Five months on from March’s stock market crash - what are the questions investors are asking right now?
At our recent open call for clients and contacts, we answered their most pressing questions and provided our latest markets analysis. What impact could the US election have on markets, how are we positioned for potential second waves of the virus and ultimately, are we positive on the future outlook for markets? Here, we include the questions covered on the call along with others that we didn’t get a chance to answer.
What are markets doing right now?
Following the strong recovery we saw from April – June, we are finally seeing a slight pause in markets which have been trending sideways over the last month. Although Q2 was probably the market low for the western world (it was Q1 for China), the recovery is now patchy, depending on which country you look at and, in the US, which state. Every time market indices drop however, investors who have been sitting on the sidelines jump in. With US$5trn sitting in money market funds just in the US, this shows how much investors have been distrusting the recovery but that there is plenty of cash ready to be invested.
Are markets still being affected by the virus?
Yes, and with many countries and states reversing the full reopening of their economy and many consumers concerned about going out, markets will probably keep trading sideways for another couple of months. The countries that handled the pandemic well are seeing a better recovery, as the public is willing to go out again. Germany is one such example. But the areas that reopened too soon without proper precautions, like many states in the south of the US, are seeing a dip in their growth. Until something happens to reassure the vast majority of us (like a vaccine), consumer spending will be subdued and the sectors that have been destroyed by the lockdown (travel and leisure, hospitality, live entertainment) will not recover. Consumer confidence therefore matters enormously and is inextricably tied with the virus.
What if the worst thing happens - a year from now, the virus is still with us, we are years away from a vaccine, still in a form of lockdown and governments cannot continue to fund businesses and workers, what then?
The one thing that is almost guaranteed not to happen is ‘the government cannot continue to fund businesses and workers’. If the worst-case scenario happens, governments will spend even more and borrow to the hilt to make sure they can fund the economy. Ultimately, there is a price to pay for this spending and borrowing (permanently slower economic growth, higher interest rates, higher inflation, higher taxes) but right now the government’s focus is on saving the economy, so the sky is the limit.
What leading economic indicators would signal another dip in markets?
We would need to see monetary or fiscal policy go into reverse, or companies failing in the sectors which have benefitted from the crisis (technology and healthcare). As long as bankruptcies are in the fragile sectors (travel, leisure, restaurants, etc.), then markets won’t be concerned. If technology or pharma companies start going bankrupt however, then markets will react badly.
How could the US elections further disrupt markets?
There are a few scenarios related to the US election that could impact markets:
- The likelihood of declaring a winner the day after the election is low (unless it’s a landslide), due to the high number of postal ballots and the inevitable requests for recounts. So, a limbo situation could go on for weeks and weigh heavily on markets
- If Biden is elected and manages to flip the Senate to Democratic control, corporate, income and capital gains taxes could go up which would be the highest tax hike since 1968 when markets reacted very badly
- The markets see some positives to a possible Biden victory though, as he is less likely to slap trade tariffs on China and the EU which Trump would almost certainly do.
The ideal outcome for markets is a Biden victory but the Senate remaining in Republican hands, creating gridlock for legislation so that taxes or tariffs don’t go up. The risk of Trump refusing to concede defeat however, does exist and it could create a constitutional issue.
How much is Brexit still holding the UK economy back?
Brexit may still be a pending issue for the country but it has ceased to be the dominant issue for the financial markets. The chances of a hard Brexit were always measured by sterling, but it is now clear that the currency has already anticipated the negative scenarios. The big problem for the UK is that it is dominated by sectors which are suffering in the current crisis (energy, materials, banks, financials), with very little in the way of technology among the large capitalisation shares.
A large part of the UK economy is made up of energy companies – what is the outlook for them?
Energy companies are facing a very difficult transition to a low carbon future. Only this week, BP announced its long-term plan to becoming a company that doesn’t contribute any carbon to the world by 2050. For many energy companies, it will be an uncertain and expensive journey and as a result, we are cautious about the sector and its ability to generate strong dividend growth, even from today's lower level following cuts at Royal Dutch Shell and BP.
What is the outlook for dividends?
There have been many dividend cuts in the last five months, but as we look forward, we are able to divide companies into different categories. Some companies in the sectors most affected by the pandemic won’t be re-introducing dividends because their balance sheets are so severely strained. Others may have cut dividends over-cautiously and we can expect them to be re-introduced, albeit in a phased and gradual way. The other 40% of companies are still paying dividends as before. The positive news is that we are likely to see growth in dividend income in 2021, albeit rebased to a lower level.
On balance, are we positive on markets?
The virus is far from over and many sectors will remain the victims of this pandemic for a long time. Growth will take time to re-establish itself. In the meantime, however, the central banks of the world are flooding our economies with liquidity and the governments are supporting the weakened sectors with furlough schemes, unemployment benefits, loans to companies and generally massive fiscal spending. Markets will wobble but eventually the way is up.
Choosing the right investments is vital though and we continue to look at the following areas:
Technology – one of the only areas to benefit from lockdowns and our change in attitudes to work and shopping. It could give up its market leadership when there is a workable vaccine but the long-term societal changes taking place mean it’s not going to go away completely.
Healthcare – we will be obsessed with our health for years and will spend over the odds. Spending on treatments for cancer and other killer diseases which have been forgotten due to COVID-19 will come back in full force.
Europe – the sleeping beauty of stock markets has finally woken up, benefitting from the €750bn eurozone spending plan.
Japan – one of the last bastions of political stability, Japan has a corporate governance revolution in full flow and attractive valuations for cash-rich, high quality companies.
ESG– a major mindset change is happening as investors realise that they can do good and make more money at the same time. The new focus is on the ‘S’ which deals with all of a company’s stakeholders (employees, customers, suppliers, authorities etc.). With millions of people unemployed and furloughed in the world, companies are under scrutiny as to how they treat their stakeholders.
Gold – the only currency that is not printing money galore is gold and that is why it’s performing so strongly. It will stop when economies, budgets and central banks go back to normal but for now, we don’t know when that will be so gold is the protection against this pandemic.
There are many changes coming to society following this pandemic which investors can take advantage of. The opportunities are excellent, even with the risk of second waves of the virus and weakened economic conditions.
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Investment involves risk. The value of investments and the income from them can go down as well as up and you may not get back the amount originally invested. Past performance is not a reliable indicator of future performance.
This is not a recommendation to invest or disinvest in any of the themes or sectors mentioned. They are included for illustrative purposes only.
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IMPORTANT: Investment involves risk. The value of investments and the income from them can go down as well as up and you may not get back the amount originally invested. Past performance is not a reliable indicator of future performance.