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Coronavirus – Red light spells danger

Events have moved extremely quickly since we last wrote about the impact of the coronavirus in financial markets. It has become apparent that the probable impact on the global economy will be much greater than we, and others, had previously believed and consequently so is the likely feed-through to asset prices. Hawksmoor has always prided itself on its cautious and judicious investment style; the risks now posed by the virus, however, mean that it is right for us to be even more careful in the construction of our portfolios.

The decision at the weekend by the Italian government to restrict the movement of close to a quarter of the population of the country is significant. A period of quarantine, or of restricted movement and contact appears to be the first step of choice for governments around the world. The effect of this on global economic activity will be serious. Previous estimations of a loss of up to 1% of global production look to us to be too optimistic and it is instead likely that the virus will cause a recession in 2020.

The most recent data from China appears to show that their quarantines have started to slow the rates of new infections. This is the good news and the virus should prove to be a phenomenon of this year only. The downside to the financial markets is that mass quarantine is likely in very many places and that the impact on economic activity will be severe.

This will not be a conventional slowdown. It is a contraction that will be largely immune to traditional economic remedies. Lower interest rates and even lower taxes will make little or no impact on an ill, or home-bound, workforce. Nonetheless, it is likely that the Federal Reserve’s emergency cut in US interest rates will be followed by similar actions elsewhere.

Bond yields around the world have fallen to new record lows. As we write, the UK’s 10 year gilt yields less than one tenth of one percent. That means that the total income received over the whole ten years will amount to less than one percent. Investors’ need for perceived safe havens means that there is every chance this yield will drop below zero.

We cannot escape that these are extraordinary and unprecedented times. We feel that it is right that, above all else, we should seek to preserve the value of our clients’ portfolios. Thus, despite the falls already seen in equity markets, we are reducing the equity weightings in our portfolios and holding a much higher percentage in cash than would be normal for us.

It has been unfortunate that the Italian government’s actions have coincided with a collapse in the price of oil. This has had a disproportionate impact on many equity indices, especially in the UK, arising from the high weighting of oil stocks in these. This morning alone, for example, the price of BP has fallen by an astonishing 20%.

In the long run it is important to remember that the low oil price will be highly beneficial to many, assuming that it lasts. In the shorter-term, it is indicative of a market that has very quickly become very fearful. It is right that when conditions dictate, Investment Managers should take the appropriate defensive actions. This is just such a time.

Jim Wood-Smith – CIO Private Clients & Head of Research

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