Market Analysis Mar 2020

The initial quarter of the year bore witness to a substantial downturn in US equities triggered by the Covid-19 outbreak. Between March 4th and March 27th, the number of confirmed virus cases in the US escalated from 150 to over 100,000, thereby exposing the economic ramifications of the pandemic. Towards the end of March, there was an abrupt surge in jobless claims, exceeding three million, with impending economic challenges looming on the horizon.

As a response, the Federal Reserve (Fed) executed a pair of interest rate reductions in March, marking the first instance since the global financial crisis. The Fed also initiated an unlimited quantitative easing strategy by purchasing bonds, resulting in interest rates in the US settling at the range of 0-0.25%. Moreover, a $2 trillion stimulus package was endorsed by the US Senate, encompassing direct payments to households, loans to distressed companies, and support for small businesses.

During the quarter, all sectors experienced significant declines, with the energy sector incurring the most profound impact due to the oil price conflict. While the financial and industrial sectors also faced notable downturns, the information technology and healthcare sectors showcased relatively better resilience, despite experiencing substantial declines compared to previous quarters.

In Q1, Eurozone equities encountered a sharp downturn attributable to the widespread Covid-19 spread, particularly affecting countries like Italy and Spain. As governments across Europe initiated movement restrictions and partial economic shutdowns to curtail the virus, the region's already fragile economy took a further hit. The Eurozone's economy, which had grown by a mere 0.1% in Q4 2019, with Germany even recording stagnation, is predicted to undergo a significant economic downturn.

Forward-looking indicators unveiled the scope of the economic collapse. The flash Markit composite purchasing managers' index (PMI) plummeted to an unprecedented low of 31.4 in March, down from February's 51.6. The PMI index surveys both the services and manufacturing sectors, with a reading below 50 indicating a contraction.

Throughout the quarter, all sectors faced declines, with defensive sectors such as healthcare and utilities displaying greater resilience compared to other sectors. However, the financial and industrial sectors took the brunt of the impact. Regulatory authorities called for European banks to halt dividends and share buybacks until at least autumn to fortify their ability to manage non-performing loans amidst struggling borrowers.

To address the crisis, the European Central Bank introduced the €750 billion Pandemic Emergency Purchase Programme (PEPP), aimed at purchasing government and corporate bonds throughout the Covid-19 crisis. Additionally, governments across Europe unveiled spending packages to provide relief to businesses and households in light of the disruptive period.

In Q1, UK equities grappled with significant losses stemming from the Covid-19 pandemic's impact on economic activities. Preceding this, discussions surrounding UK assets and the economy were dominated by domestic politics and the intricacies of Brexit. At the peak of the market sell-off, all assets, including government bonds, faced declines triggered by concerns about financial stability.

In response, investors leaned towards cash, particularly US dollars, which led to the pound plummeting to multi-decade lows against the dollar. In alignment with other central banks, the Bank of England executed an interest rate reduction of 65 basis points, setting it at 0.10%. Additionally, the UK government rolled out an unprecedented series of fiscal support measures.

The oil and gas sector faced the most significant losses due to apprehensions about dwindling demand and OPEC and Russia's inability to control the global oil supply. The consumer services sector also struggled in the face of uncertainty surrounding the impact of lockdown measures on consumer demand.

Towards the end of February and early March, the Japanese market experienced a considerable decline, albeit partially recovering to conclude the quarter with a total return of -17.5%. Amidst the volatile environment, the yen remained relatively subdued. Market dynamics fluctuated significantly, with certain days witnessing robust recoveries in oversold stocks and sectors, while others demonstrated a willingness to undertake risk in larger cyclical sectors. Small companies encountered challenges, with value stocks underperforming across the quarter.

Japan's Q4 GDP growth proved weaker than anticipated, even after accounting for the consumption tax increase and the impact of the typhoon. While Japan displayed a slower spread and lower mortality rate for Covid-19, central and local governments advocated for curtailing social activities. The postponement of the Tokyo Olympics could bear political implications, given its proximity to the end of the Prime Minister's term.

Across Asia, except for Japan, the first quarter witnessed sharp declines due to Covid-19's impact and the potential for a global recession. The MSCI Asia ex Japan Index witnessed a drop in value, although it outperformed the MSCI World Index. ASEAN markets, in particular, suffered notable declines, with India and South Korea also failing to meet expectations. China and Hong Kong were the sole exceptions, as they outperformed the index, with China successfully implementing measures to contain the virus in Wuhan.

The first quarter of the year witnessed a decline in government bond yields, causing bond prices to surge, as investors shied away from high-risk assets such as equities, driven by mounting concerns about the Covid-19 pandemic. As the prospect of a global recession loomed, investors sought refuge in the perceived safety of government bonds. This shift predominantly occurred in late February and March, as lockdown measures in response to the pandemic significantly curtailed economic activity, resulting in dramatic declines and extreme daily fluctuations in asset prices reminiscent of the crises in 2008 and 2011.

In March, markets encountered substantial declines and heightened volatility, prompting temporary trading suspensions in the US stock market on several occasions due to the magnitude of daily fluctuations. Companies also faced challenges in issuing bonds for several days. Government bond yields and prices exhibited volatility, initially plummeting to unprecedented lows due to intensified fear, but subsequently rebounding as panicked investors engaged in indiscriminate sales of liquid assets to generate cash.

Governments and central banks intervened with unprecedented support programs aimed at bolstering businesses, households, and the financial system, which eventually stabilized markets later in the month.

Throughout the quarter, the US 10-year yield contracted from 1.92% to 0.63%, while the two-year yield declined from 1.57% to 0.23%. Meanwhile, the German 10-year yield plummeted from -0.19% to -0.49%, France's yield dropped from 0.12% to 0%, and Italy's yield inched up from 1.41% to 1.57%, with Spain's yield experiencing a rise from 0.47% to 0.71%. The UK 10-year yield receded from 0.82% to 0.32%.

Corporate bonds, emerging market debt, and currencies encountered substantial declines, particularly in March, thereby underperforming government bonds. The liquidity crunch intensified the magnitude of these shifts. High yield credit bore a significant blow due to escalated risk aversion, with more pronounced declines occurring in sectors vulnerable to travel and retail disruptions, and in the energy sector due to plummeting oil prices.

In emerging markets, local currency bonds witnessed the most pronounced falls, with currencies sensitive to growth, oil prices, and liquidity suffering double-digit declines, with some cases witnessing a decline of around 20%.

Throughout the quarter, the overall MSCI World Index sustained a loss of -21.1%, while convertible bonds, as gauged by the Thomson Reuters Global Focus Index, provided investors with a degree of protection from losses, culminating in a loss of -8.6% in US dollar terms. In instances of equity market downturns, the valuation of convertibles tends to face pressure, consequently rendering them more affordable across all regions. The US market observed a significant 4% decline in valuations.