Crispin Murray: We’re at a critical point in the outlook for equities
Here’s the latest outlook for Australian equities from Pendal’s head of equities Crispin Murray (pictured above). Reported by portfolio specialist Chris Adams.
FEARS of a second wave of infections are weighing on markets. This pushed the S&P/ ASX 300 down -0.74% last week.
We are at a critical point in this regard. The next week or two will reveal if the US rise in cases will lead to a surge in hospitalisations, stress on intensive care units and deaths. This is a heightened and material risk with important ramifications for market confidence.
However it is not a foregone conclusion — for reasons discussed below.
The economic data remains supportive and the policy response remains robust. There is political will to do more if needed.
At this point we do not expect recent weakness to morph into a second sharp drop in markets:
- We believe sufficient measures are underway or will be taken to avoid the resurgence in US cases from triggering material new shutdowns, which would see a big hit to confidence. However this remains a key risk.
- The Victorian outbreak should be containable. While delaying border re-opening it does not represent a significant deterioration in the economic outlook.
- The current case rise will likely cement the need for more stimulus in US and Australia
- Economic momentum is still positive
- Significant liquidity remains on the sidelines in cash, which can support equity markets
That said, we expect this period of consolidation to continue. The rate of improvement in economic data will now slow down, the market’s short-term positioning remains too bullish and policy news flow is in a lull to the end of July.
While second-wave clusters in China and Germany appear contained, cases continue to rise in the US.
This alone is not causing economic issues. But there are fears of a re-run of March/April, with cases leading to stress in hospitals and ICUs and a surge in deaths. This would likely be a material set-back for market sentiment.
Hospitalisation and mortality data in the next week or two are critical for how the market will trade in coming months.
As China and Germany have demonstrated, a replay of April — in terms of case-loads, hospitalisations and mortality —is not a foregone conclusion. Today’s situation is different in several important ways:
- The outbreaks are in less densely populated areas compared to New York
- The age profile of new cases is a lot lower this time — an average of 20 years younger.
- There is substantially more testing. This may result in worse-looking numbers. But it means the problem is being identified earlier than in April
- There is more physical distancing and use of face masks — despite well-publicised incidents to the contrary.
- Knowledge of how to treat the virus is now far better. Previous treatment had focused on lung issues, which are now thought to be symptomatic in nature. Treatment is now focused on anti-inflammatories, with better outcomes as a result.
We continue to monitor key US data points.
At this point we don’t believe it will escalate to levels seen in New York several months ago. However this cannot be ruled out. Material risks remain in play. Our portfolio continues to reflect a range of possible outcomes.
One silver lining to the US surge is a strong, continuing focus on vaccine development. Pfizer’s CEO alluded to the possibility of a vaccine being available this year. Results of a 30,000-person trial are due in September. If successful he suggested 100 million doses might be available this year, growing to 1 billion in 2021.
Economic data remains broadly supportive, off-setting negative news on case-loads.
Last week’s Purchasing Manager’s Indices — PMIs are a leading indicator of economic momentum — showed a sharp rebound from earlier depths.
Credit card data also suggests consumption continues to rebound. Government payments have prompted savings rates to surge. In combination with pent-up demand this can help support higher consumer demand.
Recent data suggests the Australia’s GDP has fallen about 4% from its pre-pandemic level, placing it among the least-affected nations. It is interesting to note China and Sweden have also fared better than most, given the very different approaches taken by all three countries.
Impact on the US is estimated at about 6.5%. GDP expectations have also been improving in recent weeks.
Fed balance sheet
There have been some concerns about the Fed shrinking its balance sheet and the implications for liquidity.
We do not think this should be interpreted as a signal of Fed tightening. Rather, we think it reflects reduced risk aversion from foreign central banks as they run down their swap lines.
The Fed balance sheet can be looked at in three ways:
- The Quantitative Easing portfolio: This is unchanged. The Fed continues to buy US$80 billion in Treasuries and US$40 billion in mortgage-backed securities per month.
- The liquidity programs: The FX swaps provided to foreign central banks to ensure they could access US dollars reached US$450 billion at the peak of crisis. This is now down to US$275 billion as USD funding issues have eased.
- Direct credit programs — primary and secondary market corporate credit facilities: These are ramping up more slowly than planned. There has been US$10 billion provided so far, mainly into the secondary program (ie credit ETFs). Part of this is the complexity of getting program running. Also, the availability of credit has not proven to be as big an issue as many feared. The market has seen record levels of credit issuance in recent weeks.
While there are a lot of moving parts, we still see at least US$1 trillion in liquidity to be added by the end of 2020 — and a commitment to keep adding potentially $1.5 trillion next year.
Equities have sold off and sentiment has shifted negatively. But there has been no breakdown in other key indicators we are watching.
US 2-year yields remain flat, oil rose 5%, the EUR/USD was only up 1%, gold was only up 2% and the copper/gold price ratio held firm. Credit spreads widened — but not outside recent ranges.
At this point it still feels like a market consolidation rather than a reversal and a new phase of crisis. But a lot will come down to hospitalisations in coming weeks.
Crispin Murray is Pendal’s Head of Equities. He has more than 27 years of investment experience and a strong track record leading Australian and European equities funds. He manages a number of our flagship funds along with one of the largest equities teams in Australia.
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