Introduction
The novel coronavirus (Covid-19) outbreak has turned into a pandemic, plunging equities into bear markets, constricting the global flow of people and goods and leaving governments and central banks with the daunting task of supporting their economies through massive fiscal stimulus and monetary easing. While the outbreak has slowed in some countries, the virus is now wreaking havoc in others, and a global economic downturn now appears more than possible.
In order to gain a range of perspectives on the outbreak and its potential economic and market impact, Nikko Asset Management has gathered the views of the following investment teams, representing many of our major asset classes and geographical regions.
- Multi-Asset team (multi-asset)
- Andre Severino, global head of fixed income and Steve Williams, head portfolio manager–core markets (global fixed income)
- Toshinori Kobayashi, portfolio manager, Research Active Management team and Junichi Takayama, investment director (Japan equities)
- Robert Mann, head of Asian equity (Asian equities)
- Truman Du, senior portfolio manager (China equities)
- Kenneth Tang, senior portfolio manager (ASEAN equities)
- Asian fixed income team (Asian fixed income)
- Fergus McDonald, head of bonds and currency, New Zealand and Stuart Williams, head of equity, New Zealand (New Zealand fixed income, equities)
We hope that this range of views will provide a useful reference to readers as they navigate the global financial markets.
Multi-asset: Focusing on three main components of this health crisis
Multi-Asset team
Overview
The virus outbreak that took on global significance in January has certainly shaken the financial markets and created a massive public health challenge. While investors scramble to educate themselves on the science of epidemiology, filtering through the barrage of daily headlines, we focused on three main components of this rapidly unfolding health crisis.
The first component, not surprisingly, is the virus itself. How does Covid-19 spread from person to person? At what rate does such community spread occur and what impact does it have on the infected victims? These are all important factors to consider.
The second component to track closely is the actions of governments and central banks in response to the virus outbreak and the potential economic impact that follows. Health professionals will learn more about this particular virus, and their discoveries are likely to be reflected in how various countries deal with the outbreak. For example, China took very strict measures of quarantine and restricted the movement of people in the early weeks. Economic disruptions may prove to be the most extreme in China but perhaps less so in other countries. This suggests that the impact on China’s economy will be more V-shaped because of the heavy containment measures taken, but perhaps more U-shaped (with shallower bottoms) in other countries that employ a more balanced containment/mitigation strategy.
The final component is the reaction of financial markets to the first two factors described above. The market reaction has been quite brutal so far. Dealing with sudden uncertainty has never been a strong point of the markets, with volatility spiking. In the short term, the flow of alarming virus headlines will likely continue and the burden is expected to fall on central banks to provide circuit breakers and put a floor under risk assets. In the name of tightening “financial conditions” (also known as falling stock prices), the Federal Reserve (Fed) has begun the process of lowering official interest rates, followed by its peers. While risk assets will welcome lower rates and easier global liquidity, the real economy will likely require a fiscal response from governments. It is this powerful combination of monetary and fiscal policy that will help the global economy recover once this virus pandemic has run its course, in our view.
Global equities
In February, US equities were yet to feel the effects of the virus outbreak while benefiting from expectations that the Fed would pre-emptively cut rates. However, this narrative was suddenly upturned when the number of new Covid-19 cases exploded in countries such South Korea and Italy, quickly becoming apparent that this was a problem global in scale.
China has pushed a relatively potent array of stimulus geared mostly towards the private sector, including tax breaks, lower rates and ample liquidity aimed at opening up tight bank credit. It is still early to say, but we could begin catching glimpses of a recovery.
On the other hand, the rest of the world is just beginning to grapple with a new problem in which containment may not even be an option considering how porous borders between countries were, which allowed travellers to introduce the virus from multiple locations. Coupled with the lack of test kits in many places and various other government shortcomings, the level of uncertainty over the outbreak is rightly high.
Such uncertainty has inevitably bred caution. Though food retailers may be seeing a temporary boost to sales as shelves are emptied due to hoarding, people are expected to change their habits in the intermediate term, curbing their consumption outside the home. Shocks to both the supply chain and the demand side is difficult to assess.
In the meantime, it pays to be cautious towards equities, in our view. But we do see reason to favour places like China, where stimulus is already plentiful and some activity appears to be improving. The US and the rest of the world are still learning to effectively deal with the virus, though we believe value opportunities are emerging.
Global bonds
While markets remain virus-headline driven and investors fear worst-case outcomes for the global economy, safe haven demand will likely remain strong. Breaking this cycle probably requires the start of a few events. The first is perhaps obvious, but less alarming news on the spread of virus outside of China, and a peak in new cases globally, would certainly help to calm investors’ nerves. The second would be the emergence of US and global economic data for the first quarter that comes in better than the heavily downgraded forecasts for economic indicators we have begun to see. Virus fears have led investors to expect the worst for upcoming economic data, so indications that economies are holding up better than expected will also work to calm fears. Lastly, demand for safe havens will decrease if investors begin to believe that the Fed’s monetary policy actions are decisive enough and able to provide the risk markets with the support and liquidity needed for an eventual recovery.
Commodities
Just when the markets thought the Covid-19 outbreak was mostly being contained in China, the speed at which the virus then spread globally took everyone by surprise and they quickly erupted into chaos. While the situation is still highly fluid, we have turned bearish on crude oil given the demand and supply responses.
For crude oil, demand destruction is certainly becoming more serious as the Covid-19 outbreak has turned into a global pandemic, and as more travel bans are issued to virus-hit countries. Saudi Arabia signalled its willingness to deepen production cuts to support prices, together with Russia, which had taken part in an alliance formed in 2016 to manage global supply. We have suggested before that Russia could also consider coming to the negotiation table. However, geopolitical power play pivoted on 6 March, when Russia declined to cut oil production and argued that US shale producers must shoulder the burden of any future production cuts. With much lower fiscal breakeven price and a twin surplus, Russia appears to have a much higher pain threshold. A price war subsequently started, with Aramco immediately lowering prices to its clients in Asia and North America after the meeting. We believe that uncertainties will prevail until the oil market bottoms out.
Global fixed income: Extraordinary crisis caused by two exogenous shocks
Andre Severino, global head of fixed income and Steve Williams, head portfolio manager–core markets
Covid-19 outbreak, oil prices shocks to the system
The market is obviously going through an extraordinary crisis, caused by two exogenous shocks to the system—the novel coronavirus and developments in the oil prices. What makes it a challenge for us is that factors such as credit imbalances are not the cause of this crisis. Rather, it is about trying to understand when virus cases could peak and then decline-something that is very difficult to forecast. For example, a whole range of possibilities would have to be taken into consideration if we try to extrapolate developments in Italy and Spain to the US. Many economies will likely face technical recessions as a result of this crisis; in our best case scenario, the virus outbreak plays a major role for two quarters before economies experience a sharp recovery in the second half of the year.
What we have seen from central banks so far has been very impressive. The Fed has cut interest rates by 150 bps, loaded liquidity into the system and expanded their balance sheet. We have seen liquidity-driven pressure in credit markets, across the board on mortgages (Ginnie Mae spreads in particular widened to levels not seen since the great financial crisis) and even US Treasuries. But the Fed has responded quite aggressively, coming in hard to support liquidity. Our chief concern over the next several months is fear and panic triggering selling pressure as the exponential growth component of the epidemiology curve peaks in countries such as the UK and US. Such selling, however, is going to be relatively short-lived, in our view.
Considering the lack of structural inefficiencies in the financial markets that was evident during the great financial crisis, we think a rather dramatic V shaped recovery will take place. From a historical market perspective, the 11 September, 2001 terror attacks would be the closest in terms of parallel. As Mark Twain said, “history doesn’t repeat itself but it often rhymes”, and the extreme shock the market is currently exposed to is more akin to what happened after 9/11. We therefore believe the speed of the markets decline will be matched by a just-as-quick recovery once we see a stabilization in cases as we have already observed in China.
Japan equities: Short-term volatility to continue, valuations at historical lows
Toshinori Kobayashi, portfolio manager, Research Active Management team and Junichi Takayama, investment director
Price-to-book ratio sinks to levels seen prior to Abenomics
Following the market turbulence stemming from the global spread of Covid-19 and the sharp decline in the overall Japanese market since the end of February, valuations have come down to historical lows. The price-to-book ratio has dropped below book value; it fell to 0.87x, the lowest since December 2012, just before Shinzo Abe was elected prime minister and went on to launch Abenomics. The historical average for the price-to-book ratio since January 2013 is 1.23x and the current level appears to be at a large discount. The lowest levels observed in the past decade include 0.83x reached in October 2008 during the global financial crisis (it went on to rebound to 1.20x by June 2009), and 0.91x marked after the Great East Japan Earthquake in March 2011.
The Japanese equity markets have come down significantly since the global outbreak was feared in February and sluggish economic activity has been reported to date. The negative numbers are expected to continue to come out for some time.
Market outlook
There is still much that is not known about Covid-19, which makes it difficult to accurately predict the duration of this outbreak. However, when considering the numerous opinions from experts, past experiences of infection disease outbreaks such as the Severe Acute Respiratory Syndrome (SARS), and the fact that rate of infection in China has already slowed considerably, there is a high probability that the situation in Japan will head towards containment in April or May.
At the same time, we have seen a growing number of people infected in the US and Europe, making it possible that global containment could take until June or July. If we were to base our outlook on this assumption, we believe that it is likely Japan will see another quarter of negative growth in January-March, in continuation from October-December. However, from past experience in China after SARS and in Japan after natural disasters, it does not take long for consumer confidence to recover after such events, and we may even begin to see signs of recovery in domestic demand from May or June. While we expect external demand will be supported by the gradual pickup in Chinese production and consumer spending, considering that the US and Europe still a ways off from containment, we believe economic growth will bottom out in the July-September quarter.
In terms of corporate earnings, we believe that a large drop in the January–March quarter is inevitable and that the earnings guidance for next fiscal year will likely be extremely conservative as well. However, companies are likely to modestly exceed these conservative quarterly forecasts until the October-December quarter, where the hurdle to achieve on-year growth is to become lower. At this point, the recovery trend should become clear.
In the short-term we expect volatility in the market to continue as the coronavirus continues to spread globally. If the outbreak in the US accelerates, the chance that we could see another round of market decline is quite possible. That said, the recent market sell-off in Japan seems to have taken into account a further spread of the coronavirus and sharp economic downturn to some extent. In addition, the fact that price-to-book multiples are well below 1x and dividend yields are over 3%—at levels seen in previous market crises—we believe further downside for Japanese stocks is limited. We expect the market sell-off to slow around the end of April to mid-May, when investors price in companies’ conservative earnings forecasts. After that, we expect that the market will gradually return to a sustained uptrend as investors watch for a decline in the number of infections in the US and Europe as well as companies posting better-than-expected earnings results.
Asian equities: Now is the time to start accumulating positions
Robert Mann, head of Asian equity
Asian governments have strong balance sheets; substantial fiscal stimulus, more monetary easing expected
The recent carnage in financial markets, triggered by widespread fears about the Covid-19 pandemic, recession worries and the collapse in oil prices, has been unprecedented to say the least. While trepidations about a novel contagious disease is understandable, we like to point out that humans have always lived with viruses and infections. Not that long ago, many bacterial infections were fatal, but life went on. As an adaptable species, we will quickly get used to the new conditions as fears recede and normalcy resumes. That is why we are not expecting the virus-hit global financial turmoil to be protracted.
Many governments around the world, believing that this novel coronavirus is temporary, will ensure that the connections that keep economies going remain in place. By 2H20, equity markets will be looking forward to 2021, which could see strong earnings growth, albeit from low levels in 2020. Stocks will discount those earnings at very low yields and that could see Asian markets leading the world out of this crisis. We believe that it is now the time to start accumulating positions, as we feel that it is very likely that substantial fiscal stimulus and more monetary policy easing will come.
Looking at the region, most of the Asian countries (namely China, Hong Kong, South Korea, Taiwan and Singapore) have done a much better job at containing the virus than Europe or the US. In general, Asian governments also have very strong balance sheets so will be easily able to roll out massive fiscal stimulus in light of Covid-19. In addition, interest rates in the region are generally higher than those in Europe or the US. As such, the region still has room to cut rates.
A weaker export market in the next few months, however, is a negative as the region is a net exporter to the developed world. GDP growth everywhere will clearly be weak in H120 and earnings per share estimates for 2020 will come down a lot, not just in Asia but globally. In terms of sectors, the service industries of Europe and the US will be the real weakness, but Asia is not too exposed to these sectors. To be sure, tourism, entertainment and restaurants will obviously be hit very hard, but these are sectors that have a very small weighting in Asian equity markets. The energy sector will also be hard hit, but its weight in market indices similarly isn’t large.
In times of stress, one will be concerned about excessive debt levels. While many people worry about China, the renminbi (RMB) has been stable and Chinese bonds have also rallied of late. In times of corporate distress, it is very likely that the Chinese government will bail out important companies that are facing difficulties. Apart from India, the region’s banking sector still looks strong, unlike the situation in Europe. Defined benefit pension funds, which are rare in Asia, currently do not present the risk in the region as they do in the West.
All in all, investors should take advantage of the current market downturn to accumulate positions and buy high-quality companies, especially those in Asia, at cheap valuations, as widespread fears about the Covid-19 pandemic will wane.
China equities: The worst of the Covid-19 outbreak could be over in China
Truman Du, senior portfolio manager
Economic activity expected to gradually recover over next several months
Of late, we have turned neutral on the market from our negative stance because China has demonstrated its ability to contain the Covid-19 epidemic faster and more effectively than we had initially thought. With decreasing number of infection cases in recent weeks, China seems to have avoided a country-wide Covid-19 outbreak.
Most of the enterprises in China should have resumed operations, and we expect economic activities to recover gradually over the next several months and normality to return around the May-June period. In our view, the Chinese government will continue to launch monetary and fiscal policies to boost the economy via infrastructure construction and consumption stimulus.
Nonetheless, the Covid-19 epidemic around the globe could pose a new risk for China's economic growth. Overseas demand for Chinese goods and services could be postponed or disrupted in the next several months. Therefore, the Chinese government is expected to boost domestic consumption to hedge against weakening overseas demand.
All in all, the worst situation concerning the Covid-19 outbreak could be over in China, whose economy in our view will recover in the next few months. The Chinese stock market will be supported by improving fundamentals and ample liquidity. With China's plans to accelerate "new infrastructure" construction, including 5G networks, smart grids and others; technology stocks should still outperform in near term as they will benefit the most from the stimulus and strong demand of "contactless" services.
In the near term, we may accumulate more stocks related to traditional infrastructure construction, as we think more stimulus are on the way and the Chinese government would like to boost employment by means of construction. Stocks related to building materials, machinery and heavy duty trucks could be our targets. Meanwhile, we are maintaining our overweight position in technology stocks, which will be the major beneficiaries of "new infrastructure" construction and "contactless" services. Electric vehicle, media, and healthcare stocks are also on our radar, and we may buy some of these counters during market corrections.
ASEAN equities: Aggressive countermeasures imply sharp short-term downturn, but bode well for effective containment
Kenneth Tang, senior portfolio manager
Overview
So far, in ASEAN, Singapore has seen the highest number of Covid-19 infections. While there are differences, our experience during the SARS epidemic in 2003 is the most sensible reference. In 2003, almost all key indicators including tourist arrivals fell sharply over a period of 1–2 quarters and recovered to normal levels 1–2 quarters following the peak of the epidemic. Economic growth of the affected countries was impacted only for a single quarter. While we are hopeful that the same pattern will prevail for the current outbreak, we remain watchful given differences between the two diseases, as well as the relatively greater level of connectivity with China and importance of the Chinese economy in 2020 compared to 2003. In particular, the far more aggressive countermeasures taken in 2020 imply a sharper short-term downturn, but bode well for more effective containment. However, given the rapid build-up of cases outside China, there is now a greater risk that the impact of Covid-19 could be more protracted. This could mean that global growth will be affected more broadly, especially if the coronavirus takes hold in large economies like the US and eurozone. The duration of the impact could also drag on to 2Q20 or even 3Q20.
The impact of Covid-19 has led various ASEAN governments to lower their economic forecasts. Our initial expectations of a short and sharp impact from Covid-19 had implied that growth would be in the middle of the government’s forecast range. However, given the global spread of the virus, GDP forecasts remain fluid, with potential further downside risk. We continue to think that the Monetary Authority of Singapore will most likely loosen its monetary policy again during its next policy meeting in April, which should add further support for the economy. In Thailand, we have also observed the cutting of economic growth forecasts to levels closer to 1–2% as the country faces both the prospects of a weaker domestic economy and external impact from slowing tourism. Philippines and Indonesia are more domestic economies, thus the economic sensitivity should be lower in comparison to Singapore and Thailand. Both economies should be able to sustain economic growth of at least 4–5%, in our view. Malaysia might also see its economic growth weakened to 2–3% in 2020.
Amid the developing outbreak, transport and consumer discretionary/hospitality sectors will likely be worst hit and the ASEAN portfolio has reduced its positioning in sectors which are most vulnerable to the Covid-19 pandemic. We are watchful of a deeper and more protracted impact on the economy, which could necessitate a more defensive positioning. We also continue to note that valuations of the ASEAN market are well into attractive territory, particularly Singapore with a price-to-earnings ratio that is below what we saw during SARS and close to the lows seen during the eurozone crisis of 2011, and the economic slowdown of 2015–16.
Outlook and positioning
We believe concerns over the impact of Covid-19 on global growth prospects will continue to dominate in the near term. We expect that global economic estimates and earnings will be downgraded; ASEAN markets will not be immune to the downgrade but we believe some markets and sectors will be better positioned to ride out the economic environment. Longer term, we continue to be positive on the ASEAN growth story particularly in new growth sectors of consumption and investment.
In terms of portfolio strategy, we have been tactical in raising cash over the past quarter. We are also overweight Singapore within ASEAN due to its more attractive valuation and dividend yield (>4%) as well as greater resilience and defensiveness in earnings in coping with the current economic situation. The recently announced budget also featured strong fiscal accommodation in the form of a projected deficit of Singapore dollar (SGD) 10.9 billion or 2.1% of GDP which we believe can help mitigate the economic impact of Covid-19 on local businesses and the overall economy. We believe the SGD will be steady given the resilience of the underlying economy.
In ASEAN-ex Singapore, we remain cautious towards countries such as the Philippines, Indonesia and Malaysia in light of the more challenging growth backdrop. In Thailand, we are positioned in consumer and industrial stocks poised to benefit from the current environment.
We favour the industrials and consumer sectors and selected technology which we believe offer a good defensive growth proposition in the current environment. We are cautious towards financials and energy given the larger downside risk. In this environment, we believe resilience and quality growth will be key. We continue to be positioned in areas that will deliver growth in times of greater uncertainty.
Asian fixed income and credit: Markets extremely volatile, credit spreads significantly wider
Asian fixed income team
Overview
Covid-19 has triggered a global pandemic; while outbreaks in South Korea and China seem to have stabilised, Europe is now the new epicentre, and the number of new cases in the US seems destined to spike as well. Furthermore, OPEC+ talks have failed, resulting in a sharp drop in oil prices as Saudi Arabia and the other Middle East producers slashed prices and ramped up production.
The Fed cut policy rates by 150 basis points (bps) along with government bond and mortgage-backed security purchases totalling USD 700 billion, in response to the turmoil in financial markets and expected economic slowdown. In addition, the Fed announced significant liquidity injections via repo operations. The European Central Bank did not cut interest rates but introduced a number of measures to support liquidity and credit, including larger quantitative easing on a temporary basis. Governments around the world have also responded by announcing large expansionary fiscal policies, which included even Germany, where such fiscal expansion was previously considered taboo.
Under these circumstances, financial markets across all asset classes, including US Treasuries, have been extremely volatile. Credit spreads globally have widened significantly since end-February, and Asian credit spreads have followed that trend. There are also significant dislocations along the credit curve, as front-end spreads have also widened and sometimes by more than the longer-end spreads. US Treasury yields have also risen as funds sought to sell the most liquid assets to meet redemptions.
Asia credit
As with other asset classes, Asian credit is likely to remain highly volatile in the near-term. Credit spreads could continue widening until we see the virus spread in Europe and the US stabilising without a second wave occurring in China and South Korea, and either oil prices stabilising at a lower level or a resumption of OPEC+ negotiations.
Against this backdrop, we also have to be wary of upside policy risks. Room for traditional monetary policy, such as rate cuts, is limited especially after the recent easing wave. However, fiscal and credit policies are finally being implemented by governments. In Asia, we have already seen record fiscal deficits being announced in places such as Singapore and Hong Kong, and unprecedented expansionary fiscal policies in Europe. More importantly for the credit markets, the measures being announced include credit support not only to small medium enterprises but also to large corporations that need to address short-term cash flow needs.
Overall, we are going through an extremely challenging period for asset returns. However, given the big swing in valuation, we also see the potential for significant upside and outperformance once the virus outbreak is contained and the rates and credit market dislocations are reversed. Global economic recovery will be delayed longer than we expected at the end of February, but we still expect the combination of monetary, fiscal and credit policies to support a powerful rebound later in the year.
As for now, we do not think that the poor liquidity currently affecting the markets will lead to solvency issues. Of course, this depends on the duration of the virus outbreak. In this aspect, global central banks are trying to calm the financial markets with drastic policies not seen since the 2008 global financial crisis.
Singapore credit
We are seeing stress in markets starting to hit an increasingly wide range of assets. The sell-off started off with the most speculative instruments and as momentum continued to build, this market stress spread to safer asset classes which included Singapore Government Securities (SGS). The flight-to-quality is now much more urgent and narrowly focused on the most liquid and safest assets—short term USD government paper and USD cash.
As a result, all yield curves, including the UST yield curve, have steepened as investors dumped risk (including duration risk). The SGS curve was not immune to the stampede out of emerging markets into USD. The Singapore dollar is a safe-haven within the region, but is not fully immune to a broader risk-off move that we are currently witnessing. The re-steepening of the SGS yield curve, while a sign of selling, is a necessary pre-condition that allows traders’ positions to consolidate, in our view.
Going forward, the outlook for SGS is volatile. There has been extreme price moves in both directions in the last four weeks reflecting orders of magnitude outside the usual trading range. Most of the moves have taken place under conditions of thin liquidity and in line with global risk sentiment (and USTs). Since the equity market peak on 19 February, the markets have sold off aggressively with volatility extremely high. The whole SGS curve rallied until 9 March before a steepening trend was established. The main headlines driving the sell-off have been related to Covid-19 and the oil price collapse. Various knock-on effects on retail demand and other commodities are the broader factors that market has been attempting to price in.
SGD credits that are likely to suffer first-order negative effects are travel and hospitality-related sub-sectors and commodities. The second-order effects will hit the retail sector (including retail landlords). Additionally, while the banking sector was in good shape going into this crisis, margin calls at private banks have driven forced selling of subordinated debt. This is therefore a pricing/valuation consideration rather than any fundamental credit concerns at this point. We continue to review the systemic risk of credit or liquidity crunches which would be far more severe, though this is not our base case at the moment.
China rates and FX
China rates and FX markets have been relatively calm, having been at the epicentre when the virus outbreak started and currently experiencing the next phase of the epidemic curve in which imported cases are seemingly more of a concern rather than local cases.
As a result, China rates have been trading as a beta to global fixed income, although with lower correlations. This is in part due to foreign participation still being very low in the fixed income markets. Domestic investors are not having any liquidity issues, with the overnight and 7-day reverse repo rates continuing to remain low.
While the China’s economic data readings for January and February were disastrous, the markets have already priced in the negative numbers and movements in the markets have been limited. Credits onshore have outperformed, due to the loosening measures and targeted initiatives which were implemented to help SMEs and corporates tide over their refinancing difficulties caused by the virus outbreak.
Regarding FX, the RMB has been very stable against USD, moving in a 6.9–7.05 range and appreciating against the basket. We continue to expect policymakers to try and maintain stability as a depreciating currency will be detrimental to capital flows and can potentially destabilise the market.
Assessing the strength of the domestic rebound will be key, particularly as export growth is likely to be hit and pose a drag on growth, indirectly affecting manufacturing investment in turn. Employment remains intact for now and this should help consumption once activity picks up, in our view. Additional fiscal and monetary measures could be deployed, especially if upcoming data does not show a robust recovery.
Asia rates and FX
When considering the virus outbreak’s fundamental impact on Asia, we expect export-driven and open economies including Singapore and South Korea and tourism-reliant economies such as Thailand to be affected the most. In addition, South Korea has so far had the largest number of cases in Asia outside of China; as such, we expect the impact on growth stemming from softening domestic activities to be also severe. In contrast, Indonesia and Philippines are more domestic-driven economies and they also have relatively less reported cases, and thus might be slightly more resilient.
Malaysia relies heavily on oil-related revenues and is therefore expected to suffer the largest negative impact from the sharp drop in oil prices in the wake of the price war caused by OPEC+. On the other hand, most Asian countries should actually benefit from lower oil prices, particularly as the price decline will have a positive effect on current accounts and also curb inflation. In particular, we expect India’s account deficit improving and inflation falling if oil prices are kept low.
Despite the aforementioned positive factors, the severe weakening in global sentiment has prompted investors to pull out of emerging market assets. This caused massive yield curve steepening and weakening of currencies across Asia. The Indonesian market, which had heavy investor positioning since last year, eventually saw offshore selling as well.
Asian central banks and governments have been supporting their economies through both monetary and fiscal policies. Almost all Asian governments have announced some sort of fiscal support to ease the virus impact. Additionally, central banks in Malaysia, South Korea, Thailand, Philippines and Indonesia have already cut policy rates. We also expect India to cut rates soon and Singapore to ease its FX policy. Asian central banks have room for more rate cuts if needed, in our view.
In addition, most Asian countries have imposed travel restrictions to contain the virus. Most recently, Malaysia announced measures to restrict travel, both inward and outward, to curb the movement of people and stem the spread of the virus.
Looking ahead, volatility is likely to persist until the virus pandemic stabilises or a vaccine is developed. Meanwhile, global central banks and governments will have to continue to pledging that they will provide liquidity and fiscal stimulus to support their economies and markets.
New Zealand fixed income and equity: RBNZ cuts rates to record low
Fergus McDonald, head of bonds and currency, New Zealand and Stuart Williams, head of equity, New Zealand
RBNZ slashes rates, new capital rules for banks delayed
In an unscheduled announcement on 16 March, the Reserve Bank of New Zealand (RBNZ) slashed interest rates by 75 bps to a record low of 0.25%. The cut followed an introduction of mandatory self-isolation for all international arrivals into the country. RBNZ also said that it will keep rates at that level for the next 12 months. Additionally, new capital rules for banks which were due to be introduced have been delayed, opening up a further New Zealand dollar (NZD) 47 billion in lending headroom for the country’s banks. Subsequently, the government has announced a support package of NZD 12.1 billion (c. 4% of GDP) to help with the economic fallout from coronavirus.
Even though the cash rate fell, sovereign bonds have lost in value as rates have risen because larger debt issuance is expected. Credit margins have widened, albeit with little trading occurring, but we are not seeing significant corporate stress in the local market. However, some sectors such as airlines and airports are under pressure.
We are cautious towards sectors we believe will feel the most impact from the coronavirus, either by choice or by lack of availability of quality issuance, such as oil prices, airlines, tourism, hotels, forestry and fisheries.
In domestic equities, the virus outbreak has pressured all stocks but particularly travel and tourism-related sectors. The spread of the virus in China and beyond also presents a challenge for the country’s commodity exports.
The other major risk facing the domestic market at present is Rio Tinto’s review of operations at the aluminium smelter at Tiwai Point in New Zealand’s South Island, which could have negative repercussions on the utilities sector.
Covid-19 is a real risk to economic activity and will likely result in a global recession this year. However, we believe that the impact will pass, and it is also likely that elevated volatility through this period will present opportunities for long term investors to benefit by staying true to their strategies.