Please find below our Investment Market Update as at 17th April 2020.
Blue Sky Investment Market Update
We have a lot to be thankful for!
The headlines across the media channels have undergone a transition in recent days, with much speculation about the nature of our transition from lockdown, along with the potential impact of this crisis on the economy, both from a domestic and global perspective.
Sensational headlines grab our attention:
“Lockdown could go on for years”
“This is the worst economic shock for 300 years”
“The world economy will suffer its worst year since the Great Depression in the 1930s”
“The global economy will suffer for years to come”
Certainly scary stuff if you take this on face value. Often, such predictions are at the extremes of financial models and are picked up by the press and spun in such a way that it appears almost certain they are going to happen! In turn, this creates anxiety and stress for readers, and, in many cases, it leads to confirmation biases which confirm or strengthens one’s own predetermined personal beliefs. In other words, it can just make things worse!As you know, I always encourage perspective. A conversation with my wife the other day, followed by a subsequent chat with an eminent local business owner, got me thinking about previous economic shocks and the impact they had on lives. The most recent example being the financial crisis in 2008, but there have been many to contend with over recent decades. The worst economic downturn in living memory (I’m not that old) was of course, in the 1930s which lasted for a decade and some commentators have even suggested we could be heading for something similar.
I therefore thought it might be worth looking back at what happened in 1929, and into the 1930s, compared with what we are seeing today. If you like, an economic history lesson, but one which will give us reasons to be more cheerful, financially.
1929
The stock market crash in 1929 marked the beginning of the Great Depression in the US. It is difficult to argue that the crash caused the Great Depression because as we have seen on many occasions, economies can often recover from such shocks. Multiple factors came into play which eventually evolved into a perfect storm.
Leading up to 1929, US companies were enjoying record profits but there were concerns that a bubble was forming, fuelled by easy lending and weak regulation. When the crash came it had a huge knock-on effect for banking institutions with approximately one third of banks going bust over the next few years. Neither was there any protection for savers, and they lost all their money on deposit. Huge queues of people lined the streets outside banks to take their money out, which in turn, caused more banks to go bust. Sounds familiar… Northern Rock springs to mind!
Just like we had in the financial crisis of 2008, the surviving banks stopped lending money which resulted in people spending less. However, the way central banks and Governments responded in the 1930s, 2008 and in 2020, couldn’t be more different.
A chain of events
How did the Federal Reserve respond to the crisis?
The knock-on effects
Trade wars
Yet, here are similarities with today’s situation. Protectionist policies came to the fore and guess what… trade wars ensued. Imported goods were taxed heavily and as a result, trading partners of the US imposed tariffs on US goods. World trade fell by circa 50% as a result.
Again, a reminder of why in recent times, the trade wars between the US and China, caused concerns across markets.
Lessons from the past
Until Franklin D. Roosevelt took power in 1933, there was very little stimulus and intervention from the Fed or from the Government. By the time he took over as President, the Great Depression was deep rooted and although he launched some excellent programmes in an attempt to stimulate the economy, many commentators have since written that he wasn’t aggressive enough with his stimuli and was too mindful of trying to balance the budget.
My mind immediately gets drawn to how the Conservative Government, after the financial crisis, seemed obsessed with reducing the debt and borrowing. Prudent of course, but perhaps not wise when you have bailed out financial institutions yet imposed austerity on so many. This caused major fissures and of course distrust.
I suppose it could be argued that by reducing the debt, it has provided some wiggle room for the avalanche of measures the Government has delivered recently. A difficult balancing act but investing in the infrastructure and fabric of a country should never be overlooked. In fact, this is what Roosevelt did when he came to power in the US.
As it happens the Government, after Brexit, has seemed committed to investing in infrastructure and no doubt will be even more committed now in order to drive the economy forward and create inflation. Borrowing costs are low, debt can be restructured, and we can inflate our way out of this crisis. Let’s face it, we did it after the 2nd World War and this lasted 6 years… although it has to be noted, we only finished paying off our ‘War Loans’ in December 2006!
The financial measures announced by the Government to help businesses and workers has in some quarters been described as ‘the Peoples QE’ (quantitative easing) and, in my opinion, they should be applauded for their swift action. This is in contrast to how the Fed responded in the 1930s and I suppose in 2008 where support was largely given to the banks.
I was only saying to someone yesterday, “imagine how awful it would have been if Coronavirus had occurred at the same time as the banking crisis in 2008”. It does not bear thinking about, does it.
The key, as in business, is to take tough decisions quickly and its really encouraging that this has happened on the financial front here in the UK, in complete contrast to the Fed in the 1930s and a very different form of stimulus compared to 2008.
Our perspective
Unlike in previous recessions, this time around the downturn hasn’t been caused by an economy that was overheating or that was over stretched on debt. The financial crisis 12 years ago, necessitated that the banks had to recapitalise and restructure and as result, they have been tougher on their lending criteria, with guidance from the FCA.
It doesn’t feel like we are in a price bubble like we have been previously. Again, restrictions on borrowing around buy-to-lets and the associated increase in stamp duty has helped prevent an asset price bubble in the property market.
However, we should be in no doubt that we are entering a global recession (categorised by two consecutive quarters of negative growth) and the nature of this downturn has not been seen before. According to the International Monetary Fund, the US economy is expected to contract by 5.9% this year, the UK by 6.5% and the Euro area by 7.5%. The steepest annual decline since… wait for it… the Great Depression!
Unlike the 1930s though, when output remained subdued, the IMF expects economies to recover most of the lost ground in 2021 with growth in the US & Euro area of 4.7% and the UK, 4%.
If we relate back to the 30s again, but this time specifically towards the UK, contagion had spread to these shores and with deficits rising, Ramsay MacDonald’s Labour Government proposed to raise taxes, cut spending and believe it or not, reduce unemployment benefit by 20%. Just imagine if this was Government policy today… we all know what the outcome would be. Quite a contrast!
Back in the US, by the middle of the 30s, interest rates dropped significantly but it was too late to make a huge difference to the economy because prices were still falling and therefore consumer spending was depressed. Again, in contrast to how central banks responded some weeks ago, right at beginning of the crisis.
All these measures are designed to boost confidence and avoid panic and deflation. A prolonged drop in demand must be avoided, just like we saw in the US all those years ago.
Hopefully, as I’ve demonstrated, the current environment is very different from the Great Depression. Sure, it is a major shock and health wise, it is devastating for so many. Financially however, most of us should gain confidence from the size and speed of the response from the authorities. The Federal Reserve has committed to supporting the economy by more than in the 2007-2009 financial crisis.
What now for equities?
I stated on Tuesday, in my last update, that I think we will now see prices being choppy. The markets will wrestle with negative data, likely stimulus measures and the possible transition times out of lockdown, and indeed the nature of lockdown.
Sectors like technology, health, infrastructure and sustainable investments should perform on the upside, but many consumer, retail and property stocks are likely to struggle.
The commitment by Central Banks to buying Corporate Loans is supporting this sector and we’re seeing nice steady rises across the board. Those who are fearful of investing in equities could do far worse than look at Corporate Bonds which are essentially being backed by the Government. Hence why many of our investment portfolios have embraced higher weightings in this area.
Moving forward out of this crisis, we should not underestimate the innovation and change dynamics that will occur across companies. Items that were previously given a low priority at company board level have been accelerated forward and implemented in a matter of weeks and haven’t been hampered by frequent deliberation and other priorities.
I believe we will see immense improvement in efficiencies and some exciting innovation across all manner of sectors which will change our world forever and, no doubt, for the better.
Hopefully, professional governing bodies may also realise that endless amounts of red tape and regulation merely hampers progress.
Thank you for bearing with me on my historical journey. I believe it’s important to anchor ourselves in the lessons of our past to better understand both the present and the future.
Enjoy the weekend, stay safe.
Best Wishes
Gary and the Investment Team
RISK WARNING
Please Note: This communication should not be read as giving specific advice regarding your personal circumstances. This would only be given following detailed assessment of your individual needs. The value of investments may fall as well as rise; you may get back less than invested. Past performance is not necessarily a guide to future returns.