UOB Asset Management started the year with a constructive view on markets as the global growth risks that carried over from 2019 were diminishing and the likelihood of another year of continued expansion has improved considerably. We expressed that for equities, we were fully invested with a neutral positioning. Our view was that a neutral position was prudent given the maturity of the cycle, modest global growth outlook, fairly full valuations juxtaposed with various geopolitical risks. The outbreak of the Wuhan virus, however, is a black swan that adds another risk to our global market assessment.
In light of the rapidness of the outbreak, we believe it is prudent to consider this risk to be at least as severe as the severe acute respiratory syndrome (SARS) outbreak in 2003. In the table below, we note that spread of the Wuhan virus appears more aggressive than SARS but the fatality rate appears to be less so (but we are still in the early stages of understanding its fatality rate).
Global markets reacted to SARS and other outbreaks with market drawdowns of 5-15%. The markets were affected for about 2-4 months and then started to stabilise as the number of new cases peaked and started to decline. In the case of SARS and MERS, the local markets were the focal points of the drawdowns and it took several more weeks for local markets to recover along with the global markets.
(Severe acute respiratory syndrome)
(Middle east respiratory coronavirus)
|Wuhan virus 2020|
(but note the exponential growth from 8 to 106 deaths in a week’s time)
|Globalised spread||Yes, 26 countries||No||Yes, 16 countries|
|IMPACT ON EQUITY MARKETS|
(Asia ex-Japan equities)
(Saudi Arabian equities)
|Duration (in months)||2.3
(11 Feb – 21 Apr '03)
(22 Sep to 27 Nov '12)
(17 Jan '20 to present)
Source: UOBAM, Goldman Sachs Research, 27 Jan 2020
Global equities during virus outbreaks
Source: Bloomberg, UOBAM, 29 Jan 2020
The risk to economic fundamentals is also significant, but we expect the markets to treat the weakness as transitory once the new cases of the virus start to decline. Economic data on tourism and discretionary consumption is likely to show sharp declines in China. Retail outlets, restaurant chains and other entertainment groups are likely to see significant profit drops. If the virus spreads further globally, the economic impact will be felt harder as well. In 2003, Asian economies were also reporting alarming declines in travel and tourism, but as soon as the number of new cases started to decline convincingly, then markets looked past the weak economic data over the period.
Historically, there are reasons for caution and prudence. The Spanish Flu in 1918 is estimated to have killed 50-100 million people worldwide. In that case, there was a mutation that caused a deadly second wave. But for now there are no signs of a mutation and there are many reasons to believe that the response to the outbreak is stronger than it was 1918 which came on the heels of World War I.
Psychologically, it is human nature to fear a potential pandemic. Throughout Asia, even though there are only a handful of reported cases of the Wuhan virus outside of China, significant percentages of the populations are taking precautionary measures such as wearing masks. This fear is likely to grip the investment markets as well. For perspective, the common flu is estimated to kill between 290 to 600 thousand worldwide every year. While the current outbreak is far more dangerous for its potential, it is highly likely that the outbreak would not cause a fraction of the deaths the common flu will cause this year. Investors would not spend much time considering the impact of the common flu on their investment portfolios.
UOBAM house view and positioning
SARS, MERS, and the Swine Flu outbreaks have all affected markets in the past couple of decades. In these cases, once the number of new cases started to decline, markets fully recovered their losses. We are still in the early stages of the Wuhan virus outbreak. At this stage, it appears that the number of new cases is likely to keep climbing for a few more weeks before they start to decline, it would not be surprising to see cases spread to more countries and for global investors to remain anxious.
It would seem to us a bit aggressive to buy into the market correction at this stage, but overall, we do think investors should remain calm and look for signs that the number of new cases is declining. While headlines of the economic impact of the virus is also likely to be alarming, we would hold the view that once the outbreak is on a downtrend, global investors will look past weak economic data points during these months as being transitory and will not derail their investment plans.
Hence, we remain neutral in equities and have a slight overweight on fixed income. Within equities, we continue to overweight the US, and remain neutral on Asia at least until the virus passes. For fixed income, we focus on good quality investment grade names over government bonds or high yield. On Asia credit, negative risk sentiments will continue to hold for Asia assets for next 2 to 3 months. Core sectors including Quasi Sovereigns, Financials, Real estate, Oil and Gas, Utilities and Technology, Media and Telecom will be dampened by this negativity in the short term. However, with China in a much stronger economic and political state, we expect the fall-out effect to be well-contained within the next few months.
We also maintain an underweight in commodities and cash and hold an overweight view on alternatives.
With regards to currencies, the worsening headlines have led to sell-offs in currencies such as the Singapore Dollar and Thai Baht of open and/or tourism-dependent economies. Correspondingly, the currencies of countries that did not have any confirmed cases of infection like the Philippines and Indonesia performed relatively better. We would stay underweight in at least the Chinese Yuan for the time being. With regards to the Singapore Dollar specifically, we recall the SARS episode in 2003 when the Monetary Authority of Singapore (MAS) re-centered the midpoint of the Singapore dollar nominal effective exchange rate (S$NEER) 2% lower even after the World Health Organisation had removed Singapore from the list of infected places. Thus, our view is that the Wuhan virus episode would increase the chances of MAS easing of S$NEER in April, leading to a softer Singapore Dollar.
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