New article from Tatton Investment Management: H1 2020 offers meaningful lessons

3 July 2020

So we begin the second half of 2020, leaving behind us two of the most extraordinary calendar quarters in history. But the difference in experience from an investment perspective versus the general public and most of the economy could hardly be any more stark. Capital markets suffered the most rapid and one of the deepest bear markets in Q1, only to be followed by one of the highest ever recorded quarterly stock market gains in history (please see the table of asset class returns in the second article). The general public, and the economy in general, on the other hand spent Q2 bearing the full impact of the COVID?19 lockdowns. We review the last quarter in the context of the year so far in our next article: Walking the tightrope: a quarter in review, but most investors with globally-diversified investments would probably agree that as things stand right now, their portfolios have experienced a much better time than they have had personally.

Capital markets have not yet turned positive for the year across the board, but broadly speaking, on a 12-month basis, most portfolios are no longer showing losses. This stands in stark contrast with the state of economies around the world. After suffering the most severe downturn in history, much uncertainty remains over whether the steep economic recovery we have witnessed over the course of the past months will continue on the hoped-for V-shaped path, or will peter out into what would look like the mirror image of a square root sign. We should know more at the end of the summer and, in the meantime, we can take heart from the fact that the lack of monetary liquidity that drove markets to March’s depths has turned to an abundance that is very hard to ignore.

Whether the current expectation of a gradual but near certain global recovery is misplaced or justified will, to a large extent, depend on whether those sectors of the economy that depend on social proximity for earning a living – and they make up a considerable proportion of western economies – can return to providing their services sooner rather than later. We have discussed the various factors determining this on these pages over the last weeks, but needless to say success in the coming months depends on the resilience of western societies against a return of high infection rates and, looking to end of the year, the arrival and efficacy of the many promising vaccines currently under development.

The news of the past week has been that the rebound in industrial production around the world has been far stronger and much more V-shaped than hoped for. Indeed, global manufacturing sentiment has already returned to where it was in February. Given manufacturing had been flagging somewhat last year, that is good news but also makes the recovery of hospitality, leisure and travel within the services sector all the more important.

Government investment programmes as announced on a daily basis around the world will help to accelerate the recovery of broader economic activity level and should counterbalance the loss of GDP in the services sector, but will only provide very limited employment alternatives to affected staff. A selective continuation of furlough programmes to support those sectors will therefore be crucial to prevent the current COVID recession developing into a classic recession on the back of unemployment. We noted the UK government’s “build, build, build” initiative announcement as one such positive, but given the Prime Minister only mentioned a meagre £5 billion, while hinting at more to be forthcoming next week from his Chancellor, we decided to leave a deeper analysis until then.
 
On ‘second-wave’ concerns, it would appear that thus far only those regions that did not experience high infection rates in the first wave appear to be prone to a rebound in infection rates. The dynamics of the regional spreading in the US are reasonable evidence for this. It is also encouraging that, despite much more elevated infection rates in those southern and western US states that lifted lockdown before they had even suffered a first wave, there does not appear to be a proportional increase in fatalities. If it stays that way, it would be a clear indication that the medical profession is rapidly learning how to prevent severe COVID-19 cases from turning fatal – another point to suggest that even if a second wave was to hit, we do not have to necessarily expect a repeat of the lockdown experience of the past three months.

Unfortunately, geopolitical concerns are not instilling us with similar levels of optimism. China’s decision to (mis-)behave – like all superpowers have historically – makes us nervous about its longer-term economic growth potential and we discuss this in the third article this week. On the other hand, Donald Trump’s declining level of public support in the US, and Russia’s increasing volume of Trump-mocking rhetoric, has us wondering whether his predictable campaign against foreign powers using sanctions and tariffs may be redirected from China towards Russia. Such tactics would be economically rational given the US economy is hardly dependent on Russia. After all, a swift US recovery may be quite dependent on access to cheap Chinese goods. We will watch and wait whether the message is getting through to the erratic US president before we turn as optimistic on the US as we recently have on the rebounding European economy.

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