China Ups Economic Stimulus in Face of Epidemic
Co-founder and CIO
20 February 2020
We’re barely into the new year and markets are bombarded with challenges we didn’t even think we could imagine, from the possibility of another world war to an epidemic. But as we’ve consistently seen in the past years, markets remained yet again unfazed in regard to the noise.
Just as the US-Iran conflict started to die down, the media turned its attention to the coronavirus outbreak. While the outbreak continues to disrupt global travel and China’s productivity, markets are, unsurprisingly, taking this latest challenge in stride, just as they have with just about every other recent major news story.
At the end of January, the S&P 500 took a small dip in reaction to the coronavirus outbreak, but the drawdown was short-lived. At the time of writing, the S&P 500 has recovered that small loss and is close to gaining 4.9% YTD on a total return basis. The MSCI World Equity Index also saw a sharp upturn, shaking off jitters from the coronavirus outbreak, and is currently returning 3.3% YTD.
The markets once again demonstrate how quickly they’ll price in the impact of a global threat, be it political or natural, and then continue on their trajectory.
China’s growth could be temporarily delayed by the virus outbreak
While short-term market reactions are common when a news story breaks, what markets really care about is whether these crises could have a lasting impact on the global economy. Remember that markets don’t stay down for a sustained period of time unless the economic indicators suggest that the crisis at hand poses a real and lasting threat to global productivity and growth.
At the moment, it’s difficult to predict the magnitude of the virus’ impact on the Chinese economy, as we’re currently in a data blackout with China’s economic numbers for January and February 2020 only coming in March due to Chinese New Year. But, China is taking even greater measures with both its monetary and fiscal policies to stimulate growth in the wake of the COVID-19 crisis. And, with manufacturing production gradually resuming across China in stages, we believe that the virus’ outbreak won’t derail China’s economic recovery, but may delay it slightly.
Figure 1: Year-to-date asset class total returns as of 14 February 2020 (in USD)
Source: StashAway, Bloomberg
As we can see in Figure 1, markets are pre-emptively expecting a delay in China’s economic recovery because of the virus outbreak. As factories were shut down for almost a month in a number of big cities in China as well as in the Hubei province, markets expect that the decline in production will weigh on a number of asset classes, primarily growth-oriented assets in China and the global oil market. What we’re seeing so far is that, year-to-date, the China stock composite, CSI 300 Index, has declined 3%, and the West Texas active crude oil futures, which proxies global oil demand, has already experienced a significant loss of 14.76%. The concerns over a drop in energy demand also spilled over to the US energy sector, which dropped 8.6% YTD.
But outside of China, we see that markets don’t expect the COVID-19 outbreak to have a large influence on global supply chains or productivity. In the US, the virus has had little to no impact on the performance of most asset classes. And, Asia ex-Japan’s inherent geographic diversification has minimised the impact of China’s dip in economic activities on the region: Although China has a 36.5% market share in the region’s stock market, the MSCI Asia ex-Japan Index has remained resilient, losing only 0.5% in YTD returns.
Despite the virus epidemic, StashAway portfolios have remained resilient, returning 0.6% (SRI 6.5%) to 4.5% (SRI 36%) YTD, in US dollars. In SGD, our portfolios have returned between 3.9% and 7.8% YTD.
Data reveal that epidemics have a short-lived impact on global markets
Earlier this month, to assess how COVID-19 might influence global markets, we examined global markets’ performance through past epidemics, proxied by the MSCI World Equity Index. In our analysis, we found that epidemics have a short-lived impact on the markets with a drawdown lasting, at most, 5.1 months during the HIV/AIDS pandemic in 1981. And, we also found that markets rebounded as soon as one month after bottoming out.
Table 1: Past Epidemics Impact on the Markets Up to 24 Months After Bottoming Out
Sources: StashAway Estimates, Bloomberg
While we can’t know for certain the extent and severity with which the COVID-19 outbreak will continue in the physical world, we’re confident, based on past data, that such an outbreak won’t impact the markets’ long-term trajectory.
An intelligently diversified portfolio mitigates the risk of a crisis
The current outsized influence of the outbreak on China’s market shows that it’s vital to have exposure to global asset classes across different economies in order to protect against geographically concentrated risks.
In addition to diversifying geographically, also diversifying in a mix of undervalued protective and growth-oriented assets that match your targeted risk level adds even more resilience to your investments so that they can endure a crisis of any nature.
Staying resilient through a crisis
Diversified investments aren’t enough for successful investing; it’s equally important to remember that to get the most out of your investments in the long term, you need to continue to practice emotional resilience. As we always say, don’t react to any short-term noise, and stay invested in the markets.
Investors often get tricked into thinking they’re making the right decisions for their money by selling or taking profit in the short term based on the assumption that any one particular event, be it a pandemic, impeachment, or military conflict, could tip the markets and cause a downturn. In this latest episode of random global events, we saw clients exiting the market as soon as there was an uptick in news and social media sharing around the virus outbreak. Yet, not even a week later, markets started up-trending again. This uptick was painfully predictable. If you let the media and your emotions dictate the way you manage your investment decisions in the short term, you’ll most definitely pay the price of missing out on major growth opportunities that will unequivocally happen at any time.