Views from the frontline – 7 May 2020

Listening to the Berkshire Hathaway annual meeting recently with over three hours of questions and answers by Warren Buffett, I was impressed with the ease with which he used the words “I don’t know”. It seemed quite liberating to know that it is okay to admit we do not know what the markets will do in the future and only invest based on known facts. Buffett went on to say that so much of the financial advice industry is based on people paying other people to predict future prices, rather than understand business performance.

The reason we provide these weekly updates is not to predict what will happen today, tomorrow or in six months but to share some of the thinking from different sources. Depending on your outlook some will resonate more than others.

There are things that we do know; firstly, that this period will pass, and certain themes will be the winners from this. What we do not know is when and exactly how things will look in the future.

One of the most enjoyable updates this week was from First Trust which has a different view to many, that the idea of a ‘super bull’ cycle came up again. Also, Jupiter provided some thoughts on the US elections. This week’s update is shorter than my last War and Peace, and again includes links to some interesting articles!

First Trust (Economic Team)

This was mainly focused on the US but some interesting thoughts and reasons to think differently:

  • We know the data is going to be ugly. The expectations were 3% growth before the virus, the actual figure was -4.8%, and yet the Dow Jones was up. In terms of the market they do not believe these figures matter and they will look past this
  • Much has been driven by fear and panic of the unknown; this means we look at things in a certain way. A good example is testing where we have placed ourselves into a position whereby, we think that a vaccine will not work
  • The team is not made up of medical experts, but they don’t think there will be a second wave; firstly, there are treatments, and there is a lot of work going into vaccines and things could move a lot faster than previously seen
  • In the US as things open there will be a natural recovery:
    • Last week steel production was down 64% from this time a year ago, but last week production was up 1.7% from the week before
    • Hotel occupancy was up 2.4%
    • Air travel was up 22% with some flights full
    • Demand for gasoline was up 4.5%
  • A lot of the data is beginning to turn and for this reason they think we have seen the bottom of the market
  • They think there will be a bell-shaped recovery:
    • It will take time for everything to recover, but there is a greater demand for people to get things back to normal
    • People will not want to rush back to work due to the generous unemployment benefits but expect unemployment figures to come down in the next three to four months
    • The markets are pricing in a 50% decline in corporate profits, they think this is a worst-case scenario and the Dow could go above 30,000 before the end of the year because as it stands it is undervalued
  • We must remember this is not a recession in a true sense as the bull market never ended. It is an artificial recession and drop in the market. In addition, there has been significant amounts of money pumped into the system

Things to think about:

  • Watch consumer demand indicators – particularly people going to restaurants, theatre etc
  • Europe – especially Italy and Spain which have weak health systems and limited financial clout to support themselves. They think Europe is cheap for a reason and will be left behind as the world comes out of this
  • The polls are wrong about Trump and he will win with no change on the Senate and House
  • This is a bull market; the worry is the money supply, and this will lead to a bubble but that is further down the road

Jupiter (Merlin and Economic Teams)

Significance of dividend cuts:

  • They do not think the markets in the UK are fully reflecting the cut in dividends. They expect the cuts to be 50/55% this year. 28 FTSE100 companies have suspended payments, and 10 have cut them
  • In comparison the biggest cut on recorded history was 30% between 1930 and 1932 on the S&P500 and it took 25 years for these to return
  • This is likely to be a permanent impact, and investors need to think differently when it comes to income produced like this
  • One thing to think about is the impact on large final salary schemes and how this will likely increase the funding deficits further, causing problems for companies like BA, BT etc

Things to watch:

  • Recent research from South Korea indicates if you have caught the virus you are unlikely to catch it again
  • Sunday is when the UK learns how it comes out of lockdown – the unwinding is going to be much more difficult
  • The spat between the German Supreme Court and ECJ on the actions of the ECB

The US:

  • Election is the 3rd November, and campaigning starts in July. The Democrat race showed that America was not ready for Socialism
  • Trump is 6 to 8 points behind Biden, the difference this time around is that there is no baggage which was the problem with Clinton. Trump is very well known now, and no sitting president has been re-elected in a recession
  • But Trump was elected on ‘America First’ mandate and has achieved a great deal:
    • He has tackled things like the Paris Climate Accord, Transpacific Trade Partnership, Mexican Border, containing China etc
    • He has achieved the most far reaching tax reforms for 40 years
    • He has semi-repealed Obama Care, and kicked out more legislation than has been put in
  • However, he has not made much progress on infrastructure, his handling of the virus has been car crash TV, and there is an economic crisis
  • The question is do they go for maverick populist or the safe option? Biden has support from some of those who voted for Trump last time, and there is a thought that some Republicans will not vote
  • If Trump wins then we can expect 4 years of the same kind of politics; his actions tend to be corrosive and it makes the world feel a less secure place
  • If Biden wins, he is not going to the world on fire! He is likely to restore the US back on the Paris Climare Change Agreement but will continue to distance from China
  • Whoever is elected will have issues to face regarding generations impacted by the Global Financial Crisis and Coronavirus, unemployment and China potentially overtaking the US in terms of global GDP. In addition, there will be threats from Russia, Iran, North Korea and ISIS

LGIM (Economic Team)

Virus Update:

  • Emerging Markets may be less vulnerable than previously thought – 90% fewer fatalities than developed markets, misreporting is no worse in emerging markets than in developed markets and age structure may explain the difference in figures
  • Needed to remove lockdowns permanently – digital tracking, mass testing and vaccine and treatments (over 100 vaccines under development)

Market and economic update:

  • Bank of England GDP forecasts were not a surprise for markets
  • They have a 40% probability of a strong, partial rebound, and a 50% probability of some recovery, but much slower. They favour a slower recovery with the world losing 2 to 3 years of output growth
  • Ending lockdowns is not an economic on/off switch
  • 73% drop in US restaurant reservations before lockdowns
  • Only a third of the US economy is reopening for non-essential business in May
  • 60% average decline in footfall in Hubei retail and leisure outlets compared to last year despite lockdown ending
  • Only 10% of US individuals expect hotels to be fully operational by the end of the year
  • 85% reduction in the use of UK public transport
  • 12 months plus before mass gatherings can be started again
  • Short term no clues on UK inflation as they cannot collect all the data, longer term the markets are pricing 30-year inflation figures at 1.5%
  • Concerns over output being lost for longer, this will lead to potentially weaker incomes and change in jobs (jobs will be lost, but potentially new ones created)

Additional soundbites

Schroders (Economic Team)

  • US vs China is a worrying development. Trump is looking to blame China for the virus primarily to deflect from what is happening to the US economy, and the drop in his approval ratings
  • The main point is that China is supposed to be buying $200 billion of extra exports from the US, if they do not then Trump is likely to claim they are not meeting their part of the agreement and start imposing tariffs again

BMO (Property Team)

  • The virus has caused destruction within certain sectors of the property market – areas to watch are leisure, office and retail
    Likely to be changes in the way leases are drawn, for example in retail they could become turnover only leases
  • Big offices could be a thing of the past, flexible working means smaller workspaces required
  • There are opportunities within industrial and logistics

BMO (Economic Team)

  • They think equity markets are overpriced, and they are pricing in a V shape recovery, which is over optimistic. They are expecting markets to pull back
  • They think the assumption that consumers will come out and spend is incorrect, and they think markets are ignoring the unemployment data especially in the US
  • They are expecting a second wave, they think this will damage future growth
  • They think a fair price for the S&P is 2,500, and that value will come back because of the stimulus and inflationary impact
  • They believe there is a 65% chance of a U shape recovery, but we are not at the belly of the U shape

Investec (Economic Team)

  • Concerns over the longer-term impact of this exercise (lockdown and financial stimulus)
  • They expect the furlough scheme to be extended perhaps either reducing the amount or topping up salaries for those returning part time
  • They think markets went down too far but the rally has been a little too strong and therefore they think this will be an elongated recovery
  • Their base case is a ‘grind lower’ scenario, they think a second wave is likely and this could impact the corporate sector. They do not believe we will hit the all-time lows again, but recovery will take 1 to 2 years
  • The biggest risk is that the virus keeps coming back and this becomes a solvency crisis
  • Worries that the virus brings economic nationalism so at a time when the UK wants to be more global this could be a challenge

JP Morgan (Guide to the Markets Team)

  • They think the US and UK are not ready for widescale re-opening so any action could be a gamble
  • Need to watch the clash with ECJ and German Supreme Court and the implications of this
  • In the US, 65%-70% of those on unemployment are better off than when they were working, meaning when they return to work (80% of the unemployment is temporary) this could increase spending within the economy

ASI (Economic Team)

Things that we need to watch:

  • Brexit – the deadline is 1 July and they think there will be an extension, but it will come late. There are two meetings in May and June, and these will give a feel as to how these are going. Nothing has really changed; the redlines remain and if anything, politics in the UK have hardened
  • Europe – the virus has had a big impact on different economies and there is a growing gap between the North and South. There are no agreements on how states are helped
  • US elections – Trump was fighting the election on having a socialist democrat and the strength of the economy. Biden is no socialist, the economy is weak and areas where Trump was successful Biden seems to be picking up momentum
  • Inflation – very hard to measure now, some prices have gone up, but oil will bring inflation down. There were concerns that the global Financial Crisis would cause high inflation, and this never happened. Also, must remember that demand is falling faster which pushes prices down

AXA (Economic Team)

  • They are concerned that the market reaction to the spat between the German Courts and the ECB has been muted. They think this is the wrong message at this time so this could impact the markets but think the ECB has been cushioning the blow within the markets
  • Also, they do not think the markets are responding to the escalation of tensions between China and the US
  • So, they are expecting more volatility in the markets moving forward

Note: This is written in a personal capacity and reflects the view of the author. The post has been checked and approved to ensure that it is both accurate and not misleading. However, this is a blog and the reader should accept that by its very nature many of the points are subjective and opinions of the author. Individuals wishing to buy any product or service as a result of this blog must seek advice or carry out their own research before making any decision, the author will not be held liable for decisions made as a result of this blog (particularly where no advice has been sought). Investors should also note that past performance is not a guide to future performance and investments can fall as well as rise.

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