic
Until Covid-19 came along, perhaps the biggest theme in investment was the growing importance of environmental, social and governance (ESG) factors. With the focus shifting to corporate survival, you might have thought that sustainability would have fallen off the agenda, but our recent analyst survey suggests it remains a key focus. Just 15% of companies told analysts that they would not be prepared to sacrifice some earnings to promote a more sustainable agenda.
Actually, the assumption behind this question is looking increasingly old-fashioned as evidence mounts that sustainability is a key driver of profitability and shareholder returns. During the early stages of the pandemic, when share prices were tumbling, we analysed the stock market performance of companies that ranked highly on Fidelity’s in-house sustainability scores. They held up much better than companies that ranked poorly. Increasingly, it seems that investors view sustainability as a risk mitigation factor as much as an ethical issue.
The four funds we recommended at the beginning of the year have continued to diverge, as was the case three months ago. The two defensive plays - Fidelity Global Dividend and Fidelity Select 50 Balanced - fell significantly less than the broader market between February and March and have clawed back most of their losses in recent weeks. Global Dividend is back where it started the year and the Balanced fund is down just a couple of percentage points.
The Liontrust UK Growth Fund and the Artemis Global Emerging Markets Fund fell further and have been slower to recover. This is perhaps unsurprising when you consider how the pandemic has had a disproportionately big impact in the developing world (India and Brazil notably) while the UK’s handling of the crisis has been patchy and conducted under the shadow of the Brexit transition. Liontrust is 16% down year to date and Artemis 12% lower. By comparison, the FTSE 100 index is 17% lower than it started the year while the MSCI Emerging Markets index is down 10%.
Five year performance
|% (as at 30 Jun)||2015-16||2016-17||2017-18||2018-19||2019-20|
|Fidelity Global Dividend||23.6||15.0||1.7||17.8||5.0|
|Fidelity Select 50 Balanced||-||-||-||4.6||0.8|
|Liontrust UK Growth||9.1||20.1||11.4||3.0||-10.2|
|Artemis Global Emerging Markets||3.5||36.7||6.9||7.6||-10.9|
Source: Morningstar, 30.6.20 bid to bid with income reinvested in GBP terms. Excludes initial charge. Figures rebased to 100 on the chart as at 1.1.20.
Past performance is not a reliable indicator of future returns. When investing in overseas markets, changes in currency exchange rates may affect the value of your investment. Investments in emerging markets can be more volatile than other more developed markets.
What are we watching in the second half?
The pandemic has completely dominated the market agenda in the first half of this year. It will obviously be a big factor in the second six months too. But it’s not the only thing to watch. So, what else will we be looking at? Roll back the tape to January and you can see what we thought mattered before we’d heard of Covid-19. That is probably a good starting point.
Trade tensions, Brexit, the oil price and the future of Hong Kong were all close to the top of the agenda. None of these has gone away. Indeed, they are all very much back on the radar again. Trade will be a key talking point in the forthcoming Presidential election campaign, both because it is helpful to have an ‘other’ to blame when things are going badly wrong at home and because this is perhaps the only bi-partisan issue in US politics right now. Both the Republicans and Democrats share the view that China is a big threat to US economic dominance.
The outcome of the election is much harder to call than it seemed before the pandemic. The President’s erratic handling of the crisis and its economic and social consequences have kicked away two key pillars of Donald Trump’s re-election plan - historically low unemployment and an eleven-year bull market. What might a Biden Presidency look like? Less chaotic, for sure, but possibly less business-friendly, with higher taxes and more red tape.
Brexit is back as a live issue here in the UK. The moment to ask for an extension of the transition period has passed and the best the Prime Minister can hope for is that the economic impact of a hard Brexit can be hidden within the broader coronavirus downturn. An increasingly post-global economy, that is more protectionist and regional, does not look like a favourable backdrop for the launch of SS Global Britain next January.
What do the 2020s look like?
What happens in the next six months should already be priced into markets if they are doing their job. What will not yet be factored in, because it is so uncertain, is what the world will look like in 10 years’ time. So, how might the 2020s look compared to the 2010s? Here are six possibilities:
- Redistribution of wealth replaces inequality
- Fiscal policy is a bigger driver than interest rates and QE
- Tax rates rise for both companies and individuals
- The rest of the world outperforms the US
- Deflation is replaced by inflation
- Value finally takes over from growth as the dominant investment style
….and what about you?
One of the great dangers of markets as volatile as the ones we have lived through this year is that our actual investment experience is very different from that of the main indices or even the funds we invest in. This will be the case if we compound the existing market challenges with our own mis-timed attempts to manage our portfolio through the ups and downs. You only have to look at the chart of our recommendations to see the potential to lock in losses and miss out on the recovery.
Well, I’m delighted to report that a survey of investors we conducted recently came to a very different conclusion. When we asked investors what they had actually done with their holdings during the last few months, just 2% said they had sold up and run for cover, 16% said they had changed their asset allocation, 23% invested more at lower prices and an impressive 56% did nothing at all. We always recommend riding out the storm but recognise that it is easier said than done. I do hope you manage to.
Actions taken regarding investments since the outbreak
Source: Research was conducted by Opinium Research for Fidelity International based on a sample of 1,000 independent UK investors during May 2020.