halcyon days

Christopher Peel, CIO of Tavistock Wealth - 09th March 2020

Today, global equity markets have fallen again and yields on developed market government bonds have collapsed even further. In my opinion, there are two diametrically opposed events playing out at the same time.

This has caused the panic selling of risk-assets and a flight to safe-havens such as US Treasuries and gold.

The spread of the COVID-19 coronavirus outside of China is gathering pace and cases have now been reported across more than half of the world. As of yet there is no cure. However, scientists around the globe are working on an antidote and I would optimistically speculate that these bright minds, with the support of the World Health Organisation and government officials will come up with a solution in a timely manner. Drugs are already being tested in China and hopefully they will be effective. The impact on quarantined areas such as the Hubei province in China and in the Lombardy region in Italy will certainly reduce economic growth in the short-term, but central banks have reacted quickly by slashing interest rates in an effort to cushion the blow. Similar outbreaks such as SARS, Ebola, Swine Flu or the Zika virus suggest that the sell-off in equities will be sharp and short-lived, followed by an equally strong recovery. This is what I expect to happen in the coming months.

Following the peak of prior epidemics, local equity markets have rebounded swiftly over the subsequent 1 and 3 month periods.

This chart shows the positive correlation between the MSCI World  equity index and Brent crude oil. The last time oil fell this low, in early 2016, it rebounded sharply – a move matched by the corresponding recovery in global equities.

Over the weekend, the OPEC cartel failed to reach an agreement on supply cuts, which has caused a plunge in the price of Brent crude oil from $45 to $35 per barrel. This steep fall will act as a huge economic stimulus in countries that import oil such as China, India, Japan and most of Europe. The losers will be the Middle East region, Brazil, Mexico, Norway and the shale industry in the US. The net effect is positive for the global recovery and will offset some of the downturn stemming from the spread of the virus in China. It is difficult to predict when the price of oil will recover, but the longer it stays at the current levels, the better chances of a quicker recovery from the impact of the virus.

 

Our positioning across the range of ACUMEN Portfolios is little changed since the beginning of the year. We are largely asset class neutral versus our global composite benchmarks, which are comprised of global investment grade bonds, global high yield bonds, global developed market equities and global emerging market equites. We recently moved out of a satellite position in the FTSE 250 and purchased an emerging market ESG ETF, which has performed very well in the sell-off. Cash in the ACUMEN Portfolios is approximately 3.5% and exposure to the basket of ETFs in the ACUMEN Protection Portfolios is circa. 50%. As usual, risk is being managed very tightly and we aim to navigate these volatile periods relying on our conservative approach to portfolio diversification and defensive tilts such as smart beta trading strategies.

The playbook from here is clear in my mind. Market participants are being deluged by highly speculative, inflammatory and sensationalist reporting across many media outlets. The fundamentals of the global economy will recover with the help of central banks and the medical profession will rise to the challenge of finding a cure for COVID-19. Lower oil prices will also play a key role in the coming weeks. Our approach to portfolio construction is designed to ride out these storms in a risk controlled manner. Diversification on a global basis will be key in the coming days. 

This has caused the panic selling of risk-assets and a flight to safe-havens such as US Treasuries and gold.

The spread of the COVID-19 coronavirus outside of China is gathering pace and cases have now been reported across more than half of the world. As of yet there is no cure. However, scientists around the globe are working on an antidote and I would optimistically speculate that these bright minds, with the support of the World Health Organisation and government officials will come up with a solution in a timely manner. Drugs are already being tested in China and hopefully they will be effective. The impact on quarantined areas such as the Hubei province in China and in the Lombardy region in Italy will certainly reduce economic growth in the short-term, but central banks have reacted quickly by slashing interest rates in an effort to cushion the blow. Similar outbreaks such as SARS, Ebola, Swine Flu or the Zika virus suggest that the sell-off in equities will be sharp and short-lived, followed by an equally strong recovery. This is what I expect to happen in the coming months.

Following the peak of prior epidemics, local equity markets have rebounded swiftly over the subsequent 1 and 3 month periods.

Over the weekend, the OPEC cartel failed to reach an agreement on supply cuts, which has caused a plunge in the price of Brent crude oil from $45 to $35 per barrel. This steep fall will act as a huge economic stimulus in countries that import oil such as China, India, Japan and most of Europe. The losers will be the Middle East region, Brazil, Mexico, Norway and the shale industry in the US. The net effect is positive for the global recovery and will offset some of the downturn stemming from the spread of the virus in China. It is difficult to predict when the price of oil will recover, but the longer it stays at the current levels, the better chances of a quicker recovery from the impact of the virus.

This chart shows the positive correlation between the MSCI World  equity index and Brent crude oil. The last time oil fell this low, in early 2016, it rebounded sharply – a move matched by the corresponding recovery in global equities.

Our positioning across the range of ACUMEN Portfolios is little changed since the beginning of the year. We are largely asset class neutral versus our global composite benchmarks, which are comprised of global investment grade bonds, global high yield bonds, global developed market equities and global emerging market equites. We recently moved out of a satellite position in the FTSE 250 and purchased an emerging market ESG ETF, which has performed very well in the sell-off. Cash in the ACUMEN Portfolios is approximately 3.5% and exposure to the basket of ETFs in the ACUMEN Protection Portfolios is circa. 50%. As usual, risk is being managed very tightly and we aim to navigate these volatile periods relying on our conservative approach to portfolio diversification and defensive tilts such as smart beta trading strategies.

The playbook from here is clear in my mind. Market participants are being deluged by highly speculative, inflammatory and sensationalist reporting across many media outlets. The fundamentals of the global economy will recover with the help of central banks and the medical profession will rise to the challenge of finding a cure for COVID-19. Lower oil prices will also play a key role in the coming weeks. Our approach to portfolio construction is designed to ride out these storms in a risk controlled manner. Diversification on a global basis will be key in the coming days.

This investment Blog is published and provided for informational purposes only. The information in the Blog constitutes the author’s own opinions. None of the information contained in the Blog constitutes a recommendation that any particular investment strategy is suitable for any specific person. Source of data: Tavistock Wealth Limited.

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