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When market pundits wrote their 2020 forecasts, few included the words “Iran” or “virus”, but just over three weeks into the New Year and exogenous shocks are already impacting markets. While the potential impact of the coronavirus works its way around the globe and through financial markets, I wanted to jot down a few thoughts about the potential impacts for readers.
For many market participants, myself included, the easiest analogue to the current coronavirus outbreak was the spring 2003 outbreak of Severe Acute Respiratory Syndrome (SARS). That virus, which spread from the Guangdong province in southern China, ultimately infected more than 8000 people and killed 774 people worldwide. The Chinese-origin of the current coronavirus, and its fairly quick ascent in mortality rates, makes the SARS experience a template for thinking about implications on markets. SARS was also a type of coronavirus, while the differences in pathology of the two strains are outside of my scope, that episode should be a helpful frame for readers. Here are my rough thoughts, noting that the global health community is still early in the discovery phase:
- Previous experience with SARS, bird flu, and swine flu suggests that a trough in economic activity tends to occur one month to one quarter after the outbreak of the virus.
- The juxtaposition of this outbreak so close to the Lunar New Year in China will necessarily reduce travel and will likely result in a modest regional slowdown in consumption activity that has a negative impact on Chinese GDP growth read-throughs. Chinese GDP grew at an 11.1% annualized rate in 1Q03 as SARS was discovered; that figure dipped to 9.1% in 2Q03 before rebounding to 10% for 3Q and 4Q.
- In the 2nd quarter of 2003, the S&P 500 (SPY) soared 12% and long Treasuries (TLT) climbed 5%. It is hard to isolate the SARS-impact from those returns as U.S. equities continued their climb at that time from the deflation of the tech bubble, but interesting to remember that period was quite a good quarter for U.S. assets.
- A coronavirus-induced reduction in consumer spending will likely weigh on regional Asian equities (MCHI) with impacted sectors including consumer products, travel/leisure, airlines, hotels, and gaming companies.
- A reduction in demand for air travel from the virus could have a modest negative impact on oil prices in the short-run.
- While global and Asian airlines could face negative short-run impacts, a domestic-focused airline, like Southwest Airlines (LUV), could actually benefit from lower jet fuel prices if transmission to the U.S. is contained.
- Similarly, provisioners of medical supply goods could see a near-term uptick, especially in Asia.
- The United States’ greatest defense, like in military matters, continues to be the two large oceans that bracket the country, hopefully limiting the potential transmission stateside.
- During the 2003 SARS outbreak, there was a notable drawdown in industrial metals prices given slowing Chinese growth and their disproportionate demand. I would expect the impact to be more muted sixteen years later, but it bears watching for commodity traders.
- U.S. Treasuries (TLT) continue to be a flight-to-quality instrument, and will see haven flows as concern over the virus spreads.
- Lower interest rates and a flight-to-quality could benefit dividend-paying and low volatility equities at the expense of Asian-focused emerging markets and commodity-centric value funds.
- Given that tensions between U.S. and China have often dominated market concerns over the past 18 months, a mobilization of U.S. Center for Disease Control personnel to help contain the virus spread in China may be viewed as a potential positive by markets.
- Heavily populated Hong Kong, which is still reeling from the protests, and which was negatively impacted by SARS, could see its cheap equities cheapen further.
The impact of the virus will be negative. The scope of the impact is unknown, but markets have a difficult time handicapping impacts that fall outside the range of calculable probabilistic scenarios. This likely means a near-term flight-to-quality. While the loss of human life is tragic, ultimately the market impacts of the virus will likely prove temporal. I hope this article helps readers in framing the potential short and longer-term impacts on markets.
Disclaimer: My articles may contain statements and projections that are forward-looking in nature, and therefore, inherently subject to numerous risks, uncertainties, and assumptions. While my articles focus on generating long-term risk-adjusted returns, investment decisions necessarily involve the risk of loss of principal. Individual investor circumstances vary significantly, and information gleaned from my articles should be applied to your own unique investment situation, objectives, risk tolerance, and investment horizon.
Disclosure: I am/we are long SPY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.