Martin Gilbert, Chairman, Aberdeen Standard Investments
In assessing the threats posed by the coronavirus outbreak, governments, central banks, companies and investors must consider scenarios that range from short-lived disruption to a persistent threat with profound implications. All that’s certain is that coronavirus will have a significant impact on the global economy and financial markets – in the short term at least.
But what about the long term? Equity markets have suffered their steepest falls since 2008. This has prompted comparisons with the global financial crisis – an event that has defined the past 12 years.
The similarities should not be overstated though. The 2008 crisis was intrinsic to the financial system itself, not a response to an external threat. For all its potential impact, the coronavirus outbreak is a much more conventional crisis. Thus far, the moves have been large but orderly; there seems to be very limited risk of systemic failure. In part, this is because banks, and the financial sector in general, are in much better shape than they were in 2008.
There are differences, too, in the way that the authorities are reacting. In 2008, the response was largely channelled into extraordinary monetary easing. With coronavirus, however, governments are turning to fiscal policy to offset the economic impact of the virus. We have already seen significant fiscal stimulus in the UK, Hong Kong and Singapore, and large-scale spending looks likely elsewhere.
History shows that bear markets tend to be relatively short-lived and give way to much longer-lasting bull markets.
There is, though, one crucial point of comparison with 2008. If we look back, not only to the 2008 crisis, but to previous market crashes – from the oil crisis of 1973 to the bursting of the dotcom bubble in 2000 – we can see a persistent pattern. Bear markets tend to be relatively short-lived and give way to much longer-lasting bull markets.
High-quality, well-financed firms will survive
Given this historical precedent, investors should be looking to ensure that their money is in companies that are well-placed to come through a downturn in good shape – however long that downturn lasts.
That puts a premium on quality. As the established economic certainties shift, highly leveraged companies look increasingly exposed. The quantitative easing that followed the financial crisis led to massive issuance of corporate debt. This allowed firms to fuel the bull market through share buybacks. Those companies that have gorged on debt now look distinctly vulnerable. So, investors should focus only on those with the strongest balance sheets.
There are other factors to consider too. The sharp fall in the oil price is compounding the woes of highly indebted energy firms. Meanwhile, the virus’s impact on tourism and travel-related companies is substantial. Already, there have been bankruptcies in the travel and energy sectors. And many other companies face severe challenges from the disruption of supply chains.
Not all companies are exposed to those factors, of course. And that’s why the coronavirus should prompt a resurgence in active investment. To concentrate on companies with robust balance sheets and low exposure to damage inflicted by the virus, investors need to be selective in their stock-picking.
After the last crisis, passive approaches provided an easy means harnessing a debt-driven bull market. But today, passive strategies leave investors fully exposed to the teeth of the bear.
The views and conclusions expressed in this communication are for general interest only and should not be taken as investment advice or as an invitation to purchase or sell any specific security.
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