As of February 5, 2020, almost 25,000 cases of the novel coronavirus have been reported, including nearly 500 deaths.1 Those numbers will likely accelerate in the coming weeks (both within and outside China), as Chinese authorities report that the virus is transmissible person-to-person and during its initial asymptomatic period. With new information being released daily and still many unknowns, the situation remains fluid and fast moving. It’s no wonder virus-related anxiety has infected global markets as well.
How can investors analyze this type of risk? While historical comparisons are less than perfect for a number of reasons, looking back at similar past episodes lends some credence to the idea that, like most geopolitical events, pandemics (along with any market impact) are temporary. In the case of the latest coronavirus, it’s an upper-respiratory illness that should dissipate as the weather warms.
The SARS pandemic may provide the best comparison to coronavirus because both are in the same family of viruses and originated with animals in China. Figure 1 shows market returns across asset classes during the three-month period of rising SARS concerns from late 2002 to early 2003, as well as during the three months after such concerns abated. (I chose short windows in an effort to isolate the “SARS effect.”)
Market performance at that time was largely intuitive. Higher-beta2 assets and those most directly associated with SARS fared worst during the three months of heightened concerns. Fixed income did relatively well during this risk-off period. A couple of surprises were the US dollar (USD) and oil. The USD declined due to rising US fiscal and trade deficits, while oil prices rose amid a disruption in supplies.
Differences between the SARS scare and today’s coronavirus include both positive and negative takeaways. On the positive side, the response of the current Chinese government has been faster and better. Any severe knock to the economy is likely to be met with some fiscal and/or monetary easing. On the negative side, lost demand from reduced travel is unlikely to be recovered. The sheer number of people and range of travel are far greater today than in 2002-2003 as well.
Market declines during SARS episode were quickly recovered
Asset class returns (%)
Source: Bloomberg. Chart data as of January 28, 2020. For scale, oil returns are only shown to 25%, but the full return was 44.26%. Past performance does not guarantee future results. Indices are unmanaged and not available for direct investment. See below for representative index definitions.
- Economic and market disruptions from the coronavirus seem inevitable. However, considering the preventive measures in place so far and tentative signs of a slowdown in the growth rate of new cases, along with a lower fatality rate than SARS, I expect most of the disruptions to be concentrated in the first quarter.
- In the short term, consider defensive positioning in liquid assets, including US Treasuries and other high-quality fixed income, or equity protection with short-term options. Regions, sectors, and companies with substantial revenue exposure to China will likely be affected most. Longer term, view cheaper valuations as a buying opportunity for companies and regions with healthy fundamentals.
- I will be watching for more signs that the virus’ growth rate is declining for risk markets to recover. In the meantime, uncertainty about the “shape” of the illness may keep markets on edge and risk premia higher than usual.
- I am slightly more cautious in my outlook, given the uncertainty surrounding both the illness itself and the quality of the economic data in coming weeks. While global growth is likely to take a temporary hit, leading economic indicators headed into this shock have been stabilizing, monetary policy remains supportive, and tail risks related to Brexit and global trade are lower, in my view.
1 Johns Hopkins CSSE, “Coronavirus 2019-nCoV Global Cases,” 2/5/20
2 Beta is a measure of risk that indicates the price sensitivity of a security or a portfolio relative to a specified market index.
MSCI Europe Index is a free-float adjusted market-capitalization-weighted index designed to measure the equity market performance of the developed markets in Europe. The MSCI World Consumer Discretionary Index measures the performance of global equities that are classified as falling within the consumer discretionary sector, as per the Global Industry Classification Standard. The MSCI USA Index is designed to measure the performance of the large- and mid-cap segments of the US market. The MSCI AC Asia Pacific ex Japan Index captures large and mid-cap representation across 4 of 5 developed markets countries. The MSCI Hong Kong Index is a capitalization-weighted stock index designed to measure the performance of the large and mid-cap segments of the Hong Kong market. MSCI Emerging Markets Index is a free float-adjusted market capitalization-weighted index that is designed to measure equity market performance in the global emerging markets. The US Dollar Index (USDX) is an index of the value of the United States dollar relative to a basket of foreign currencies, often referred to as a basket of US trade partners’ currencies. The MSCI World Transportation Index captures large and mid-cap stocks across 23 developed markets countries within the transportation industry group. MSCI China Index is a free-float adjusted market-capitalization index that is designed to measure equity market performance in China. MSCI Japan Index is a free-float adjusted market-capitalization index designed to measure large- and mid-cap Japanese equity market performance. US Treasury bonds are represented as the Bloomberg Barclays US Treasury: Long Index, which measures US dollar-denominated, fixed-rate, nominal debt issued by the US Treasury with 10 years or more to maturity. Corporate bonds are represented by the Bloomberg Barclays US Corporate Bond Index, which measures the investment grade, fixed-rate, taxable corporate bond market. It includes USD-denominated securities publicly issued by US and non-US industrial, utility and financial issuers. Emerging market sovereign bonds (USD) are represented by the JP Morgan Emerging Markets Bond Index Plus (EMBI+), which tracks total returns for traded external debt instruments in the emerging markets. High-yield bonds are represented by the Bloomberg Barclays US Corporate High Yield Bond Index, which measures the USD-denominated, high-yield, fixed-rate corporate bond market.
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The views expressed here are those of Nanette Abuhoff Jacobson. They should not be construed as investment advice. They are based on available information and are subject to change without notice. Portfolio positioning is at the discretion of the individual portfolio management teams. Different fund sub-advisers may hold different views and may make different investment decisions for different clients or portfolios. This material and/or its contents are current as of the time of writing and may not be reproduced or distributed in whole or in part, for any purpose, without the express written consent of Wellington Management or Hartford Funds.