Director of Investments, Todd Jones, shares his thoughts on the Coronavirus and how it could affect portfolios.

Thoughts On The Coronavirus And Potential Portfolio Implications

Everyone must acknowledge that no one knows with certainty how the Coronavirus outbreak will play out across the globe. The World Health Organization has now declared the new Coronavirus a global health emergency, while the United States has declared it a public health emergency. We are hopeful the global health authorities can contain this outbreak. China has taken extraordinary efforts, including shutting down travel and quarantining an entire province. Its response has been much faster than in past epidemics emanating from its shores. Our confidence is bolstered by the prospect of global cooperation including news that researchers are already racing to develop a Coronavirus vaccine (not more than a month after the virus emerged).

Still, it now seems likely the Coronavirus—and the Chinese government’s aggressive efforts to contain its spread—will have a large negative shorter-term impact on China’s economy. There will also be spillover effects on other countries with closer economic and trade ties to China. Assuming this doesn’t turn into a severe pandemic, the economic impact still seems likely to be relatively short-lived—perhaps a couple of quarters, followed by a make-up period of above-normal growth. It is unlikely to have a lasting, long-term effect on the global economy. However, it would cause a delay in the current nascent economic recovery.

Even if the virus news gets worse and triggers a major stock market correction or full-on bear market (20%-plus losses) in foreign and U.S. stock markets, we have started preparing portfolios for this possibility—both structurally and tactically. For example, while the last seven days have been challenging in equity markets, many of our fixed income and alternative strategies have experienced positive returns. Additionally, the strong performance in equity markets over the last 12 months has afforded our investment team ample opportunities to rebalance accounts (i.e. taking profits in equities and adding to fixed income/alternatives) and reposition into securities/strategies with better risk/reward opportunities.

Yet, on days where the market is down ~3% and contagion fears are prevalent, it is easy to lose sight of positive news. One piece of data I would point to is the most recent reading on the Conference Board’s Leading Economic Index (LEI). For reference, we follow this index (and others like it) to try and understand how far away we are from the next recession. Any sustained move lower (greater than 6 months) in this index typically precedes a recession by 12-24 months. As the chart below would suggest, the January reading of the LEI indicates that we are still at least 12-24 months way from our next recession given the positive reading in January. While there is no such thing as a silver bullet relating to forecasting, this is positive reading for us to maintain our current levels of equity exposure.

 

 

Source: Advisor Perspectives

Additionally, market sentiment seems to be getting excessively negative. One of our favorite indicators we use to measure market sentiment is the CNN Fear/Greed index. As seen in the index reading below, market sentiment appears to be turning very negative, which can be a counter-trend signal.

Source: https://money.cnn.com/data/fear-and-greed/

In all, based on what we think are the most likely outcomes—while acknowledging that there is still a great deal of uncertainty—we do not believe this event changes our medium- to longer-term scenarios or the key underlying assumptions for our five-year expected return estimates for stocks and bonds. Therefore, at this time, we are not making any portfolio changes in response to the Coronavirus. We continue to follow daily reporting on the trajectory and spread of the virus and other developments. If the facts and circumstances change, our analysis and views on the economic and portfolio impact may change as well.

Authored by:

 

Todd Jones, MBA, CAIA®

Director of Investments
Investment Strategy

Disclosures:

The above article is intended to provide generalized financial information; it does not give personalized tax, investment, legal or other professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on taxes, your investments, the law, or any other matters that affect you our your business.

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