Market sentiment is flying around all over the place, largely driven by changing perceptions as to the shape of the economic and corporate earnings recovery. This is understandable due to the speed and scale of the contraction, the lack of precedents, the timescale for any vaccine, the speed and success of the easing of lockdowns and the impact of existing and new policy responses, to mention just a few unknowns.
However, we at least got some visibility last week as to the speed and scale of the contraction in the world’s largest economy. The graph below shows US industrial production and US retail sales for April (month-on-month, % change). The US industrial production series, whilst not the most glamorous, with a predominance of ‘old economy’ sectors, and covering a shrinking part of the economy, does have the advantage of going all the way back to 1919. Looking at this data, not only was April’s industrial production contraction worse than the Global Financial Crisis, it was worse than anything going back to 1919, including the Great Depression.
It was a similar story with US retail sales, a data release followed closely because it provides insight into the US consumer, which typically drives two thirds of the US economy. The series ‘only’ goes back to 1992 but shows that April’s contraction was worse than the Global Financial Crisis (though, not surprisingly, on-line sales for the month were a positive sub-set) and, again, worse than anything on record.
Some recent US activity has been the worst on record
Source: Bloomberg, 31.03.19 – 30.04.20 for US industrial production and 31.03.92 – 30.04.20 for US retail sales.
So, along with the US unemployment figures for April, which stood at 15% (up from 4% the previous month) an increasing number of the economic jigsaw pieces are falling into place. However, whilst very helpful in gauging the speed and scale of the contraction, these data series are somewhat backward looking. What about the timing of any recovery?
Well, as a starting point, we can look at a number of high frequency data points, for example, from some of the big tech companies which act as a good proxy for economic activity, such as traffic, median daily distance travelled, restaurant bookings etc. and, for example, in Europe these are showing some signs of picking up. That’s all very well but what can we say about the future? Our general approach is to say very little about the future, as economic forecasting has a very patchy record of assisting long term outperformance.
However, we can observe that whilst a number of major economies are showing better prospects, through reduction in the growth of Covid-19 and, by implication, easings of lockdowns and better economic prospects, we think travel restrictions and social distancing will act as a notable lag on any rebound. In addition, not all major economies are making such progress. Take Brazil, whose growth in Covid-19 deaths reflect a chaotic government response.
So, until recently, we had the longest US economic expansion (going back to 1854) and now, for one of the very few data releases that go back far enough, April was the worst industrial contraction for 100 years. Going forward, assuming the easing of lockdowns continue as they are doing, there is good reason to believe that some of these US data series will soon be marking their lows.
What remains unclear is the degree to which economies recover and, of specific interest for us, how financial markets respond. Gauging this type of effect has been particularly hard since 2007, as deteriorating fundamentals have often been met by market-lifting central bank liquidity.
As a result, we think it unwise to position our funds for such binary outcomes and we believe that as markets struggle to price the recovery, so volatility will remain elevated. Instead, we continue to emphasise exposure to longer term themes such as the digital economy, renewable energy, robotics and infrastructure, as well as balancing these equity positions with a significant gold position and some exposure to US Treasuries. The liquidity of these positions remains very high, which allows us to adjust portfolio positioning as and when new trends start to emerge.
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