Firstly we would like to begin by saying our hearts go out to all of those across the world that have been impacted by the Novel Coronavirus (COVID-19) and we have confidence in the government and public health agencies that are working hard to slow the spread of the virus. This commentary will talk about the impacts of the virus from a capital market perspective, but in no way are we downplaying the personal impact from COVID-19.
Going into 2020, we were relatively positive on the global economic outlook. Several reasons for our optimism were that the central bank policy would remain very accommodative, a recession in the U.S. was nowhere in sight, and a rebound in Chinese activity would prove beneficial to many regions of the world. Unfortunately, the impact of COVID-19 will delay a recovery in global economic activity until there are clear signs of a gradual decline in new cases.
What we do know is that monetary policy is still very accommodative, and with bond yields in many areas of the world at historic lows, this will ultimately be positive for risk assets. Taking stock of how recent pandemics have unfolded (such as SARS and Swine Flu) may provide a reasonable guide on what to expect with the current COVID-19 outbreak.
From what we’ve read, we believe the current COVID-19 outbreak could resemble the H1N1 (swine flu) pandemic of 2009-2010. The US Centers for Disease Control and Prevention calculated that 61 million Americans caught the virus over a 12 month period, resulting in over 12,000 deaths. Globally, an estimated 700 million to 1.4 billion people contracted the virus. A paper published in the Lancet put the number of fatalities worldwide at 151,700-to-575,400. The reason most of us hear less about the swine flu then SARS is because SARS had a very high mortality rate; somewhere in the 5%-10% range, while the swine flu killed between 0.01% to 0.08% of those who contracted it. While the mortality rate for SARS was very high, it only infected approximately 8,000 people world-wide. Based on very preliminary evidence, it appears that the fatality rate from COVID-19 will be higher than that of the swine flu, but well below that of SARS.
Given the uncertainty of how the current outbreak will unfold, it’s important to look at various scenarios and try and assess the potential impact on risk assets. One scenario is if the number of new infections gradually decline over the ensuing weeks, investors will ignore the expected drop in economic growth in the first quarter. Global growth had already turned the corner in the weeks prior to the outbreak, and with pent-up demand accumulating since the outbreak, growth will probably bounce back nicely in Q2, pulling equities up with it, and driving bond yields higher.
In a pandemic scenario, the recovery in global growth will be delayed for some time. The delay will last until the pandemic begins to subside (timing will be uncertain). The positive (from a market perspective) is that the economic recovery will be from significantly lower levels, which will result in a V-shaped recovery in both economic growth and equities.
Unfortunately, no one knows with certainty which scenario will playout. What we do know, and have lived through in the recent past, is that all significant viral outbreaks have eventually been contained, which ultimately leads to a recovery in economic activity, and a recovery in risk assets. We’ve mentioned in the past that one way to destroy wealth is to overreact to market noise without first understanding the long-term implications of what that noise is. While there is no doubt the current outbreak will have short-term negative consequences for both economic growth and equities, we don’t believe the impact will have long-term implications.