January 31, 2020
Making Cents of the Markets
Be In The Know
Despite seeing several strong earnings reports from companies this week, North American markets pulled back 1-2.5% as fears of the coronavirus grew, impacting global growth expectations. The theory is that if people are sick or quarantined, they aren’t working or spending money – theoretically anyways (Amazon shopping aside) – and economic growth could stutter. But consumers were still out shopping last quarter as evident through earnings season thus far, as over a third of companies have reported earnings with more than 70% of these companies beating estimates. This included companies such as Amazon, Apple, and Microsoft which handily beat analyst expectations. However, the market is now focused on future earnings and economic conditions and how this virus will impact growth locally given its global impact.
As of Friday morning, the confirmed cases of the coronavirus globally have risen to nearly 10,000 with at least 213 deaths. This is shortly after the World Health Organization declared the virus as a global health emergency on Thursday afternoon as more than 20 countries outside China have confirmed cases of the virus. As a result of the recent spreading, we have seen airlines and even countries suspending trips to and from China to prevent further outbreak.
We have studied other instances of viruses over the last 25 years in order to assess the potential economic and market impact. The most relevant is SARS which affected around 8,000 people and resulted in nearly 800 fatalities. It was estimated to reduced growth in China in 2003 by 1% and by 0.5% across East Asia. The economic impact tends to be primarily in the region where the health issue started and the coronavirus has impacted China and Asia the most with an expected decline in revenues for companies tied to travel such as airlines, hotels, and casinos. The difference now is that Chinese GDP is a larger part of global GDP than it was in 2003 but the stock market impact generally tends to be short-term in nature and highly speculative. Typically with health emergencies, stock market corrections are short term because the world has worked together to contain and eradicate these issues in the past.
Despite all the headline news, we received some important economic updates as US GDP grew at an annual rate of 2.1% in the fourth quarter of 2019. US consumer spending has slowed as of late which is a near-term concern, yet inventories increased as businesses have clarity after the trade deal was reached earlier this month. These updates again point to a healthy economy as both the US Federal Reserve and the Bank of Canada reiterated these points as they kept interest rates steady this week. Expectations are for moderate growth and continued economic expansion.
Outside of North America, Brexit is finally happening as the EU parliament overwhelmingly approved a vote for the UK to leave the European Union on Wednesday. This is the first step to a new partnership between the UK and the EU as there will be an 11-month transition period in order to negotiate the details in their future economic relationship. This decision will likely weaken the EU as the situation is comparable to Texas leaving the US in terms of size and economic impact. This will lead to near-term uncertainty on trade as new balances of power negotiate future trade and economic agreements.
Our portfolios continue to outperform the market through any weakness due to diversification and defensive exposures. Defensive exposures such as utilities and railroads have benefited portfolios this month due to lower market interest rates which were caused by headline fears on the coronavirus. This highlights the importance of diversification as we are content with our sector exposures at a time where market volatility is starting to increase again. We understand that volatility is normal in the market, thus, are always cognizant of managing our risk through different environments.
Over the past few weeks, we have trimmed or sold various positions to raise cash given the strong advance in the market and are sitting with approximately 10% cash in our portfolios. We believe that the market is overdue for a pullback given the strength of the move in past months and because valuations remain relatively elevated when compared to historical levels. The fears around the coronavirus may be the reason to create this pullback which we view as a buying opportunity given the positive corporate and economic outlooks.
At this time, we continue to monitor our holdings through earnings season as we had strong results from many companies this week that included CP Rail, CN Rail, Microsoft, and Amazon. We do not hold any exposures that will be materially impacted by the coronavirus that include airlines, hotels, and luxury brands. We have been wary of these areas previously due to trade concerns and have focused our efforts on North American companies in diversified industries.
We are confident that markets will eventually turn higher again as the long-term outlooks remain positive despite near-term growth concerns as the world works to figure out this virus together. Our process is to assess where market leadership is as we build up our target list of companies that we would like to buy once we believe most of the weakness has occurred. We remain patient in our approach as we remain closely tied into what is happening on a daily basis.
Chart of the Week
Last week we highlighted the strong decline in oil which was caused mainly by oversupply issues but was also affected by demand concerns due to the decreased travel created by the coronavirus. Now we would like to turn our attention to another important global commodity which is copper. Copper has been hit very hard in the past 2 weeks as the coronavirus outbreak has many worried about the effects to the global economy. Below is a 3-year chart of the important commodity which highlights this move down to the previous lows reached over this period:
Copper is an important indicator for global economic growth as it is used in construction projects and has been correlated with global markets outside of the US, notably China. Because of its widespread uses, it is a useful indicator of economic health. We believe that it will start to head higher again as it bounces off this support level and will be watching it closely. This is only one of many indicators that we use to track the health of the global economy thus are not overly concerned at this time.
Beyond the Markets
As Super Bowl LIV makes its way to television screens across the globe, many Vancouverites will tune in to watch the San Francisco 49ers go up against the Kansas City Chiefs. While there are a variety of restaurants and bars where the game can be viewed, there is nothing quite like watching the game as you chow down on homemade Super Bowl snacks in your slippers. So make sure your snacks are a hit this year by trying out some of The New York Times “Best Super Bowl Recipes.” The list features classics such as Buffalo chicken wings as well as new favourites such as zucchini pancakes. Happy Super Bowl Sunday everyone!
Listen to our latest Making Cents of the Markets segment on CKNW. We discussed the Coronavirus and what it means for your portfolio, earnings season update and Vancouver real estate.! Listen here.
Take a look here at our latest North Shore News article where we discuss how to take advantage of any tax-efficient decisions!