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Citi

Keeping a Long-Term Perspective

Market reaction

  • The shock to the global economy due to the economic, social and health impacts of COVID-19 are significantly impacting markets globally. World equity markets have quickly fallen into correction territory and US bond yields fell to record lows.

 

  • The momentum of heavy sell-off in Asian equity markets on Monday continued into Europe and US overnight as risk assets appeared to not only price in concerns over the virus but also potential contagious credit crisis induced by steep falling oil prices. Policy makers stepped up on rescue measures, with the New York Fed increasing the overnight cash available to the banking system to at least $150n from $100bn, and more than doubling the size of term repo operations. Asian markets appear to be stabilizing this morning.

 

Virus-induced shocks

  • China’s dramatic steps to contain the virus slowed its spread, leaving a false confidence that it could be a short, regional crisis. However, the acceleration in cases elsewhere makes it highly likely to be a global shock instead. The number of cases in Italy rose by 25% on Monday and as at time of writing has the highest number of cases outside of China. Italy has imposed a nationwide lockdown, extending a previous restriction to its Northern region.

 

  • Citi analysts believe for the next 2-4 months, given the speed of disease and information transmission, disruptions to the economy could be severe, as people and businesses act to minimize infection and ensure continuity of business. The primary source of negative economic impacts result from travel restrictions, supply chain interruptions, absenteeism, government interventions and other behavioral changes aimed at preventing infections.

 

  • Citi’s US and Global EPS estimates have been revised downward for 2020 and are now expected to see year-on-year declines in 2020 of 4%.

 

Not the start of a global recession

  • Citi analysts do not think that COVID-19 will cause a global recession. Instead, COVID-19 likely represents a severe, one time global disruption to economic activity that forces economies off their usual, positive growth path temporarily.

 

  • In the case of an exogenous shock, the longer-term buying intent of consumers and business is expected to remain intact. The health of consumers, business and bank balance sheets prior to the health crisis gives confidence that this is more likely than not.

 

  • Central banks are expected to continue to ease monetary policy – US Federal Reserve cut 50bps last week and are further expected to drop rates to the zero lower bound potentially by June.

 

  • In addition, governments are expected to undertake fiscal actions in the form of tax relief, payments to small/medium-sized businesses and other programs to mitigate damage to businesses and individuals from the sharp, short-term drops in their receipts.

 

Market Views

  • While the percentage declines in global equities may have fallen roughly in line with Citi analysts’ EPS estimates, an overshoot may be possible given significant uncertainties. Many western market participants have not seen the actual impacts to their daily lives and businesses reach their shores. There could be temporary shortages of medicines, food and some consumer goods. There are also likely to be visible strains on the health care systems of deeply impacted cities and communities.

 

  • Looking out 12 to 18 months, Citi analysts see the potential for a significant rebound in share prices and positive turning points for other asset classes.

 

Stay invested in core portfolios

  • Citi analysts believe that long-term investing creates the best investment results for investors. Market timing can be especially damaging to long-term returns in periods of instability like this. Strategic asset allocation is the first line of defense for long-term investors to an unanticipated shock.

 

  • Global health crises have had a short-term negative impact on markets in the past, followed by a substantial rebound six months later.
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  • As COVID-19 risks turning into a global pandemic and being of greater impact that any of the listed prior health crises, Citi analysts expect this to be more a U-Shaped and not a V-shaped recovery. The bottom of the “U” is likely to be a period of 3-4 months when the economic impacts roll across the globe from Asia to Europe to the US and the Americas. The period of market volatility and vulnerability is likely to appear longer now, but ultimately, the recovery is likely to ensue and may be stronger than investors expect.

 

  • Citi’s Global Investment Committee (GIC) is neutral global equities, having reduced the allocation from overweight as the expected recovery in earnings in 2020 has been pushed out as a result of the virus. However, the GIC may reallocate back to equities, if they drop further. Within equities, higher quality firms that are able to grow their dividends and are in areas that are not overly exposed to sectors like travel and tourism are preferred.

 

  • Gold also remains as a risk hedge, with the overweight in gold added even before news of COVID-19.

 

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