Oh, how the good times can change quickly!
After what was shaping up to be a record start to 2020, the last week of February saw the sharpest market selloff in the equities since the downgrade of US sovereign debt back in August 2011. This months email is understandably longer than our usual monthly, to better address the many questions and concerns that we are getting from our clients.
How have our investment portfolios held up during the recent turmoil?
We’ve been extra cautious since late 2019 (when the market move upwards coming off of the 2018 crash had already exceeded our expectations). In our model portfolios, we have been consistently moving more money to safe have cash and bond investments - heading into last week with a much higher than normal allocation. These defensive moves were taken in anticipation of an inevitable market pullback (we just didn’t know when, why or how sever it would be). Fixed income has actually done well over this past week as interest rates continue to fall to record low levels – helping to offset losses in equites and balance out our returns. We continue to make adjustments in our model portfolios, focusing first and foremost on preservation of capital during such turbulent times. However, we also recognise the threat of Coronavirus will pass (like all risks do) and a move back into equities will be warranted.
While it is understandable to be concerned about the impact that the Coronavirus outbreak may have on the global economy, it is important to put such fears into context. The graph below does an excellent job of showing the ride that investors have been on over the past 11 years (since the bottom of the 2008 recession). Clearly last weeks sell off was severe, but despite the never ending reasons to sell – staying invested has paid off substantially.
Reasons NOT to Sell +431%!!!
It is also important to remember during these turbulent times, that market corrections are a normal part of investing. The chart below shows the total return for the last 10 years of the US stock market and provides an accounting of the number of 5%+, 10%+ and 20%+ corrections that have occurred. The numbers show that on average, investors every year should expect to experience four corrections of 5% or more and one correction of 10% or more. Corrections of 20% or more occur only once every 10 years (and are typically excellent buying opportunities). While it can be argued that we are ‘due’ for a 20% correction, we got extremely close in 2018, when the US market fell -19.8%.
So why is the market reacting so negatively right now?
Stock prices are largely based on the future earning potential of companies (growth). While the virus was contained in China, the overall negative impact to the world economy was expected to be digestible. Now with cases of the virus increasing outside of China, the concern is that there could be a major slowdown in consumer services worldwide (travel, retail, tourism). More impactfully to markets, outright fear and panic is growing as more cases are reported and big stock market moves make headlines.
It is hard to price in what a reasonable market pullback would be if Coronavirus was to become a ‘full blown’ global pandemic – but it is reasonable to concede that a global recession would follow, where stock market pullbacks of 20%+ are common. With equities already down appx -12% in the US, -9% in Canada and -11% in Europe/Japan, much of the damage has arguably already been done.
What is the likelihood that Coronavirus becomes a global pandemic?
It seems that China has done an admirable job of containing the virus within that country. As of yesterday, the number of people who had recovered from the virus surpassed those that were confirmed with new cases. This means that the overall number of people who were infected actually declined. Also a silver lining - the NO2 levels in and around China have drastically been reduced with a large part of the population self quarantining themselves.
The concern now is what happens in the rest of the world (South Korea and Italy especially), where the number of reported cases is growing by 20%+ each day. And knowing this, how consumers and investors react to such a reality.
Already there are stories of lines around the store at Costco to buy toilet paper and on Amazon.com, Purell hand sanitizer is currently selling for 69.99 a bottle!
The spread of the COVID19 to the western world is cause for concern, there is no doubt about that. But it is important to keep things in perspective:
This mortality rate for Coronavirus is currently around 3% - compare this to the Ebola outbreak with a mortality rate of ~50% (also note the current 3% mortality rate for Coronavirus could decline as less severe, non hospitalized cases are more frequently reported)
During the 2017-2018 Flu Season in the US there were 45,000,000 reported illnesses, 810,000 hospitalizations and 61,000 deaths (CDC 2018). A mortality rate of just 0.14%
So while the threat of Coronavirus is certainly serious, it is not unmanageable.