29th July 2020

What happens when governments stop the emergency support for their economies? e.g. furlough schemes and cheap loans.  Why have the main stock markets been hesitating for the last couple of months, after bouncing sharply from mid-March?

The UK stock market peaked in February, and then, as you all know, dropped like a stone.  From the mid-March lows it bounced, making up a chunk of that lost ground, such that it is only down 21% from February.  But since early June the market has hesitated, drifting sideways and down a bit.  The picture is the same in France, with Germany a bit better, ditto the US and Japan.

The two questions in the introduction are linked.

According to the World Bank a record 92.9% of the world’s countries are in recession this year, which compares with 83.8% at the worst point in the Great Depression of the 1930s.

The economic downturn has been ugly around the globe, and that is before widespread government support is withdrawn or phased out.

The idea of a V-shaped recovery was always daft, and so it is proving.  Once infections were suppressed (outside the Americas and Africa), and economies unlocked, there was never going to be an overnight return to normal economic behaviour.  Our best analogy is that consumers and business decision-makers have been mugged – their behaviour will be hesitant.  Many of the former have concerns over job security (merited or not).  And the latter will be more focussed on business survival than investing, training, and recruiting.

And, of course, there is also unprecedented uncertainty over the pandemic, and its next move.  Obviously this hurts confidence, the confidence that is required for positive decision-making – whether buying a car or investing in staff training.  A big influence on that confidence is whether there is belief that central government is doing the right things.  This chart of restaurant booking in the US versus Germany says it all.  Neither have a vaccine or miracle cure.  The differential is all about the quality of government.

We don’t like guessing, nonetheless our best guess is that there won’t be widespread vaccination, if any, for a couple of years; that there will be further outbreaks as this year morphs into the next, but that in most of Europe and Asia these will be dealt with by localised lockdowns; and that we will all learn to adjust.

Stock markets are hesitating over more immediate issues, in particular emergency action by governments is supposed to be coming to an end e.g. furlough in the UK in the Autumn, and bonus unemployment benefits in the US right now.  Governments will have very difficult choices and continue to be making it up as they go along – there is no playbook for this.

For example, if the UK furlough is to be withdrawn, what is the acceptable level of unemployment that they assume in the months following?  And if unemployment is notably worse than that, how do they plan to respond?

Analysts in the US are not complacent…

You will get business failures on a grand scale” said James Bullard in May 2020, the president of the Federal Reserve Bank of Saint Louis.  Similarly, Peter Orszag, who was an official in the White House under Barack Obama, warned that the American economy could face “a significant risk of cascading bankruptcies”.

Not only is it unclear that the authorities, in the US or elsewhere, can do anything effective to stop such business failures, but in the US they have an election in November, and in the UK our trading status after January 2021 remains mired in uncertainty.

To this point central banks and governments have done nothing more than stop the bleeding – with a variety of sticking plasters.  It isn’t yet possible to know the breadth and depth of the injuries, certainly not until the plasters are removed.  And until this point no comprehensive action can be taken to encourage healing.

The good news?  In the US, a clean sweep by the Democrats in November will probably be a trigger for healing to begin, though their stock market will initially be unhappy with this outcome.  In the UK, Brexit will arrive and spark wide-ranging reform and restructuring in the UK – if it doesn’t, Boris will not go down in history, as he wishes to do – he will just go down.

In the immediate future our greatest concern is that the bounce since mid-March will be lost, and we are closely monitoring all markets and indicators day by day.

In summary, we continue to be cautious, with most clients having (enjoying?) notably high cash weightings, plus some longer term drip-feeding back into markets.  If you are feeling more confident than we are, and would like to reinvest more cash, or generally take more risk, do get in touch with your usual adviser.