Global Weekly: Corona virus infects markets

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Global stock markets pulled back from record levels this week. Investors’ main concerns shifted away from the global trade war to the corona virus, a deadly pneumonia virus that is being compared to the SARS pandemic that killed hundreds of people seventeen years ago. The timing of the outbreak is unfortunate, since it coincides with the Chinese New Year during which millions of Chinese people travel to visit their families. As such, consumer spending may be hit. This could in turn weigh on the nascent rebound in global growth.

Leisure and luxury sectors hit

At sector level, leisure and luxury companies were among the strongest decliners, as Chinese customers account for circa 1/3 of total purchases and contribute about 70% of the total growth of the luxury sector. The energy sector was also under pressure as the oil price declined on concerns that the health scare might dent demand. If history repeats itself, the underperformance could be short-lived and these sectors should bounce back once the authorities announce the outbreak is contained. Elsewhere, European financials underperformed as political turmoil in Italy triggered a temporary spike in bond yields. Meanwhile, the tech sector extended its outperformance thanks to stronger corporate results.

More than 10% of the S&P companies have posted their latest quarterly results so far. Some 70% of these companies have reported better than expected earnings according to Bloomberg. Among them, IBM surprised on the upside while in the auto sector, Tesla posted sharp gains after releasing strong fourth-quarter delivery numbers. As a result, its market capitalisation rose to reach more than USD 100 billion, exceeding Volkswagen’s market capitalisation. In Europe UBS disappointed investors as it missed its 2019 financial target and lowered its forward guidance.

Central banks lift all boats

In the EU, there is some evidence of core inflation rising slightly. All assets in Europe are being supported by monetary policy, including investment-grade corporates, as already evidenced in German economic data improving during the last part of the year.

On the other side of the Atlantic, the US Federal Reserve is expected to keep rates at their current level to have the opportunity to lower them later, if they do not manage to reach their inflation target. This is, though, not our base case scenario. The primaries for the Democratic Party will be key to test the stability in the market though the two candidates that represented the biggest threats, Sanders and Warren, are now running behind Biden. Therefore, we do not currently see an event in the US which could impact our allocation to higher yielding bonds, with an overweight in emerging market assets.

The latter suffered during the past week given the unexpected news about a virus spreading over China right before the Chinese New Year. After the trade truce, Chinese economic data in the fourth quarter of 2019 showed signs of improvement. China is a key player in emerging markets, dragging the other regional economies all up or downwards with it. As prospects have improved, we have seen an increase in inflows into emerging market debt.

Our view on emerging market currencies remains divergent as some countries have better fundamentals and corresponding outlook for 2020 than others. If geopolitical tensions in the Middle East rise again as happened in the beginning of the year, we can expect oil prices to rise. This could lead to an appreciation of oil-exporting countries’ currencies.

Middle Eastern fixed income assets are investment-grade, so they add quality to the portfolio; however, turmoil in the region is unpredictable and could mean local bond yields rising if countries like Saudi Arabia, the United Arab Emirates or Qatar seem affected. However, they could also go down if oil prices rise, but their oil production remains untouched. Latin American countries, especially Mexico and Brazil, keep offering attractive yields which we are still rolling over. Argentina is initiating the discussion about restructuring its debt in its Congress, so we could see a big price appreciation if the proposal is feasible.