As cities across North America start to relax COVID-19-related restrictions and more businesses start to reopen, we are all thinking about things returning to “normal.” But the unavailability of a vaccine, physical distancing protocols, increased focus on hygiene, facemask usage, and enduring uncertainty in global stock markets are all stark reminders that things are still far from normal in the world.
While we adjust, let’s look back at what has happened since the peak of the market when the virus broke out and where we are headed as restrictions ease.
Earnings uncertainty still a key variable
From an investment performance perspective, it’s no surprise that the pandemic has had a profound negative impact. Here’s how broad market indices have performed since the COVID-19 outbreak:
| Market peak: February 19 | S&P/TSX Capped Composite Index | S&P 500 Index (USD) | MSCI EAFE Index (USD) | MSCI Emerging Markets Index (USD) |
|---|---|---|---|---|
| February | -6.1% | -8.4% | -9.2% | -5.4% |
| March | -19.8% | -11.1% | -13.9% | -17.3% |
| April | 10.5% | 12.7% | 6.3% | 9.0% |
| May 25 | 2.0% | 1.5% | 0.4% | -1.5% |
| Peak to May 25 | -16.0% | -12.7% | -19.1% | -20.5% |
| Year-to-date | -11.7% | -8.5% | -18.3% | -18.2% |
Source: Bloomberg, May 25, 2020
As I detailed in a recent episode of the MD Market Watch Podcast, 2020 started with the global economy on stable footing. As the virus spread, we saw global policy makers close borders, restrict travel and enact widespread shelter at home orders. We essentially witnessed the global economy grind to a halt. With that came increased uncertainty, which drove volatility, and a swift collapse of stock prices through the later part of February and two-thirds of March.
Almost immediately, governments and central banks jumped in to provide monetary and fiscal policy support. My colleague Ed Golding does a good job of explaining these types of supports – how they help and why they’re so important. In a nutshell, we saw policy makers hand out free money to individuals and businesses and lower interest rates to all-time lows. The immense coordinated efforts of governments around the world has helped the global economy weather the storm as evidenced in the above table and suggests we might be able to emerge from the COVID-19 pandemic in a similar place to where we entered it.
However, thinking of stock markets as a pricing mechanism that digests available information to value companies’ future earnings potential, the markets are still telling us that earnings expectations are worse now than at the start of the year – in both the magnitude of future earnings and the uncertainty of those earnings.
It’s also interesting to note that the impact has not been shared equally across global markets. The S&P 500 Index has clearly fared better than other major international markets. This can be attributed to the strong performance of household names in the consumer discretionary, consumer staples, communications, and information technology sectors that benefited from adjustments in consumer behaviour during the pandemic:
| Market peak: February 19 | Amazon (USD) | General Mills (USD) | >Netflix (USD) | Google (USD) | Google (USD) | Nvidia (USD) | Adobe (USD) |
|---|---|---|---|---|---|---|---|
| February | -6.22% | -6.17% | 6.94% | -6.53% | -4.83% | 14.23% | -1.71% |
| March | 3.50% | 7.69% | 1.75% | -13.24% | -2.65% | -2.40% | -7.79% |
| April | 26.89% | 13.49% | 11.81% | 15.90% | 13.63% | 10.88% | 11.12% |
| May 25 | -1.50% | 0.12% | 2.26% | 4.94% | 2.40% | 23.53% | 8.94% |
| Peak to May 25 | 12.29% | 12.62% | 11.17% | -7.32% | -2.01% | 14.73% | 0.52% |
| Year-to-date | 31.88% | 11.95% | 32.68% | 5.51% | 16.37% | 53.44% | 16.81% |
Source: Bloomberg, May 25, 2020
Adjusting risk appropriately
We believe that investment success requires a deep understanding of your investment goals. With that understanding in mind, maintaining the appropriate strategic asset allocation (the long-term asset mix of your portfolio designed to achieve a specific level of return over a specific period of time) in your portfolio is the key to achieving said goals. On top of this, we also look to take advantage of tactical opportunities to add incremental value and more importantly, manage risk when they arise.
As the situation unfolded, we took swift but measured steps to de-risk our clients’ portfolios by reducing equity exposure and moving some of that allocation to cash and fixed income. Wes Blight’s blog post from the end of March does a good job at outlining some of the steps we took. As global policy makers introduced different waves of support measures, we started to reduce our cash overweight but remained appropriately defensive.
Here’s how the MD Precision Moderate Balanced Portfolio stacked up:
| Time period | MD Precision Moderate Balanced Portfolio Series A | Morningstar Peer Group (Global Neutral Balanced) |
|---|---|---|
| February to April* | -4.9% | -5.9% |
| Year-to-date* | -1.7% | -4.2% |
*Morningstar category returns are only available for month-ends.
Source: Morningstar, May 25, 2020
Most recently, we have removed our underweight to equities, bringing portfolio allocations back to neutral. As economies around the world being to reopen, the fundamental backdrop for recovery is likely to be sustained over the next 12-18 months. Historically, the period following major market turmoil is often the most rewarding time to be invested. We have seen a significant rebound, but we are not in the clear yet as confidence and the global economy remains fragile.
The significant monetary and fiscal policy response should limit the extent of further drawdowns in financial markets. However, it is important to understand that several risks remain, including the potential for a second COVID-19 wave (particularly in the U.S. where new cases are still on the rise)..
A lot to consider going forward
As we look forward, there are many long-term trends that will need to be examined as we adjust to the new normal:
- Retail trends – The use of online retailers intensified during the pandemic, accelerating the trend
- Manufacturing and trade – Re-examination of manufacturing and trade partners, particularly for essential goods
- Consumer behaviour – How people will reacclimate to going out, working, travelling, saving, etc.
- Long-term impact of government support – Significant support required deep deficit spending
This list is far from exhaustive – so there is a lot to consider. As we all regroup personally and professionally, we will need to remain diligent as many unknowns remain. While our outlook is now more optimistic than it was in March, we still believe it to be prudent to be cautious. We will continue to scrutinize incoming data regarding policy response to the COVID-19 outbreak, reopening progress around the world, and the relative success of the ongoing recovery in China.
If you have any questions or require more information, please do not hesitate to contact your MD Advisor*.
* MD Advisor refers to an MD Management Limited Financial Consultant or Investment Advisor (in Quebec).
The above information should not be construed as offering specific financial, investment, foreign or domestic taxation, legal, accounting or similar professional advice nor is it intended to replace the advice of independent tax, accounting or legal professionals.
