Friday 17th April, 2020.
For some time before the virus struck we had been warning that the financial markets were vulnerable. Primarily this is derived from the US stock market, but also due to overwhelming and poor quality debt throughout the developed world.
We just needed some shock for a notable tumble in markets – as I said in the January TopFunds Guide, what that shock might be is only limited by our imagination!
From a purely investment perspective we now have that for which we waited – notably cheaper buying opportunities in relatively liquid investments.
The Optimistic Case – in view, but early days
Our “Shining A Light” enote of 20th March, which now seems an age away, featured two scenarios from well-informed global consultancy McKinsey:
Scenario 1. New infections peak in mid-April in US/Europe. Public sentiment considerably improved by mid-May. Recession persists until September.
[For now I sidestep the less optimistic Scenario 2, unless and until that becomes the more likely outcome]
This is the more optimistic scenario for sure, yet it is tentatively what is unfolding. Back in March I thought this could mean markets bottoming around mid-April. There was a significant bottom on 23rd March. For a variety of reasons, we do not think that was THE low (and I will explore those next week). Nonetheless if financial markets are bottoming in these weeks or months, today I want to explore the unfolding investment opportunity, and how you can position for it.
The 1918 Perspective – they think it’s all over…
National Geographic produced one of the more readable accounts of the 1918 pandemic, the mis-named Spanish flu, where they focus on the US, where it all started (despite the name). Two things stood out for me. One is the graphs of the progress of the outbreak, State by State. If you have down days, just look at these and remind yourself that one day, not too far off, this will be over.
The second thing which stands out is that if you unlock too early there will be a second (unnecessary) spike in deaths. It will also mean a renewed lockdown.
Most countries seem intent on a planned and gradual unlocking e.g. Germany is allowing some businesses to return to work now, but larger gatherings are still banned until at least the end of August.
The scope for error is considerable (in which respect the US stands out). This must be allowed for in any investment strategy.
It Is Not Great Depression II
Based on what we know, and allowing for uncertainty on key issues (e.g. discovery of medical solutions, whether immunity will grow, whether it is seasonal) this is not Great Depression II.
According to the Daily Mail earlier this week, the report from the IMF which was just released raises the spectre of a great depression. It doesn’t.
Without getting too bogged down in the history (economists still debate precisely what triggered the Great Depression), rather than 1929 just being a containable financial crisis (like 2008) the period after the 1929 Crash developed into something far worse due to policy errors by central bankers. There was no external shock. Our present “shock” is certainly scary, but there is no reason to think the financial consequences will be on a par with The Great Depression.
For example, in The Great Depression the US economy did not just fall 10% in size for one year, but 10% each year for three years running.
This is completely different in scale to the IMF predictions this year – a 6.1% contraction this year, and a 4.5% bounce in 2021, at least for advanced economies.
Of course, many things can go wrong and, with hindsight, make the IMF look too relaxed – yet some things might even go right! Be wary of being over-pessimistic due to doom-laden headlines rather than the facts on the ground – which are tough enough without being embellished.
The Cautious Optimist
We need to balance the opportunities against the risks and considerable short term uncertainty.
The best way to do this is to focus on the period beyond the virus. If we can identify the more obvious opportunities in the decade ahead, we need to be less concerned about the precise timing of the end of this health emergency in the next 6-24 months. There is no compulsion to throw cash at those opportunities in one go – there are numerous ways to finesse this.
For most of us, successful investing through this period will mean donning the garb of the cautious optimist.
For example, today that means being optimistic on the opportunities over the coming decade, while also being cautious on the risks in the next 6-24 months.
There are some superb opportunities unfolding in the UK stock market, particularly in the context of a decade of necessary re-structuring in the post-Brexit world. These apply whether you are a growth investor or looking for income.
Similarly, there are a range of opportunities in Asia, where China and Japan stand out.
If your portfolio has, say, 50% in cash right now, you might monthly drip-feed 25% of this into these opportunities over the next 12-24 months. This would leave another 25% in cash to take advantage of other opportunities which are sure to unfold in time.
Next week I will build out these possibilities in more detail, naming names, and with a couple of worked examples. These can then form the foundation of a discussion with your adviser.