The Markets React – Coronavirus continues to impact the market

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03/03/2020
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The continued spread of Coronavirus globally has spooked markets, resulting in one of the largest falls in equity markets since the 2008 financial crisis.

However, is the recent sell-off justified? While we are certainly not healthcare professionals, the market’s concern is around the long-term economic implications of trying to contain the virus, rather than the consequences from catching it.

As things stand, it could be believed the sell-off has been perhaps overdone, although we believe it might get worse before it gets better. Sometimes fear is the only catalyst the markets need to fall. At the time of writing there are 89,197 cases of confirmed Coronavirus with the majority still worldwide –  90% of these (80,026) confirmed in China. So how has the Chinese stock market performed relative to the UK or US stock markets?

Surprisingly, the Chinese stock market has not performed as badly when you compare it to the S&P 500 and the FTSE 100. Since 20 January, when Wuhan was first put in quarantine and the rest of the world was made aware of the virus, to the 28 February, the Shanghai stock exchange has only fallen 6.96%, while the S&P 500 has fallen 11.13% and the FTSE has fallen 13.34%. So, given that the UK only accounts for 36 confirmed cases, or around 0.04% of the total, it is perhaps surprising that the FTSE 100’s fall has been more than double that seen on the Shanghai stock exchange (FE Analytics 2020).

Of course, much of the fall in the US and the UK can be attributed to what investors think might happen rather than what has happened so far. The Chinese stock market is not as efficient as its Western counterparts. This is important to consider for those thinking of changing their asset allocation from UK or US equities to Chinese equites. This apparent dislocation may also say something about the dependency of production supply chains in the west, the widespread application of just-in-time production and the subsequent sensitivity of corporate profitability. In China, employment rights are very different to the West and sick pay may not be written into contracts, thereby giving companies significantly more flexibility over their costs when production is interrupted.

A good example of this differential can be seen by looking at the Fidelity China Special Situations Investment Trust. Its third largest shareholding is China Meidong Auto Holding, which is one of the largest car dealerships in China. In fact, if you look at its share price it has actually gone up in value since the outbreak of the Coronavirus, which is why the share price of the Investment Trust has remained fairly robust.

This is remarkable given that the China Passenger Car Association reported that car sales fell 92% in February to just 811 vehicles per day. It sold just over 21 million cars in 2019, which means that it usually sells almost 60,000 cars per day (BBC News, 21 February 2020). So, for a car dealership share price to go up over a period where demand for new cars has almost completely collapsed is remarkable.

With a more efficient market such as the FTSE, the reverse is true. easyJet is a good example of this as its share price fell 27% last week (FE Analytics 2020). The equity market is pricing in future demand for flights across Europe for the rest of 2020 and its expecting significant falls. Investors need to be careful when considering their geographical asset allocation. It might be tempting to switch from the UK or US to Chinese equites but due to inefficiency in the Chinese market it may have further to fall in order to catch up with its Western counterparts. That said, we cannot be sure of the precise mechanism of operational gearing and profitability within Chinese businesses, especially when state intervention is involved, the lender of last resort could very much be in play.

While these falls in the market can be painful it does come with the territory of investing. Nobody likes looking at their portfolios and seeing the money that they have lost. However, the markets have always had painful periods so sometimes the best advice is to sit tight and bury your head in the sand!

Warren Buffett is the world’s most famous investor, but he is also known for this quote: ‘be fearful when others are greedy and greedy when others are fearful’. There is no doubt fear is plaguing the markets now, many believe it could be a good time to buy the market rather than sell it. In his annual letter to Berkshire Hathaway shareholders, he said the coronavirus is ‘scary stuff’ for businesses and investors, but that the outbreak has not changed his long-term optimistic outlook on stocks. Wise words, and something we agree with. While most investors should turn a blind eye when the markets are in freefall it doesn’t mean you shouldn’t do anything.

For those that have not already done so, this may be an ideal time to consider using up any unused ISA or pension allowances. If you have investments that sit outside these tax wrappers these can be sold down and the monies moved across to either tax wrapper where the same investment can be repurchased. This could prove to be a good time to do so because the end of the tax year is just around the corner, and because of the market fall. Any investments that were previously sitting on healthy gains are now sitting on less of a profit, which means selling these investments down will use less of your capital gains tax allowances, currently £12,000. Furthermore, when the investments are bought back within the wrapper any future uplift in the share price means that future gains will be protected from tax. Remember, any contributions to a SIPP would also be subject to tax relief.

 

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