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Monthly Market Commentary - April 2020

After the most aggressive equity market sell-off ever witnessed, April saw one of the most impressive market recoveries on record.

Illustrative image of chart

by
Jon Cunliffe

in Fiduciary news

05.05.2020

After the most aggressive equity market sell-off ever witnessed, April saw one of the most impressive market recoveries on record. Global equities rallied 9%, building upon the gains of late March, and have now recovered half of the February-March losses.

Several factors have helped boost sentiment

  • In general, the spread of COVID-19 not been as bad as was feared in the middle of March and so-called infection curves have been flattening (in the UK the rate of infection has now fallen below the key level of 1).
  • There has been an increasing focus on reopening the economy, particularly in the US.
  • Central bank liquidity injections have boosted portfolio flows into risk assets. For example, the US Federal Reserve’s (Fed) balance sheet has increased by $2.3trn since March and some of the corresponding increase in cash has flowed into financial assets.
  • A marked improvement in the functioning of the corporate bond market, on the back of central bank bond purchases and an unprecedented commitment on the part of the Fed to purchase the bonds of companies which have been downgraded to below investment grade as a result of the crisis.
  • As markets continued to push higher in the second half of the month some investors who had become cautious in March and were keen to recoup losses began to chase the market higher. A fear of missing out (FOMO) increasingly characterised many investors’ mindsets.

For much of the month these factors more than offset the very negative new flow on the global economy, widespread cuts and cancellations of dividends and an unprecedented collapse in the price of Brent Crude oil. First-quarter US GDP fell 4.8% (seasonally adjusted annualised, SAA) but the true picture for the quarter is much worse, given the relatively low weight the statisticians give to March relative to January. Looking ahead to the second quarter, the weakness in growth will be significantly worse, as the full impact of the lockdown is felt and estimates are for global growth to decline by roughly -22% (SAA), making the recession the worst seen since the Second World War.

Elsewhere, we are now only beginning to see the impact of this reduced economic activity on corporate earnings. In the US, with roughly a third of S&P500 companies reporting so far, earnings per share have fallen by an average of -19% on a year on year (y/y) basis, with the biggest declines seen in consumer discretionary, materials and industrial companies. In contrast, the earnings of defensive sectors – healthcare, consumer staple, technology and utilities have held up much better and, for the first quarter, have typically grown in the low single figures y/y. 

This marked difference in earnings delivery has been reflected in the bifurcation in the performance of value versus growth stocks, which has seen the latter outperform by 16% year-to-date. Given the clear headwinds from the economic cycle, we expect this trend to continue for the time being.

If we turn to analysts’ estimates for a moment, US corporate earnings are expected to fall 20% this year and improve by 30% in 2021. These earnings estimates are, however, based upon a steady lifting of lockdown measures across the globe which should see a return to much more normal economic environment as we head into the third quarter. However, we would caution that the return to normal could be a drawn-out affair, with lingering effects on consumers and corporates alike. Given this, we are a bit more pessimistic on the prospects for the V-shaped” pickup in corporate profits that analysts expect.

After a good run in April, we think markets will begin to focus once more on the macroeconomic data flow and corporate earnings delivery, both of which are likely to be a headwind in the weeks ahead. Looking further ahead, however, optimists would highlight that financial markets are adept at discounting the future. As a rule, equity markets tend to find a firm footing roughly one quarter before the end of a recession and we are working hard to gauge the length as well as the depth of this current economic downturn to give us the signal increase our equity market exposure.

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