The Fog Begins to Lift

Brief overview

The world has had time to see the effects of COVID 19 since it was first identified on 1 January 2020. We are now starting to see some lifting of the fog of uncertainty, but the outlook remains far from clear. There has been a rebound in confidence around the globe as economies start cautiously reopening.

‘The outlook remains far from clear.’

There has been considerable divergence in the experiences of different countries throughout the world in terms of:

• The timing of the virus’s arrival.
• The capacity of health systems to deal with the medical impact.
• The willingness of governments to act in a timely manner.
• The effectiveness of responses that have been put in place.

Some countries are still in the crisis stage with the rate of new cases increasing daily, e.g. US and Brazil. Other countries are at the tail end having effectively stopped growth in the virus e.g. Australia, New Zealand, South Korea. Many other countries lie somewhere in the middle. There is still a long way to go and that means there is still considerable uncertainty about the future economic impact.

The effective shut down of economies and borders has had a major effect on business activity and company profitability throughout the world. This has led to business closures, large unemployment numbers and massive increases in government debt. It is hoped that when things begin to normalise most businesses will reopen and rebound, and jobs will come back again, but there is still a lot that has not yet unfolded. This is due to the temporary cushioning effect of things like job subsidies, mortgage holidays and rent holidays. The question in everyone’s mind is ‘How severe will the downturn be and how long will recovery take?’

‘How severe will the downturn be and how long will recovery take?’

What type of recovery will we have?

Will it be a V, U, W, L or something else? We are all hoping for a quick recovery for our economy, for world economies and for stock markets. The thing about stock markets is that they are full of anticipation and expectation. When making decisions, investors try to anticipate where things are going to be. How different companies and economies are going to perform in the future. So, the recent rebound in stock markets tells us a lot about what investors think and the level of optimism for the future.

There has been a lot written about the type of recovery we may have:

• Will it be V-shaped? A V-shaped recovery is characterized by a quick and sustained recovery in economic activity. This is the best-case scenario. There is a good argument for this scenario due to the unique relationship between the downturn and the pandemic. Pandemics pass. Health systems can be bolstered to cope far better with future breakouts, populations become more resistant over time and there is the prospect for a vaccine in the near future.
• Will it be a W-shaped recovery? A W-shaped recovery is when an economy passes through a recession into recovery and then immediately turns down into another recession. W-shaped recessions can be a trap, tricking investors into getting back in too early. There is also a good argument for this scenario. This is due to the significant economic impact that the pandemic has had. What will happen when all the government stimulus packages come to an end? What about the possibility of a second wave or peak of infections if economies open too soon. There is a view that there will come a time when the full impact will be realised and that this could lead to a double-dip recession.
• Another scenario we consider is a Reverse J curve. This is where there is a sharp fall followed by a partial rebound that flattens out and leads to a sustained period of low to moderate growth. There is also a strong case for this scenario due to a combination of the factors mentioned above. Namely the passing of the virus followed by the slow improvement in economic activity as economies open and pent-up demand is released.
• A U-shaped recovery is when a recession occurs and continues for some time before the recovery happens. This is also a possible outcome.

No-one knows for certain what the recovery will look like. Recent market optimism and comments from Reserve Bank Governor, Phillip Lowe do suggest that things may not be as dire as first thought but it remains to be seen. We are still in the early stages.

Our position

We continue to take a cautious view, mindful of the continued uncertainty and risks that remain present. Up till now we have discouraged new investments for all but the more adventurous. However, we are aware that investors cannot remain on the sidelines forever and if we wait until the fog has fully lifted and the way forward is clear then investment opportunities will be missed.

We have positioned our clients more defensively over the previous 12 months and we continue to recommend those positions be held. For those wanting to enter the market with new monies, we consider that now may be a suitable time to commence a dollar cost averaging strategy. This will spread the risk of investing over time and allow investors to take advantage of the opportunities that are presented. However, it is important to consider this as part of an overall investment and risk management strategy. Getting good advice is essential.

‘For some, now may be a suitable time to commence a dollar cost averaging strategy…’

We reiterate that stock selection remains very important at this time. There are industries that will do well such as ecommerce, cloud computing and healthcare. There are those that will do poorly such as travel, banking, airlines and even resources. There are also stocks within industries that will do better than others and some that have had sharp falls in their stock prices but remain quality assets, such as Sydney Airport. Price entry point is also important. For these reasons we favour active rather than passive portfolio management.

Disclaimer

This information is of a general nature only and is not intended as personal advice. It does not take into account your particular objectives, financial situation or needs. You should not make personal investment decisions based on the contents of this article. Before making any financial decision, you should seek advice from us.

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