• Investment
  • 16 April 2020

From Wall Street to Main - Saving the man on the street

Nations around the world are keeping their citizens at home. To arrest the rise in the number of Covid-19 cases globally, governments have imposed social distancing to contain the stealthy spread of the coronavirus that is robbing precious lives, straining healthcare infrastructure and chipping at their own political capital.

Regardless of the severity, enforcement duration or nomenclature (lockdowns, curfews, or “circuit breakers”), the stark economic reality is that business activity is down, jobs are being lost, incomes reduced and consumer spending has collapsed. This is already showing up in economic data, with weekly US initial jobless claims topping 6 million for two consecutive weeks now (vs. 211,000 for the week ended 6 Mar 2020 just a month ago). A record 16.8 million, or more than one in 10 US workers, have lost their jobs in just the past three weeks. The US unemployment rate is expected to surge to 12.6% in April from 4.4% in March, according to latest consensus forecasts, and could rise above 15% by end-June.

 Exhibit 1: US jobless claims have topped 6 million for two consecutive weeks

Source: Bloomberg; latest data available as at 13 April 2020

Looking for stability

We have revised our economic growth forecasts in developed economies from 1.6% last month to -2.9%, with all regions contracting sharply. Emerging markets also face a big hit, with growth forecast at 1.9% compared to 4.1% last month. That leaves global growth at zero, compared to the 3.8% average of the previous decade.

At the onset of the pandemic, we had argued that investors expect a three-prong approach from governments – for monetary, fiscal and healthcare policies – before any semblance of investor confidence can be restored. Now that these scaffoldings are in place, are we closer to stability in the global economy?

In early March, central banks took emergency monetary policy action by lowering rates and providing liquidity to resuscitate the capital markets which had frozen up in the first flush of risk aversion. The Fed slashed its Fed funds rate by 150 basis points (50 bps on 3 March, 100 bps on 15 March) to 0.0-0.25% and announced an initial USD700 billion of bond purchases. Since then, the Fed has launched wave after wave of other measures, including expanding its commitments to buying unlimited amounts of government and private sector bonds as needed to support companies’ short term funding needs, and an alphabet soup of programs aimed at relieving stresses in money markets. As a measure of the sheer scale of its emergency intervention, the Fed’s balance sheet ballooned to USD6.1 trillion on 8 April from USD4.3 trillion four weeks earlier, on 11 March.

The European Central Bank (ECB) launched a new quantitative easing program on 18 March worth EUR750b comprising emergency buying of private and public sector bonds at least until end-2020, on top of an earlier EUR120b bond-buying commitment, and improved terms on its targeted programme to stimulate bank lending.

China’s monetary policy stimulus came in the form of the PBOC’s injection of a further CNY50 billion into the banking system on 30 March to increase support to the economy, as well as by cutting the interest rate it charges on loans to banks.

Saving lives and livelihoods

To put the brakes on the rapid spread of the virus, governments have stepped up social distancing measures by ordering store closures and limiting business activity to the bare minimum of essential services. Parts of the US have been in closure mode for three weeks and so has the UK, while most of Europe and Asia are expected to extend restrictions on normal activity at least until May 2020.

Such measures are necessary from an epidemiological perspective to flatten the infection curve, but they foreshadow a period of unwelcome economic distress. This has, and will, create an unprecedented shock to the economic system. Fiscal policies now take centerstage as governments that can afford it jump in with record budget deficits to help save the day to contain the collateral damage.

On 27 March, US President Trump signed into force a USD2 trillion emergency relief bill approved by Congress – the largest in US history –to support the economy and cushion it from the worst effects of the Covid-19 pandemic. In Europe, Germany is preparing to create a EUR500b bailout fund to help companies, and has also set aside an extra EUR122.5b in spending this year to cushion the German economy from the shock of Covid-19.

In Asia, Singapore’s three budget announcements of support measures will bring the total stimulus to SGD59.9b, which is about 12% of Singapore’s GDP. Relief measures introduced in the Hong Kong budget will hit a record deficit of HKD139 billion (or 4.8% of GDP).

With the game-changing nature of the pandemic and the policy impetus, we expect these short- and longer-term trends in the global economy:

1. Someone has to pay (ultimately) 

Running budget deficits imply a global rise in public debt and debt-to-GDP ratios across the world. The debt burden on the future would imply higher taxes and constraints on public spending. Beyond the immediate hit to public finances from direct spending, loan guarantee schemes also lift the cost of future non-performing loans off the balance sheets of the banks and put it onto the government and, ultimately, the taxpayer. 

2. At risk: Jobs and the nature of work 

Month-long forced closures and lockdowns have knocked the wind out of many businesses, as some may be forced to reduce wages, lay off workers or furlough staff for the period. The ballooning Marchand April 2020 initial jobless claims and unemployment figures in the US are indicators of worse to come. The International Labour Organization estimates that 1.25 billion workers worldwide (or 28% of global workforce) are employed in sectors directly impacted by the Covid-19 outbreak, including retail, accommodation, foodservices and manufacturing. Under the CARES Act, US employers with Covid-19inflicted economic woes are incentivized to keep employees on the payroll through a50% credit on up to USD10,000 of wages paid or incurred.

Beyond the short term policy relief, the more pressing question is whether the nature of job losses and reduction in hours worked is cyclical, frictional or structural. If a V-shaped bounce in business activity brings the jobs back, cyclical unemployment is part and parcel of economic playbooks post-pandemics. But, what if the post-Covid 19world (coupled with the deglobalisation trends that were already in motion) catalyses rapid adoption of technology and lower intensity of staff strength, office space and commuting capacity? Jobs in tech, communications, healthcare and companies with sound online strategies may benefit, while some industries and supply chains maybe disrupted for good. That would in turn impact private sector investment impetus and consumption patterns for years to come. 

3. Relief for small businesses (for now) 

The focus of recent policies has been on “Main Street”, or the businesses that rely on the local “real economy”, in contrast to “Wall Street”, or big businesses and financial corporations.

The US Main Street lending program announced by the Fed on 8 April 2020 will take on 95% of the risk on USD600 billion of small-medium enterprise (SME) loans, as well as funding support of the Small Business Administration’s loan program, which forgives some of the outstanding loans subject to criteria. The Paycheck Protection Plan (PPP)will lend up to USD349 billion to American small businesses with fewer than 500employees. Payroll support and deferred payroll tax schemes are also supportive for small businesses.

In Europe, the European Investment Bank guarantee program targets EUR200 billion of financing for SMEs. Singapore has introduced rental rebates and tax deferrals for small businesses. Hong Kong’s eligible SMEs will be eligible for low-interest loans and preferential tax schemes. Relief measures may be insufficient to keep some companies afloat, so we do expect deterioration in credit quality for weaker businesses, if the malaise drags on.

What should investors do?

While the pandemic-induced economic shocks weigh on market sentiment, the gradual defrosting of China’s economic activity as the nation gets back to work portends well for what to expect for global counterparts, when their lockdown measures are relaxed. As the stresses of financial markets ease, we encourage investors to focus on selective opportunities, while managing risks through diversification, maintaining sufficient liquidity and building resilient portfolios. The pandemic will leave victors and victims in its wake, hence investors will benefit from researching industry and company dynamics closely.

A sound asset allocation strategy would be positioned to take advantage of opportunities in response to fast-moving developments both in the spread of the virus and its effects on markets, and the subsequent policy responses.

We have an overweight view on emerging market high yield bonds. While some near- to medium-term downside is possible, we do not expect spreads to revisit the levels achieved during the GFC.

We maintain a preference for Asian high yield, in particular Chinese property, prefer Turkey within CEEMEA and to stay defensively positioned in Latin America.

Looking ahead, the depth and complex nature of the virus shock suggests that the market contour of the global Covid-19 crisis would take a W- or U-shape, instead of a V-shaped recovery if there are no unexpected positive developments in the global pandemic trajectory over the near term.

Despite the recent rebound in stock markets, tightening credit spreads and improving market liquidity, expect volatility to persist amid the Q1 earnings season and concurrent releases of poor economic data. Ensure that portfolios have sufficient cash to weather the short term volatility and manage leverage within portfolios.

  • For leveraged investors, prioritise liquidity buffers over bargain hunting; on any short-term bounce, increase liquidity buffers within portfolios and reduce concentrated positions.
  • For investors with sufficient liquidity, be positioned to invest in resilient companies with sustainable business models, strong balance sheets and earnings power to survive this crisis and the economic challenges that follow. Selected stocks and bonds offer value viewed from a risk-adjusted lens.
  • Timing the bottom may be a challenging exercise. Gradually phase in any planned re-entry into the market by making use of diversified instruments and strategies, including mutual funds, hedge funds, ETFs and portfolio management services; for suitable clients, deploy option and derivative strategies but be conscious of leverage and potential mark-to-market volatility during the life of the products. 

Video: Investment Strategy: From Wall Street to Main

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Version: March 2020