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June 2020

Graham Bentley Graham Bentley

Avellemy Commentary for May 2020

The triumph of the optimists?

The COVID19 pandemic has produced 6.2 million confirmed infections by the end of May, and total daily reported cases across the world continued to rise more steeply despite falling rates of transmission in Europe and the US - indeed the 30th May saw the largest daily increase so far with 128,000 new cases reported by John Hopkins University.

A number of countries, particularly in South America, are weakening their lockdown strategies despite rising cases.  This seems almost entirely motivated by economic concerns and political imperatives, underlining the current dilemma faced by governments; honouring a duty to protect the short-term health of a relative minority of citizens, versus managing the longer-term impacts of lockdown and economic recession on society as a whole. 

Economies around the world have been in various degrees of shut down for over 3 months, and corporate earnings and economic growth figures for the first half of the year are going to be dreadful.  US unemployment is approaching 15%, while the UK government's Job Retention Scheme has managed to limit 'official' unemployment to 6% in the UK.  The UK's unemployment rate was less than 4% at the end of 2019 but looks likely to return to levels not seen since the early 1990s (10%) by Q2 this year. Unemployment is forecast not to return to 2019 levels until 2022.

Meanwhile, a US President with at least one eye on re-election has strongly encouraged states to 're-open for business' in spite of infection rates, demanding workers act as 'warriors'.  Anti-Chinese rhetoric has rekindled fears of a renewed Sino-US trade war and China has responded by reneging on its 2019 agreement to buy more US agricultural goods. World leaders such as Germany's Angela Merkel are loath to attend forthcoming G7 meetings in person, although it is unclear whether COVID19, or having to share a platform with Mr Trump, are the driver for that reticence. UK news being dominated by Boris Johnson's chief adviser's trip to Durham and demands for his resignation - Cummings not Goings, if you will - were rather less influential on stock markets. For those of us of a certain age, the civil unrest in the US and global condemnation of the killing of George Floyd bears a striking resemblance to the events of 1968; there was even a pandemic that year - Hong Kong flu, which killed between 1 and 4 million people worldwide.

Given a litany of disasters, readers could be forgiven for imagining the worst about their portfolios' performance. If these were hypothetical conditions, observers betting on a bull market might have had their sanity questioned.  Yet anyone taking a perceived 'common sense' view amongst this political and economic mayhem and taking to cash in late March will now be feeling a deep sense of regret.  Despite unprecedented negative economic conditions, equity markets, and particularly in the US, have shown an astonishing pace of recovery.  As I write this, the total gain on the US index of its 500 largest companies over the 50 trading days since the March 23rd low is the strongest on record - a rise of 40%.  The UK market is up 30% over that same period, while the USA index of technology companies is 11% higher than it was at the end of 2019 - and approaching 17% higher when the strong dollar is taken into account.

However easily pessimists might argue that this lightening recovery makes no sense given the gloomy outlook, yet again 'time in' the market has mattered more than 'timing' the market. As venerated economist JM Keynes is said to have opined "The market can stay irrational longer than you can stay solvent".  So, what is driving these gains?  Is this exuberance irrational, and will it all end in tears? 

Certainly, explaining market performance is easier than predicting it. Long-term, rising markets simply reflect the 'triumph of the optimists'.  COVID19 has not been as virulent (outside large urban population centres) as feared, while the 'whatever it takes' mentality of governments and central banks has seen trillions of dollars, pounds and euros pumped into the economic system.  Cash on deposits have an absolute return of virtually zero so any reversal of the severe risk aversion that dominated investors' thinking in March will find some cash reallocated to riskier assets.  There is also a 'value' tradition that buying equities when all seems lost generates higher returns than buying at a record high.  Strong retail fund sales figures in May - particularly in actively managed funds - are supporting evidence of this trend, continuing the rebound buying surge seen in April.

Long-term investors should be no more concerned with analysis or justification for rising asset prices, than fearing falling ones. To paraphrase Kipling, meet with Triumph and Disaster, and treat those two impostors just the same...

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