The week the old bull died
Garry White, Chief Investment Commentator, looks at the market-moving events that have shaped equity markets last week (9 – 13 March 2020).
The longest running bull market in history is now officially dead. It was killed by measures needed to deal with the new coronavirus pandemic, aided and abetted by the frustrations in the leadership of Saudi Arabia.
The bull market lasted just over 11 years. In four days of trading this week the S&P 500 lost 14% – trading about 23% lower in the year to date. The S&P 500, the Dow Jones Industrial Average and Nasdaq all entered bear market territory – falling more than 20% from their peaks earlier this year.
The performance of the FTSE 100 is even worse that that. The UK blue chip index is down around 26% so far in 2020, hit by its high exposure to commodity prices through its high weighting of miners and oil majors. Even the more UK-facing FTSE 250 is down by a similar amount.
The rapid change in sentiment in global markets in just a few weeks is actually pretty astonishing. Markets started 2020 hitting new all-time highs, with central bank support allowing bullish investors to look through a period of weakness in corporate earnings to what appeared to be greener pastures later in the year. The bulls’ dreams now lie in tatters.
So, what drove this week’s sell off?
Investors understood before the week started that the measures needed to deal with the spread of Covid-19, as this coronavirus variant is known, would hit economic growth. But, after the World Health Organisation declared that we were now in an official pandemic, Donald Trump fudged an address to the nation from the Oval Office. Not only did he erroneously claim that cargo would be part of sweeping travel restrictions introduced on 26 European countries, but he failed to notify European leaders of what he was about to do. The first they heard about a travel ban was contained in a prime-time television broadcast. This made it clear to investors that there was no strategic co-ordination of the global response, a move they feared would make the situation worse.
Central bankers used the tools that have served them well in the long recovery from the financial crisis. Interest rates were cut and a wall of money was injected into markets to keep everything liquid. But lower borrowing costs can only do so much, particularly as interest rates are already historically low across the world’s advanced economies. The point of a rate cut is to deal with a downturn by making borrowing cheaper, incentivising investment for growth. That worked in the financial crisis, but we are now faced with an entirely different situation. Monetary policy will have no impact on decision to travel or risk infection in large groups of people such is seen at conferences and concerts.
Many companies withdrew their earnings guidance, as it is clearly impossible to predict what will happen next. The earnings outlook is now much gloomier than a few months ago, and it is unclear exactly how far earnings will ultimately fall. This means that, even though there have been sharp falls in a company valuation, earnings could be hit so hard that even now they are trading at higher price-earnings multiples than they were before the Covid-19 impact was factored in. This makes judgement calls on company valuations extremely difficult.
Saudi Arabia launched an oil-price war. Since 2016, Saudi Arabia has been supporting crude prices by reducing the amount of oil it supplies to global markets, but lost market share as a consequence. Spurred on by the Republican Party’s election slogan in 2008, Drill, baby. Drill!”, corporate America embraced the fracking revolution. The shale boom boosted US output to such an extent that it became the world’s top oil producer in 2018 for the first time since 1973. After the flotation of a stake in state-owned oil group Aramco got away without being a complete failure, the main reason for supporting oil prices at the expense of market share has now been removed. The final straw for Riyadh came when Russia refused to join in the output curbs aimed at balancing the effect of the coronavirus slowdown. The Saudis now want their market share back – and they are flooding oil markets and discounting prices in an attempt to grab business from rivals. It may also put higher-cost producers – such as those in the US shale industry – out of business and damage America’s energy independence. If US shale companies start to go bankrupt, this will put pressure on credit markets, as energy makes up about 20% of the high-yield index. As a result of the intervention, Brent crude futures fell by 22.6% over the week to trade at about $35 a barrel. Indeed, within hours of the Saudi statement, Occidental Petroleum, the biggest shale oil producer in the US, slashed its dividend from 79 cents to 11 cents a share.
John Redwood looks at the potential economic damage from the new oil war here. He looks at central banks’ policy responses here.
Supply chains for western companies also continue to be hit. Garry White argues that the spread of Covid-19 will accelerate the process of deglobalisation here.
Charles Stanley’s market view
Charles Stanley held its most-recent Investment Strategy Committee on 5 March. Discussions were dominated by the extent to which the coronavirus outbreak worldwide will change the economic and market prospects for 2020, and how long the damage may continue. The Committee has therefore developed the following three scenarios:
- The base case assumes that forecasts for world growth in 2020 will be brought down from slightly below the long-term trend of 3% to something much lower, possibly about 1.5%. The hit being concentrated in the first half of the year. Battling the virus will entail the closures of factories, much-reduced activity for international travel, tourism, events and discretionary retail, as well as interruptions to supply chains. If other counties follow Italy’s example of closing schools, then employees are at home providing childcare instead of being at work. Individual countries such as Japan and some Europeans may confirm a recession, and China will reveal a big shock to output in February and March. This means lower corporate earnings and the need for monetary authorities to keep credit easy to tide businesses over cashflow difficulties.
- The worst-case scenario would be a prolonged outbreak of the virus globally, with many more closures and significant disruption to normal economic life. This would lead to a world recession and a substantial fall in profits and earnings.
- The best-case scenario is a sharp V-shaped recovery, as governments give the all clear, based on an early reduction in infections, or a decision by governments that closures to contain the outbreak cannot work.
The ISC noted that many companies are now withdrawing guidance completely. This means that market estimates of earnings growth look extremely rich and the earnings downgrade cycle will continue for some time. Because of this, the ISC thinks a sharp “V-shaped” recovery is unlikely to happen, with a “U-shaped” scenario more likely. There will be some winners in an escalating crisis, including technology-driven home entertainment. The situation will also accelerate the divide between new-economy online businesses and the old economy.
Assessing the ultimate damage from measures to counteract the spread of the new coronavirus is extremely difficult. But it’s obvious there will be some winners and losers. John Redwood takes a look of some of the consequences here.
Below is a summary of some of the policy responses and corporate statements made over the last week.
Government planning and central banks
Donald Trump said he would seek a payroll tax cut and introduce legislation to protect hourly wage earners who miss work because of the virus. He’s also said he would also explore expanding loans by the Small Business Administration.
The Bank of England cut interest rates by half a percentage point and took measures to allow more bank lending. Governor Mark Carney said that the Bank was not introducing new quantitative easing measures because the extra capacity banks have been given to lend – up to £190bn – should be enough. However, it is clear the UK economy was stagnating even before the virus situation became a global issue. The UK economy did not grow in January, according to the latest GDP data from the Office for National Statistics. In the three months to January, the economy also remained flat. This was the third-consecutive month that the three-month measure of GDP had reported no growth at all and partly explains the depth of the interest rate cut by the central bank.
Restrictions on the hours that delivery lorries can operate in built-up areas in the UK will be relaxed in order to keep supermarkets stocked should the crisis require. Executives from Britain’s major supermarkets held a conference call with George Eustice, the secretary of state for environment, food and rural affairs, to agree a plan. There was also a discussion of the ways infected shoppers could pick up goods ordered online from stores without interacting with staff.
There were strong words from Christine Lagarde, the head of the European Central Bank (ECB). Ms Lagarde warned that the Eurozone faced a repeat of the 2008 financial crisis unless leaders respond immediately to the Covid-19 outbreak. She reportedly told EU leaders on a conference call that ECB policymakers were looking at all tools, but without a co-ordinated response member states risk “the collapse of part of your economies”. Ms Lagarde is keen to convince government to raise their spending, but Germany had been strongly against relaxing any of the bloc’s fiscal rules. However, on Wednesday, German Chancellor Angela Merkel said she was open to scrapping Germany’s zero-deficit rule, which requires a balance budget, to deal with the virus situation.
The ECB did not cut interest rates at it Thursday meeting, to the surprise of many market-watchers. However, the central bank announced measures to support bank lending and expanded its asset purchase program by €120bn.
Investment banks Morgan Stanley and Berenberg both forecast a recession in the Eurozone during the first half of 2020. Indeed, Europe was showing anaemic growth even before the Covid-19 crisis hit, data confirmed this week. The Eurozone economy grew by just 0.1% in the final three months of 2019, in line with Eurostat’s initial estimate published last month.
Italy was placed on lockdown as the virus spread rapidly. The government imposed unprecedented travel restrictions on its 60 million people to control the deadly coronavirus outbreak in the country. "I am going to sign a decree that can be summarised as follows: I stay at home," Italian prime minister Giuseppe Conte said in a television address. Payments on mortgages for Italian households are to be suspended, in a move that targeted individuals not corporates. All public gatherings were cancelled, with universities and schools closed until next month. The Italian government said it had increased its coronavirus stimulus package to €25bn.
Japan put together an additional financial package worth about $4.1bn to help cover the rising costs of Covid-19, as the Bank of Japan stepped up its buying of exchange-traded funds (ETFs).
Data from China highlighted the problems being faced by ordinary Chinese people, something that is sure to concern Beijing officials concerned with social order. The slowing economy resulted in factory prices falling last month, putting livelihoods at risk, at the same time as the price of food is soaring. Core inflation, which excludes food and energy prices, slipped into deflation, but consumer inflation neared eight-year highs on rising food costs. Food prices jumped 21.9%, led by a 135.2% jump in pork prices, while non-food prices rose 0.9%.
Following a record outflow by foreign investors from South Korean equities on Monday, the country’s regulator dramatically tightened rules on short selling for three months. Starting on 11 March, equities with a sudden and abnormal increase in short-selling transactions will be suspended from further short-selling for ten days. The current rule calls for short selling to be suspended for one day.
Covid 19: Travel
The pain experienced by airline operators, an industry with notoriously thin margins, increased by the day. British Airways, owned by IAG, cancelled all flights between Italy and the UK on Tuesday. Norwegian Air also followed suit, with easyJet, Ryanair and Wizz Air cancelling most of its flight to the country. Australia's Qantas will reduce international flights by almost a quarter, as passengers demand slumped. Air France-KLM said it would cancel 3,600 flights this month. Virgin Atlantic confirmed it has been forced to operate some near-empty flights after bookings were dented by the coronavirus outbreak – and other industry players increased pressure on Brussels to suspend its rules. This occurred on Wednesday, with European regulators saying that it was now not necessary to operate such “ghost flights” at a massive loss to keep their prized landing slots. Heathrow Airport said it had suffered its biggest fall in passenger numbers for almost a decade, as the coronavirus epidemic prompted people to change travel plans. Europe’s busiest airport welcomed almost 5% fewer customers in February and warned demand had fallen further during March. Across the Atlantic, both American Airlines and Delta withdrew their financial guidance. Asia’s Cathay Pacific warned of a "substantial" loss in the first half of this year.
Cruises had been growing in popularity with younger demographics, but recent events may have done serious damage to the industry. Royal Caribbean Cruises withdraw its guidance for 2020 due to the impact of Covid-19 and said it was boosting its financial firepower. The cruise operator increased its revolving credit capacity by $550m and said it was pursuing additional actions to improve liquidity by reducing capital expenditures and operating expenses. This followed a warning to Americans by the US Centers for Disease Control and Prevention, as well as the State Department, to avoid cruise ships. Carnival Corporation, a subsidiary of which owns the Diamond Princess ship that still has passengers quarantined, said it had increased health checks. “Our brands have enhanced their health screening protocols, which includes thermal scans, temperature checks as well as other actions, both prior to boarding and onboard our ships,” the company said. Cruise lines Princess and Viking announced they were halting all of their planned cruises
Go-Ahead Group, which operates the Thameslink and Southeastern rail franchises, as well as bus routes – slumped after it said the outbreak had affected the number of travellers on some of its services.
Shares in rail ticket seller Trainline slumped after it said that a rail strike in France and the outbreak of the coronavirus had impacted sales.
Retailer WH Smith issued a profit warning blaming lower footfall at its train station and airport stores. The division is the main driver of the retailer’s growth as its high street operation struggles.
Finablr, the owner of holiday-money provider Travelex, also warned on profits. The company was founded by Tycoon BR Shetty, as was hospital NMC Health shares in which are currently suspended after the discovery of potential “fraudulent activity”.
Covid 19: Financials
In the UK, the Royal Bank of Scotland said it would offer a three-month holiday on mortgage and loan repayments for customers affected by the coronavirus outbreak. Lloyds Banking Group said it had earmarked £2bn-worth of loans for small and medium-sized businesses affected by the outbreak, scrapping any resulting fees and was also considering repayment holidays for the worst-affected companies. HSBC also announced a package of support for customers. For personal bank customers, it could let them defer mortgage payments, and/or switch to an interest-only mortgage. For business customers, the Bank has “allocated £5bn to help businesses that need support” and could also give repayments holidays or review loans.
Insurer Aviva said it was cutting back on travel cover in new insurance policies due to the outbreak. Travel insurance policies will be unable to add cover for travel disruption, but Aviva customers who purchased travel insurance before Monday will still be fully covered. "We have decided to adjust our cover to reflect the current risks posed by coronavirus,” a company spokesman said. The insurance sector now faces a sharp rise in insurance payouts at a time the companies are making big investment losses.
Covid-19 is yet another storm crushing Britain’s retail sector, according to Barclaycard. The company, which processes almost half of Britain’s credit and debit card transactions, revealed people stayed home in February and spending habits changed. The amount spent on digital content and subscriptions increased by 12.4% and Britons spent 8.7% more on takeaways and fast food than they did at this time last year. “Storms, floods and fears about the spread of coronavirus have kept many Brits away from the high street this month,” Barclaycard’s Esme Harwood noted.
Covid-19: Other impacts
Cineworld said that it could collapse due to the slump in business caused by the reaction to the virus – sending shares to their lowest level in more than a decade. The world's second-largest cinema operator said that it will lose up to three months' revenue if forced to shut most screens as part of efforts to contain the outbreak – putting its agreements with lenders at risk and threatening its survival.
It was inevitable that the spread of the Covid-19 would impact Informa, the world's largest exhibitions organiser. Events where large numbers of people gather risk spreading the virus and management confirmed the company had cancelled or postponed 128 events worth £425m as a result of the epidemic.
A similar issue prompted a profit warning from Mind Gym, a workplace training company. The outbreak prompted cancelled meetings and training sessions.
There were relatively few rule changes affecting investors in Rishi Sunak’s first Budget as Chancellor of the Exchequer, although a large increase in the Junior ISA allowance was a pleasant surprise for many families. Rob Morgan takes a look at the budget’s impact on personal finances here.
The majority of the Budget statement related to measures to deal with the spread of Covid-19, with a substantial increase in spending. He suspended business rates for many companies in England, extending sick pay and boosting NHS funding. Of the £30bn in additional spending Mr Sunak unveiled, £12bn will be targeted at anti-virus measures, including at least £5bn for the NHS in England and £7bn for business and workers across the UK.
The UK government was given a bloody nose over its decision to allow Huawei to participate in the rollout of the country’s 5G network. MPs voted 306 to 282 against an amendment calling for Downing Street to stop using “high risk vendors” – a term that appeared to apply solely to the Chinese company. Although the government won the vote, it was a substantial rebellion by Conservative backbenchers.
However, the US Department of Commerce (DOC) extended Huawei's Temporary General License for the fourth time this week – a move that allow it to trade with American-based companies until 15 May. The DOC also issued a request for public input on the matter, calling upon US-based companies in the tech and telecoms sectors to share their input on the potential costs to their businesses if future license extensions were cut.
Joe Biden cemented his position as front-runner in the Democratic race to take on Donald Trump in November's White House election. The former vice-president won Michigan, the biggest prize of primary voting on Tuesday, extending his lead over main rival Senator Bernie Sanders.
Russian President Vladimir Putin made another lurch forward in his bid to hang onto power. Russia's lower house passed constitutional reforms in their final reading, that include the possibility of Mr Putin extending his rule for another two terms. The measures must now be approved by the upper house Federation Council and be put to a referendum scheduled for 22 April. If it is approved, the changes in the law will allow Mr Putin to remain in power until 2036.
Shopping centre owner Intu warned it may go bust unless it could raise further funds, after it reports a £2bn loss for 2019. The company, which owns Manchester's Trafford Centre and the Lakeside complex in Essex, wrote down the value of its shopping centre sites by nearly £2bn. Management said it will try to raise extra cash after an earlier plan to raise £1bn failed.
Sofa seller DFS blamed "challenging market conditions" for a 5.7% drop in sales in the final six months of last year. It said "consumer confidence and political uncertainty" meant fewer people visited stores and the sofa seller has warned that the Covid-19 outbreak was keeping people away from its stores.
Sales at French Connection fell by more than 10% in its latest financial year, as tough conditions on the high street took their toll on the fashion retailer. The apparel retailer blamed "the planned closure of stores and the difficult retail trading environment in the UK" for a £2.9m annual loss.
However, one retailer saw its shares soar amid the crisis. Suit retailer Moss Bros will probably be taken private after the owners of Crew Clothing offered to buy it in a deal worth £22.6m. Brigadier Acquisition Company offered to buy the high street chain for 22p per share, a premium of 60% on its closing price before the deal was announced.
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Garry White is Chief Investment Commentator at Charles Stanley & Co. Limited, which is authorised and regulated by the Financial Conduct Authority.