Brexit was on the way to being sorted, global growth was solid and the financial system seemed OK, despite record levels of debt. Valuations were not cheap, but with accommodative monetary policy, so what? Less than three months in and the outlook is rather different as coronavirus grips the global economy.
The key question is what should investors do in response to market falls? It is easy to say do not do anything in reaction to recent events, but largely, most people should indeed avoid knee-jerk reactions.
Keeping calm
With markets falling so sharply it does not give time to change approach – they have already fallen, so derisking and going to cash simply locks in those recent losses. The other issue with going to cash is when do you go back into the market?
You might get lucky and call the bottom of the market, but even if you do, will you be brave enough to invest at the time of maximum pessimism? Invariably, ‘no’ is the answer. That is why, in my view, remaining invested is the logical approach for most investors.
I appreciate that it is hard for clients not to panic when their life savings are falling 10 per cent in a day, and maybe 30 per cent to 40 per cent in a matter of weeks, but you should not allow fear to dictate your investment strategy. Which is why I would not do anything, apart from topping up a few favoured holdings at much cheaper prices than they were a few weeks ago, if there is cash lying around.
Quite clearly I am making the assumption that coronavirus will have a relatively short-term impact on companies, economies and markets, and not a permanent one.
This year will be poor from a gross domestic product perspective and will probably push many countries into recession. Whole populations could stop spending discretionary money and just stick to the essentials. But the minute the virus is under control, normal and pent up spending will resume.
Key Points
- With markets having already fallen it is too late to alter investment approaches
- Pulling out of investments is not necessarily the right thing to do
- Separating the ‘false bottom’ from the real bottom of the market will be key
The recovery both from a stock market and economic perspective will more than likely be V-shaped. Just look at how well Chinese funds performed last month as the markets started believing that Beijing’s measures had brought the virus under control.
Looking back in history, for some strange reason March often seems to be the month for market bottoms; it happened in 2003 and 2009. The problem with comparisons is that most sharply falling markets have been down to economic conditions and not health scares.
2003’s market recovery came on the back of three years of falling markets following the bursting of the dotcom bubble. 2009 saw markets rally in response to huge stimulus to avert the collapse of the global financial system. In both cases, however, there were several false bottoms and dead cat bounces before finally buyers were enticed back in.
For example, in 2003, it looked like January 28 was the bottom whereas it was actually March 12. With the 2009 nadir, the ‘false’ bottom was slightly earlier on November 21 2008.
Obviously, the biggest fall in history was October 1987. The FTSE plunged 10 per cent in a day (October 19 1987) but did not stop falling for three weeks, bottoming out on 9 November 1987.
The fall from close on October 16 to November 9 was 31.83 per cent. If you had been unlucky enough to make your only investment on October 16 1987, it took until May 1989 to get back your money back.
Even with that disastrous start, over five years the return from the FTSE 100 was 42.82 per cent. If you had started investing a little earlier, say at the start of 1987, incredibly you were still in profit at the end of the year, despite the huge autumnal fall.
Hope from China
None of this is to say the stock market will perform the same in 2020. However, the reaction of the Chinese market does lead to a degree of optimism that a sharp rally will ensue.
For clients it is a case of reassurance that this is temporary and not a permanent destruction of capital.
When the tide is out you do see who is swimming naked, and there will be casualties this year from poorly funded businesses. This is one of the key benefits of collective investments (both open and closed ended).
There will be corporate failures, but if you have 10 funds in client portfolios, each with 50 holdings, and if a handful do not survive, then out of a total of 500 underlying companies the impact on portfolios should not be too bad.
The current situation is turning out to be very different to any other crisis we have been through. The tech bubble, Sars and the global financial crisis were all big events, but coronavirus has gripped us globally and shut down economic activity in a way that none of the others really did.
As one fund manager said to me recently, in the GFC, demand was down but not non-existent. With coronavirus and the measures countries are putting in place, whole swaths of the economy will potentially have no trade and no income whatsoever for a period. It really is impossible to predict the effect this will have.
One thing that is apparent is that it is fear not fundamentals that is driving the markets. The VDAX (the European equity market fear index) hit its highest level ever recently, providing opportunities for those who follow the Warren Buffett mantra to be greedy when others are fearful.
Ben Yearsley is an investment consultant at Fairview Investing
