2020 Q2 outlook: Navigating the eye of the storm
The global economy is entering the eye of the storm and investors can expect a very difficult time ahead before things improve in the second half of the year when the Chinese economy rebounds. In these lands of sorrow is one shinning beacon, namely the collapse in oil prices. This will not help much in the short-term as many are forced to stay at home, but eventually it will pay off as the economy rebounds. We expect the global economy to enter into a growth recession evident in Q2 and leave it by the end of the year. The outlook for Q2 is a difficult one as we suffer from a crisis the likes of which has not been seen since World War II.
The Covid-19 virus spread from China to the rest of the globe, and authorities are doing their best to contain it by taking drastic measures, e.g. lock-downs. In some countries, such as Italy, the healthcare system is on the verge of a breakdown. With most shops closed, brick and mortar style companies are suffering a very harsh shock, as are factories, while the much larger service sector can largely work from home. Consumers are now ordering from home even when they had never done so before.
Faced with this shock, we expect many companies to partially or fully layoff their labor forces leading to a sharp increase in unemployment from Europe to the United States. This combined with much lower oil means strong deflationary pressure, particularly in the United States where some sectors such as IT have very large profit margins.
The consequence is that many central banks from the Fed to the ECB will be able to keep a very easy monetary policy stance given the ample slack. That means the existing Quantitative Easing and Credit Easing will likely be amplified in the coming quarters. Specifically, we expect the Fed and ECB to move to credit intermediation for small and very small companies by sharing the risk with banks as the Fed just did. As they do so, the economy, also helped by fiscal expansions, will stabilize in a severe recession but as the virus fades through lockdowns and other measures, we should see growth slowly start to rebound led by China. First should come the pent-up consumer demand from weeks of confinement, then the realization that hard times are still ahead. Banks in developed economies entered this crisis on solid footing and we note that Nordic Banks are traditional safe-havens.
Q2 should be a very difficult quarter, but things should improve increasingly as we head to the end of the year. Faced with such a difficult environment, fixed income and flexible fixed income solutions are likely to play a significant part in asset allocation as safe havens and tools that can deliver better risk return profiles. Duration is unlikely to help as much now so that credit taking in investment grade is likely to help. We have been proponents of the Covered Bonds market for a long time given its ultra-safe profile and it continues to be supported by ECB purchases. Investors should keep in mind that in an era of high volatility, the ability of portfolio managers plays an important role as they can navigate the crisis. One typical example of this is Emerging Markets bond funds which have seen widely differing performance during the crisis depending on the portfolio manager. Multi-premia flexible solutions are another effective tool for stabilizing a portfolio during a volatile market.
We are in the early stages of a historical crisis. As elevated fear levels begin to ebb volatility in equity markets should fall, giving them a floor and some upside as the market bets on various rescue packages. Yet ahead of us is the realization of a very sharp recession, many profit warnings and bankruptcies. A stone has been cast into the proverbial pond and the ripple effects are being felt all the way to the shore. In such a volatile environment we prefer listed real estate and listed infrastructure. They offer a resilient profile to the downside and share in the upside.
Note: This is a NAM macro view, not the official Nordea view.