Analysis, Scenarios, and Recommendations

Investing in the Time
of Coronavirus

Don't judge each day by the harvest
you reap but by the seeds that you plant
Robert Louis Stevenson


After first surfacing in China's Wuhan region in December 2019, the coronavirus outbreak has metastasized into a global pandemic with over 407,633 confirmed cases and 18,250 deaths as of March 24, 2020. Quarantines have dramatically affected everyday life in many countries, including Italy, which has been under total lockdown for weeks. Many prominent technology companies including Google, Amazon, Apple and Microsoft are encouraging employees to work from home. Universities across the world have asked students to stay home. More countries, corporations, universities and other institutions are likely to follow suit.

WTI crude oil prices have declined by 63% on a year to date basis. The drop over the last month was precipitated by price wars between Saudi Arabia and Russia, the two largest producers in the "OPEC Plus" group. The oil price collapse together with the virus scare created a "1-2 punch", which together caused the Dow and S&P to decline into bear territory on March 11 and March 12, respectively. In this piece we explore threats and opportunities for investors. The virus timeline below shows major developments over the last few months.

        Virus Timeline

        Fundamental Picture

        It is too early to forecast the pandemic's economic effects with any certainty. The same can be said of the monetary, fiscal and liquidity countermeasures announced by various governments to support national and regional economies. This unprecedented level of uncertainty is evident in the Cboe Volatility Index, "the VIX", which closed at an all-time high of 82.69 on March 16th.

        The table below shows the major actions taken in the last few weeks by central banks and other governmental agencies.
        Many economists now expect global stagnation and perhaps even an economic contraction. Forecasts for global growth have been revised downwards. Per Paul Dales, chief U.K. economist at Capital Economics, regarding the measures taken so far:
        It won't prevent the economy stagnating or contracting in Q2 and Q3, but it will help to ensure that the economy can bounce back later this year and in 2021 once the virus has peaked
        During the week of March 16 - 20 Morgan Stanley, Goldman Sachs and S&P revised their estimates for global growth downwards to 0.90%, 1.25% and 1.00-1.50%, respectively. This compares to a 0.8% contraction in 2009 during the Great Recession.

        Vulnerable Sectors & Companies

        We can't know the severity or length of the economic downturn to come but can expect a significant demand shock in the travel and tourism sectors. The multiplier effect through the rest of the world economy as a result of this demand shock is still uncertain. We would expect cyclical sectors of the global economy to be most vulnerable as corporations and individuals hoard cash and postpone or cancel spending.

        For similar reasons, we also expect the lion's share of companies with high payout ratios to cut their dividend. Ford Motor Company (F) and Occidental Petroleum Corporation (OXY) have already announced significant dividend cuts in the wake of this crisis. This new trend will likely intensify and could further pressure equity prices.

        Winners & Losers in the Age of Coronavirus

        Consumer staples should be resilient from a demand perspective.Additionally, we expect economic activity to shift on balance towards online platforms versus in-person for the next two quarters at least as social distancing becomes more widespread. Some beneficiaries of this trend should be Amazon (AMZN), Netflix (NFLX) and online education and workflow management companies, while some losers from this trend include brick-and-mortar retail, movie theaters and traditional education companies and institutions

        Supply Shocks

        Beyond demand shocks to the economy, supply shocks will likely become a problem due to social distancing, remote work and quarantines. If key employees critical to the operation of global supply and logistics chains end up staying home, we could experience disruptions in the manufacture of various types of goods, which could in turn lead to shortages, price spikes and societal disruption. The decline in oil prices and gasoline should put more money in consumers' pockets and provide an offset to potential shortage-related price spikes of certain goods.

        Volatility at an All Time High

        Asset markets have reacted violently to the spread of the coronavirus. The S&P 500 peaked at 3,386 on Feb. 19, 2020 and closed at 2,400 as of Mar. 20, 2020, a decline of nearly 30%, well into bear market territory. The five-year chart below puts this into context. For the period Jan 1, 2015 to Mar 20, 2020, the S&P had minimum and maximum levels of 1,864 and 3,386, reached on Feb. 8, 2016 and Feb. 19, 2020, respectively. The range of 1,522 points on the S&P over this period means that the current level is below the middle of the range (2nd quartile of the 5-year range).
        Although we are in a very different situation than in 2008-2009, there are some similarities with that period. This is the first time since 2008 - 2009 we've had a decline of this magnitude. On October 8, 2007 the S&P reached a level of 1,561. By Mar. 2, 2009 it had dropped to 683, a decline of 56.3%. We don't know if this decline is over yet but so far we've declined by 32.0%, which is the largest decline from a near-term top since that period. Second, the VIX, a measure of expected future volatility in the market, has spiked to levels that we haven't seen since the 2008 - 2009 period. To clarify, this measure is not historical or based on actual volatility but is derived from the prices of options on a broad equity index. It represents investors' expectations of future volatility in equity prices and is a good gauge of fear levels in the market.
        The chart below shows the spike in the $VIX index, highlighting the increased market volatility. These levels haven't been reached since the Great Recession of 2008-2009 period.

        VIX for the YTD period ending March 20, 2020

        VIX for the period Jan 2007 to March 20, 2020

        Oil's Precipitous Fall in 2020

        Since the beginning of 2020, WTI crude oil prices have declined from $61.60 to $22.63, a 63.2% drop. A price war between Saudi Arabia and Russia is exacerbating the demand decline related to the virus.

        The Search for Safe Havens

        As the crisis has unfolded, the US Dollar has acted as a safe haven as a bid for cash has increased. Gold, viewed as an inflation hedge, has declined by 11.4% since hitting a 2020 high of 1,676 in late February. This highlights how investors have ceased to worry about the global economy overheating and instead focused on the upcoming global demand shock and related economic downturn. The following two charts show the USD Index versus gold prices on a year to date basis.

        Corporate Defaults on the Horizon

        Another potential domino likely to fall in the medium to long term time would be a spike in high-yield (HY) defaults, which have been below historical averages for several years. HY annual default rates spiked over 10.0% during each of the last three US recessions. The current rate is below 3.0%, very close to the historical lower bound (see chart below). Assuming that we'll reach a 10.0% default rate by 2021-2022, we can expect a significant uptick in defaults starting in Q3 2020, caused by an acceleration of the credit cycle as the economic downturn unfolds. Defaults are likely to be disproportionately high in sectors with long-term challenges (brick and mortar retail) or high levels of indebtedness and subject to volatile commodity prices(energy). Offsetting this risk is the fact that many high yield borrowers have refinanced in the last few years and don't have significant short-term maturities in 2020 (see chart). The high yield market is important to the economy and investor confidence because if credit dries up or becomes too expensive for riskier borrowers, it would spark a wave of defaults which would stress entire industries and result in higher unemployment as well as impacting adjacent markets including investment grade corporate bonds and equities.

        The charts below from S&P show US HY defaults for the period 1982 to 2019 and maturities for the next few years.

        Preliminary Conclusions & Outlook

        We think a V-shaped recovery in asset prices in 2020 is unlikely. Our reasons are twofold: 1) the virus has not yet been contained, 2) according to experts, a vaccine will not be available for at least 12 months. Given the highly contagious nature of the epidemic and the fact it is already present in over 100 countries, it is safe to assume it will infect a substantial percentage of the world's population. This will have serious long term effects on the global economy, which could lead to unforeseen secondary effects. A combination of demand shocks, supply shocks and societal instability will create a fear-filled and uncertain environment for months to come.
        For these reasons, investors can afford to be patient in deploying cash and wait out opportunities on the sidelines. Correlations have increased dramatically across all asset classes as the crisis has accelerated, making it challenging for investors to find a safe haven in the current environment.
        In the table below we explore three possible scenarios of how the pandemic and associated economic effects could play out over the course of 2020. We hope to make investors aware of the potential risks and to suggest strategies to mitigate risk while capitalizing on market dislocations.

        Scenarios and Implications for Investors

        The extent to which the spread of the virus can be slowed is the main driver determining which scenario plays out. Secondly, governmental actions to provide economic relief and stimulus will also be a major driver. The table below describes three possible scenarios with implications for investors.

        Investment Strategies for the Coronavirus Crisis

        Below we highlight possible strategies that equity investors can deploy to take advantage of the current market environment. The strategies should be adjusted to reflect the virus scenario expected to play out per the table above.

        1. Quality Names for the Long Term - Begin reallocating some capital to the stocks you'd like to own long term, especially if you passed on them during the bull market over valuation concerns. Many are now likely to be available at fire sale prices.
        2. Companies Positioned for the Pandemic - Allocate some capital to the share of companies with predominantly online businesses that actually stand to benefit from the Coronavirus Crisis.
        3. Relative Value - Consider investing in market neutral strategies designed to generate return in any market such as those deployed by some long / short funds.
        4. Planning for the Recovery - Identify the stocks and sectors that have been battered and that are likely to make a rapid recovery when the pandemic subsides. Until then, steer clear of these investments and have a plan in place that can be implemented in short order.

        For help in designing a personalized investment plan to weather the Coronavirus Crisis contact

        About the Authors

        Eduardo Simpson
        Investor, Entrepreneur
        Eduardo is an investments professional with over twenty years of experience in the asset management industry, focusing on credit securities, including emerging market bonds, US high grade and high yield debt, distressed debt and project finance loans. Additionally, he has experience with private and public equity as well as equity derivative instruments. Most recently, Eduardo has been helping startup firms in the Nordic region connect with capital and services in the US. His university studies include an MBA from the Yale School of Management with a specialization in Finance/International Strategy and a B.S. from the University of Florida with a Finance specialization.
        Matthew Lewis
        Founder, Westbridge Wealth Management
        Matt is a private wealth advisor at Westbridge Wealth Management and moderator of the Wealth Bootcamp podcast. He has 20 years of experience as an investment professional and has held positions in equity research, wealth management, real estate private equity, and commercial real estate development. He earned his MBA from the Yale School of Management with a distinction in investment management (taught by David Swensen), studied abroad in Cambridge and Moscow, and earned several professional credentials including the CFA, CAIA and CCIM designations. Having lived in Russia for a number of years, he is fluent in Russian.
        The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision. All expressions of opinion are subject to change without notice in reaction to shifting market, economic or political conditions. This content was created as of the specific date indicated and reflects the author's views as of that date.Past performance is no guarantee of future results. Forecasts contained herein are for illustrative purposes only, may be based upon proprietary research and are developed through analysis of historical public data.
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