U.S. equities finished sharply lower as they suffered their largest weekly decline since October 2008 with the S&P losing 11.44%, the Dow 7.78%, and the Nasdaq 6.50%. The leg lower in equities was largely driven by investor concerns surrounding the spread of the COVID-19 (formerly known as the Coronavirus) outside of greater mainland China, however, some also attributed the likelihood of Bernie Sanders becoming the Democratic nominee as another reason that stocks moved lower. Weakness was broad-based with all 11 sectors finishing down on the week and for the year. Energy continued its recent stretch of underperformance with WTI crude falling 16% over the course of the week, while the sector has fallen 24% in the first two months of the year. Treasuries and safe haven assets continued to be where investors hid with the risk-off tone gripping markets. Yields on the two, three, and five-year Treasuries all fell below 1%, inching closer to all-time lows not seen since September of 2012.
Despite the World Health Organization (WHO) stopping
short of calling the COVID-19 a pandemic, the group did increase its risk
assessment from “high” to “very high”. There has been a spike in cases and
areas that continue to be monitored including:
- South Korea
The CDC confirmed the first transmission of the virus to an individual who is not known to have had contact with anyone who was previously infected. Officials have launched a far-reaching investigation as to how the patient could have become infected despite not coming into contact with others who had previously been infected. Additionally, the CDC on Thursday said they were monitoring 8,400 people who arrived on commercial flights from Asia to California. The group also came under fire for their testing methods as they were criticized for an initial batch of flawed diagnostic tests, as well as for testing too few people. In total, there have been over
92K cases worldwide with 90% of them still occurring in Mainland China and the current amount of active cases stand at 41K with 17% of those being classified as serious. The growth rate of the virus appears to be moderating versus in late January when cases continued to spike.
While the economic impact of the virus is still unknown with many companies saying they still cannot quantify the impact, it appears as though it will not be confined to just Q1 or China as many originally thought. Bank of America downgraded their current fiscal global growth forecast to 2.8% from 3.1%, which would be the first time a reading sub ~3% has occurred since the financial crisis. They went on to say they now expect China growth to be the weakest since 1990. This comes despite the fairly positive commentary from AAPL and SBUX leadership saying business was returning to normal within the country, however, there was heavy skepticism that full capacity would be restored anytime soon. Economic growth is anticipated to gradually come back over time as the virus growth rate moderates and not in the V-shape that many expect. Over the long-term, if following the course of growth subsequent to historical pandemics such as MERS, SARS and ZIKA, economic growth is not expected to be hindered as a result of the virus.
The week’s sell-off appears to have been exacerbated by investor positioning, sentiment, and valuations. As retail investors continued their move back into stocks and institutional money manager cash levels fell to 4.0%, the lowest levels since March of 2013, and valuation levels appeared to have become stretched. With the bull market narrative fully intact investors appeared to be pricing in:
- Continued earnings expansion for 2020
- Accommodative monetary policy
- A potentially easier-than-expected President Trump victory versus an extremist candidate and hopeful Democratic nominee, Bernie Sanders
Valuations showed that stocks generally looked expensive as Bank of America noted that the S&P 500 index was trading above its historic levels on almost all of the ~20 metrics it tracks except P/FCF and relative to bonds. Furthermore, hedge funds increased their leverage just prior to the market rout as gross leverage stood at 190%, the highest since 2010, putting it in the 86th percentile. JPMorgan also pointed out that CTAs and volatility targets had relatively high exposure going into the sell-off, all creating the perfect storm for an aggressive sell-off. Even despite the worst sell-off in more than a decade, hedge funds continued to “Buy the Dip” according to data compiled by Morgan Stanley’s prime brokerage unit.
Politics continued to receive attention throughout the week as Bernie Sanders continued to gain momentum heading into Super Tuesday. Despite Senator Sanders losing to Biden in the South Carolina primary, the Senator still headed into Tuesday as the front- runner. Even as most national polls illustrate Bernie Sanders beating Donald Trump, it has recently been a tailwind for stocks as many have thought Bernie would be the easiest candidate for Trump to defeat given his extreme ideals. However, more recently there has been some thoughts that Sanders could actually beat Trump as he has faced criticism around the handling of the COVID-19 crisis and subsequent market sell-off.
U.S. equities saw a large recovery Monday, recouping nearly half of their losses last week as the Dow surged 5.09% (nearly 1,200 points) – its largest one-day point gain, with the S&P gaining 4.60%, and the Nasdaq 4.49%. Most of the gains came in the last hour of trading after a choppy session in the morning. Equities still had a defensive tone to their flows and were led by Utilities, Technology, Consumer Staples and Real Estate who all finished up over 5% on the day. Cases in mainland China fell, snapping stocks and their seven-day losing streak following their worst week since 2008. Expectations continue to rise as the People’s Bank of China (PBOC) aims to help stimulate the economies that are suffering from
the impact of the virus. As a result of the market’s cry for help, the G7 responded as finance ministers and PBOC governors from the group are set to lead a global teleconference on Tuesday to discuss potential action and responses to the global COVID-19 outbreak. The big takeaway was that a coordinated response will be needed on multiple fronts and that they stand ready to take any action necessary to continue the current economic expansion. Treasury prices initially reversed course on Monday, however in Tuesday’s session, we once again saw a collapse in yields as the 10-year fell below 1% to .999, their lowest ever.
As for the outbreak, a WHO team arrived in Iran after both Iran and Italy reported cases that more than doubled the previous numbers. Additionally, Saudi Arabia, Moscow, Brussels and Berlin all reported their first cases according to Bloomberg, as the global death toll from the virus has now surpassed 3,000. There are now over 80 confirmed U.S. cases and four deaths in Washington State, with the first infections appearing in New York City as well as Florida.
Oil jumped on Monday as WTI bounced back from its worst week since 2008 amid hopes that OPEC+ will deepen their output cuts as demand growth falters. According to a Bloomberg survey, producers are said to cut 750Kbpd which is slightly above the 600Kbpd recommendation provided by the organization’s technical committee just a few weeks ago. Russia declined the proposal they received to cut 1Mbpd and said they will instead focus on the cuts previously recommended.
Economic data released abroad in China did little to derail the rally as investors acknowledge that any downturn in current data is temporary due to the ongoing virus concerns. China’s official Manufacturing PMI fell to 35.7 in February versus 50 in January, while their Non-Manufacturing PMI, released over the weekend, sank to a record low of 29.6 versus 54.1 the month prior. After the sell-off on Tuesday, one of the big themes continues to surround the future stance of monetary policy expectations. On Tuesday morning, the Fed announced an emergency cut of 50bps, their first such cut since the 2008 financial crisis. The cut tried to ease investor fears that lower rates could help combat the negative economic impact of the virus as it continues to threaten or stall the record U.S. economic expansion. Fed Chairman Powell gave comments saying “my colleagues and I took this action to help the U.S. economy keep strong in the face of new risks to the economic outlook,” and that “the spread of the COVID-19 has brought new challenges and risks.” Last week the market was only pricing in an 11% probability of a 25bps cut at the March 18th meeting. The emergency cut comes after various Fed officials argued that it was still too soon to gauge the economic impact of the virus. Many have
also debated the actual impact on supply chains now that rates were cut and what next steps are if the virus were to continue to spread without a legitimate way of containment. Based on the market sell-off Tuesday of ~3%, investors seem to remain skeptical about how rate cuts will be an effective tool to combat the economic damage caused by the virus.
Politics remain on the forefront as Joe Biden mounted a staggering comeback and came out as the clear winner of Super Tuesday. The Biden campaign captured first place in 10 of the 14 states that held primaries, losing only Vermont (Bernie Sanders’ home state), Colorado, Utah, and California – performing better than originally anticipated in California. After the unexpected turnaround by Biden, his delegate count rose to 507 followed by Bernie Sanders at 441 and Elizabeth Warren at 53. Early on Wednesday morning, former NYC mayor Michael Bloomberg suspended his campaign after an
uninspiring Super Tuesday, failing to capture any states and only leading in American Samoa. After dropping out, Bloomberg was the latest to endorse Biden saying “after yesterday’s vote, it is clear that candidate is my friend and a great American, Joe Biden” and joined Amy Klobuchar, Pete Buttigieg, and Beto O’Rourke in their endoresements. Both Amy Klobuchar and Pete Buttigieg suspended their campaigns prior to Super Tuesday after not being able to record a win in any of the previous four primaries/ caucuses. As Sanders initially stormed out of the primaries and outperformed expectations, his bid for the presidency has since cooled off. There continues to be reports discussing how, with all of the endorsements Biden has received, it would be possible for Bernie to secure the minimum of 1,991 delegates needed to win the nomination out right. Additionally, after a highly disappointing night, Elizabeth Warren is said to be meeting with advisers and evaluating what the path forward entails. So far Warren has not come in the top two of any state primaries and had a third place finish in her home state of Massachusetts.
THIS WEEK INTERNATIONAL:
APAC – Last week was marked by a global synchronized sell-off amid manufacturing slowdown in China and growing concerns regarding the economic impact of the COVID-19. The SSE Composite closed the week with -1.99%, washing away recent gains. The SSE Industrial Index was the biggest loser, dropping 2.43%, followed by China SE SHANG COMM Index with -2.23% and SSE Conglomerates Index with -2.16%. SSE Real Estate Index was the big winner with a 6.15% increase last week.
The China National Bureau of Statistics released the PMI numbers for the manufacturing sector. The headline PMI for February was 35.7, down from 50 in January. Non-Manufacturing PMI for the same month was 29.6, down from 53 in January. Entertainment, tourism, catering and transportation took a hit from the COVID-19 outbreak, as the epidemic started to affect consumer behavior.
According to NBS, the work resumption rate for large and mid-size companies in China is currently at 78.9%; nonetheless, it is expected to improve by the end of March above 90%. The Nikkei 225 registered a 9.78% weekly loss. Auto manufacturers led the sell-off, followed by steel manufacturers and consumer discretionary companies. Bank of Japan asked major lenders to communicate their contingency plans. The next policy meeting is scheduled for March 18 and 19, 2020.
Europe – The EURO STOXX 600 Index finished the week down 9.59%. The Utilities sector was the only one in the green, posting a 6.37% gain. Among the losers, travel and leisure stood out with -19.95% last week, followed by the oil and gas sector with -18.66%, and the automobile sector with -18.55%.
In Italy, Consumer Confidence decreased by 0.36% in February, as the country battles COVID-19. The country’s Manufacturing PMI slid to 48.7 in February, down from 48.9 in January.
In France, Consumer Confidence remained flat with Manufacturing PMI falling to 49.8 in February, versus 51.1 previously.
The information provided, including any tools, services, strategies, methodologies and opinions, is expressed as of the date hereof and is subject to change. Level Four Capital Management (“LFCM”) assumes no obligation to update or otherwise revise these materials. The information presented in this document has been obtained from or based upon sources believed by the trader or sales personnel or product specialist to be reliable, but LFCM does not represent or warrant its accuracy or completeness and is not responsible for losses or damages arising out of errors, omissions or changes or from the use of information presented in this document. This material does not purport to contain all of the information that an interested party may desire and, in fact, provides only a limited view. Any headings are for convenience of reference only and shall not be deemed to modify or influence the interpretation of the information contained.
This material has been prepared by personnel of LFCM and is not investment research or a research recommendation, as it does not constitute substantive research or analysis. This document is not directed to, or intended for distribution to or use by, any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction where such distribution, publication, availability or use would be contrary to law or regulation or which would subject LFCM to any registration or licensing requirement within such jurisdiction. It is provided for informational purposes, is intended for your use only, and does not constitute an invitation or offer to subscribe for or purchase any of the products or services mentioned, and must not be forwarded or shared with retail customers or the public. The information provided is not intended to provide a sufficient basis on which to make an investment decision. It is intended only to provide observations and views of certain LFCM personnel. Observations and views expressed herein may be changed by the personnel at any time without notice.
Nothing in this document constitutes investment, legal, accounting or tax advice or a representation that any investment strategy or service is suitable or appropriate to your individual circumstances. This document is not to be relied upon in substitution for the exercise of independent judgment. This document is not to be reproduced, in whole or part, without the written consent of LFCM.