Comment and opinion for retail investors in the UK
As I write, the main issue impacting investment markets is the coronavirus outbreak (nCoV to be accurate). This is not the first scare from this range of viruses as readers may recall: we have had SARS and MERS previously. The numbers infected and the number of deaths are touted in the media in a dramatic way, but actually are not large relative to, say, the number of people who die waiting for treatment from the NHS.
The above abbreviation is I read the correct title for the new form of coronavirus that has been the topic of news headlines for a few days. It is actually called novel coronavirus by the WHO. We have in the past seen outbreaks of other variants from this virus family: SARS and MERS. If you want more data on that, you know how to Google!
I am writing about the virus because I have seen headlines like “market sells off on coronavirus scare’. That supposed ‘sell off’ was of course a figment of the sub-editor’s imagination. However, as I wrote a while back when there was more concern about the SARS variant, disease at epidemic levels is a very serious risk for markets. How much risk depends on the effectiveness of the early reactions of the international health authorities to the outbreak and how soon it is contained. There is a point in the progress of an epidemic when it ceases to be manageable.
We have plenty of history to examine when thinking about the implications of rapidly spreading infectious and potentially fatal illnesses. Not long ago I read Defoe’s Diary of the Plague Years (about the plague ahead of the The Great Fire of London) and by co-incidence I just started on one of my Christmas presents, Boccaccio’s Decameron, which to my surprise opens with a long narrative of the impact of the Black Death in 14th Century Italy. I also quite recently saw a documentary about the horrendous Ebola virus (not actually gone away) in Africa.
All this co-incidental research tells me that an out of control illness destroys economies at a phenomenal rate and in a year ot two can cause devastation that could take decades or even centuries to recover.
My understanding of current readiness and maybe more relevant, political will to do something, is that it is good in China, reasonable in adjacent places like Australia and to me at least, unclear in the Western world. It was very noticeable that the initial Ebola outbreak only got the attention and resources it needed from the best specialists in North America when the Americans and Canadians had their own nationals coming home and discovering they had the disease. I would not be so sure that the Orange one would offer the same resources now.
Although the better educated people had a surprisingly resourceful and intelligent approach to dealing with the plagues of the Middle Ages, they had no real medical skill and of course only very limited pharmacology, so whole populations were decimated or even wiped out. We can be more optimistic that this infection will be controlled and the impact minimised. But I have a slight nervousness when I make that assertion. If the disease starts to get out of control, the impact on financial assets would be a heavy one.
During World War 2, a German diarist called John Rabe, who was in Nanking when it was overrun by the Japanese recorded that he bought two genuine Ming vases for one dollar each. There are still many houses in Lithuanian that have been unoccupied since their Jewish owners were murdered and the contents looted in the Holocaust. One reads that Italian towns are selling houses for 1 euro each. In Japan there is a village where the only ‘inhabitants’ are hundreds of stuffed toys.
Financial values are totally dependant on active demand and without people, there is no demand for assets. That is why mass deaths in an epidemic is a great risk to asset valuations.
I have today finished and uploaded my thoughts on the subject of benchmarking for funds and portfolios, something that has popped up a couple of times in training sessions.
The subscriber only article is under the Real World menu https://www.itsnotharry.com/benchmarks-a-thorny-subject/
My experience is that investors think they ought to be looking at benchmarks but find the subject confusing and give up. That may not be a bad thing! I jest a little! Hopefully the article will throw some light on the subject. As always I am happy to give technical support to any subscriber who needs it.
My reading of assorted public and specialist media over the last week or two has revealed that many commentators see the current valuation of many US shares in particular as too high on normal valuation bases. I read an article saying a new valuation basis may be needed. The last time I heard an American fund manager talk about a ‘new paradigm’ in stock market pricing was ahead of a market crash so that sort of viewpoint rings warning bells.
But as my readers will recall, I was saying this sort of thing a year ago and yet 2019 was a really good year for equity investors. So maybe this time things are really different?
The end of any bull market is different to previous ones, that much I would concede!
What other actual facts are worthy of examination to help explain what is happening? Markets are going up when really they should not. Here are a few for you to ponder on:
The US Government is about to issue 20 year Treasury stock for the first time since the mid 1980s. This reflects the fact that the US debt is astronomic and tax cuts are being paid for not by GDP growth or public sector savings but by borrowing. That is like you and me maxing our credit cards to give the money to our rich uncle. We know where that would end up.
In a world where populism is rampant, central banks are so afraid of recessions that they will use every tool in their nearly empty box to keep money circulating. This means that they are beginning to own more and more debt securities. This is good for bond prices as there are forced buyers in the market.
In a very simplistic analysis, we can say that Governments are issuing bonds (borrowing) and their own central banks are immediately buying them up. This could be argued to be money printing with no interest cost! Like you borrowing money from your grand-kids piggy bank.
As was proposed by eminent economists when the idea of quantitive easing was first proposed, the eventual consequence of this sort of policy has proved to be inflation in asset prices, so those with assets have become richer. The weakness of labour forces, even in a full employment market plus the application of technology (the real new paradigm) and the globalisation of manufacturing has for now kept the lid on inflation. This is good for equities.
For investors, who own assets (both bonds and equities), this would appear to be very good news – policy is feeding the asset price machine with lots of money and the pipes directing it to benefit the bulk of the population are all closed.
True, if there are hints of the banks wanted to start taking money back out of the system, people get scared pretty quickly, as in mid 2018. But banks trashed their reputations 15 or so years back and no-one objects when they concede to populist government pressure to bump up global credit limits.
It is even possible that some world leaders, fearing elections or even revolutions, are doing what the people that keep them in power (in the media and at the top of the wealth range, or in charge of/supplying their armies) would like them to do, irrespective of the long term consequences – no need to name names.
As long as this continues, investing in equities and bonds will be a nice earner. But I fear that much as happens to the person who pays off one credit card by drawing on another, something that works for many years, the end consequences are bankruptcy and the selling off of assets.
In the global scenario that could actually accelerate the transfer of political power from West to East. It is interesting to note which countries are running surpluses and quietly buying up the assets of debtor nations. If you have grand children, encourage them to learn Chinese.
I have to concede that we probably should stay in the markets for the ride, but if there are any signs of it becoming a train wreck, bailing out sooner rather than later would be essential. Excuse the mixed metaphor!
Of course, asset diversification and hedging risk with adequate cash reserves would be as useful a defence as ever. Personally, I am still retaining a very heavy cash element in my asset base.
Or Watching Brief – Episode 2!
I have now absorbed the essence of the data produced at the year end by J P Morgan and published as a weighty guide with their opinions about what to expect in the year ahead. I have also read several media pieces from experienced financial journalists which are surprisingly consistent. The scribblers (I know, I know) are of the opinion that most markets look to be poor value, are overdue a setback and are subject to all sorts of headwinds. Much as I said at this time last year, in fact. But they all conclude that the ‘bull’s’ have control and momentum will keep driving the markets along.
I wrote some time back that I would occasionally explain in ordinary English the industry specific jargon and clichés that you may see in newspapers or other media reports. Here are a couple that are doing the rounds at the moment:
Markets are climbing the wall of worry – there are a great many reasons to expect markets to fall back from overly confident price levels, but momentum is keeping them climbing and that is how it will be. This one makes me think of Humpty Dumpty!
Bull markets don’t die of old age – there is no fixed period for the optimistic, raising prices (bull) stock market cycle. Although there is no doubt a cycle, it does not occur in neat sine waves with evenly spread peaks and troughs. The current bull market might be a longer one than usual – that is the hope. This one makes me think of The Who’s song My Generation (‘I want to die before I get old’) and the 75 year old Roger Daltrey!
My cynical observation is that when you see these phrases in regular use, people are looking for reasons not to be rational about obvious risks. Geo-political risk just got more serious.