The coronavirus outbreak: the black swan event of 2020 has dominated the markets worldwide. Negative sentiment and increasing uncertainty of the full extent of the ‘pause’ currently taking place in global economic activity has impacted equity markets severely.
We are no closer to knowing the outcome but the impact will most certainly be felt in the global economy until the rate of contamination and deaths have slowed. This may be short-term, or it may not.
The US is largely a closed economy and less sensitive to global trade with domestic consumption almost two thirds of the US economy. With low unemployment and supportive wage gains, confident households can spend, and the growth prospects remain steady for now. While the impact of China growth is limited for more closed economies like the US, it does impact the rest of the world. When Chinese imports decline, the rest of the world is impacted. Chinese growth, with additional stimulus and a revival once the Coronavirus outbreak is contained, will reverse the deceleration of global growth. The vulnerability of the world’s supply chain is key to watch. Without a recession the risk of a protected bear market is less, however, for as long as uncertainty remains, markets will be volatile.
Could we see a global recession? Global growth for first quarter of this year will be weak and this could continue into the second quarter which may result in a recessionary environment. However, we are seeing an aggressive global policy response, with both fiscal and monetary policy support. Once the coronavirus cases have peaked, we anticipate that the rebound may be strong.
The chart below depicts current attractive global equity market valuations over the last 25 years.
Source: JP Morgan Asset Management
The US is currently trading at the long-term average having been at a premium at the beginning of the year while the rest of the major regions are all trading well below the long-term average ratings.
The core global equity positions in our portfolios are in the Consumer Discretionary and Information Technology sectors, not a thematic view but rather a function of companies that have the ability to generate real economic value. We concentrate on investing in great companies that do not get distracted or alarmed by exogenous factors, that can generate high returns on their investments and have a solid runway for reinvesting for growth.
The local equity market has not been left unscathed and has been dragged into the global sell-off. Domestic economic news is not good. We are now technically in a recession and the fiscal accounts point to the downside risk of our currency. However, the sell-off has left domestic equity valuations attractive.
Two charts that highlight the valuation of South African equities are worth noting.
Source: Thomson Reuters, JSE, MSCI, IBES, RMB Morgan Stanley Research
The forward dividend of our equity market is 4.5% and if you exclude Naspers from the index, the dividend yield is 5.5%. Importantly, the dividend yield alone is ahead of the inflation rate of 4.5% and on par with SA bond yields. Historically, this is an attractive investment opportunity. Banking shares are trading at dividend yields around 6%, matching their deposit rates, yet with the additional potential of capital growth.
Source: Thomson Reuters, JSE, MSCI, IBES, RMB Morgan Stanley Research
The forward price earnings ratio of local market, excluding Naspers, is below 10 times. Within the emerging market universe, South Africa is now trading at a relative discount, not seen for many years. Historically an attractive investment opportunity.
Now is not the time to panic. We will remain cautious during this period of uncertainty using periods of weakness for select buying of undervalued shares. Our approach remains long-term in nature. Each investment case will remain stock specific taking the valuation and the long-term fundamentals into account.