13 May Why this might be a Goldilocks moment for markets
After weeks of lockdown, Boris Johnson and his medical advisers have seen sufficient improvement in infection and mortality rates to begin a gradual easing of restrictions. Before considering what this means for financial markets, we thought we would start with a few words about what this means for life at CDC and our customers.
CDC operating model
As regular readers will know, CDC has been operating a fully remote working model since the middle of March in accordance with government guidance. We had trialled this previously so had 100% confidence in its efficacy and this has been proven over the past few weeks.
On Sunday, guidelines were moderated to the extent that people can return to work if they are not able to do so from home and even then, only if this can be done safely and with minimal use of public transport. Throughout this crisis, CDC has been steadfast in its view that safety of customers and staff would be our priority and this remains absolutely front and centre of everything we do.
But in the light of the Prime Minister’s address, we feel there are some very minor changes we can make to our operating model and thought you might welcome hearing about these. As CDC staff can work from home effectively, this will continue to form the core of how we deliver our services but some staff will be visiting head office periodically but this will be limited to one person at a time on a rotational basis and only where a particular task cannot be completed at home.
Since we moved to remote working, CDC advisers have been mainly communicating with customers by telephone but COVID19 has prompted many businesses to turn to technology for communications, and CDC is no exception. We see the emergence of Zoom, Skype and such like as establishing a ‘new world order’ which can be used, not only for ad-hoc communications, but to complete financial reviews.
We are pains to point out we are not abandoning our core operating model of face to face meetings but whilst restrictions remain in place, using technology strikes us as a sensible (and safe) medium for conducting financial planning meetings. Any customers who do wish to meet their adviser face-to-face, we can support this within the Sunderland office, whilst upholding the social distancing rules. Please let your adviser know if you want to do this so we can make the necessary arrangements, though we stress our default position is to use technology for now. We fully expect our operating processes to evolve as the central guidance changes and we will keep you posted on what this means for our day to day activity through this newsletter.
Thank you for your patience and understanding.
The Investment Committee at CDC has been very conscious that over the past few weeks, whilst we have tried to remain stoical and keep things in perspective, there is no denying that investors have had a difficult time of it. Almost all asset classes have been hit, the only exceptions being government bonds and gold. In the UK, the FTSE100 index for example suffered a 25% fall in the first quarter of 2020, making it the fastest ‘bear market’ in history.
Over the same period, CDC portfolios, due to their diversified nature have held up better than this, with the range being -14% for the most defensive to -22% for the riskiest. Whilst better than the market, we completely understand this still makes uncomfortable reading. During this period we have been at pains to point out that human nature is very often conditioned to sell when the news looks bleakest, but this is ill-advised since recovery can be swift when it comes. So April has proved, with CDC portfolios rebounding between 7% and 9%. Whilst this has not been enough to eradicate all of the first quarter losses, it is certainly an encouraging start. So where do things go from here?
In previous bulletins we have talked about stability first before recovery and the following chart illustrates this point quite well:
The Vix index (also known as the fear gauge) was developed originally by the Chicago Board Options Exchange as a way of measuring volatility within the options market but has been more widely adopted and is now an accepted means of assessing equity market volatility. Whilst it is a generalisation, a Vix score (red line and right hand scale above) of 20 usually denotes normal trading conditions. Over 30 represents heightened volatility. As you can see, March saw this spike up significantly but this is now reverting back to some sense of normality, in other words prices are stabilising. It is worth noting this has coincided with improved news on the rate of infections (blue line).
Plotting recovery is slightly trickier. Equity markets have already regained some of their lost ground in April but this is not likely to be extended until there are better signs emanating from the economy. True, the easing of lockdown will help, but the second quarter economic data (on both sides of the Atlantic) are going to be extremely weak. The trouble is quarter 2 GDP will not be known until July as it is a lagging indicator, and by that time, things could look very different to how they do now. This means we spend time looking at high frequency data to truly understand how quickly the world economy is recovering, not unlike a finger on the pulse. Things like hotel occupancy, passenger traffic, fuel sales, steel production give us a much more immediate sense of economic health.
So why the reference to Goldilocks ? Well in our opinion, the market at the end of March was pricing in an unduly pessimistic view of company earnings. Profits will be hit hard, but not as bad as the market was predicting so a move upwards since then is probably justified and reflects the fact that the worst might conceivably be behind us. But it is difficult to make a case for much more upside in the short term and this leaves financial markets looking not too hot, and not too cold. To be fair, the US market has rebounded more strongly than the UK, but we feel this is premature and leaves US stocks vulnerable to any bad news.
Whilst we can never rule out further downward moves, we are confident enough to predict the previous lows will not be retested unless there is a sharp spike up in infections and the brakes have to be reapplied by government in the form of further lockdowns. So, in summary CDC portfolios have shown healthy signs of recovery in April and are very well positioned to participate as economic indicators start to improve, albeit slowly. In the meantime, all eyes will be on the success of this week’s easing measures ……
Dr Andrew Mann